CVB Financial's (CVBF) CEO Chris Myers on Q3 2016 Results - Earnings Call Transcript

| About: CVB Financial (CVBF)

CVB Financial Corporation. (NASDAQ:CVBF)

Q3 2016 Results Earnings Conference Call

October 20, 2016, 10:30 AM ET

Executives

Christina Carrabino - Investor Relations

Chris Myers - President and Chief Executive Officer

Allen Nicholson - Executive Vice President and Chief Financial Officer

Analysts

Matthew Clark - Piper Jaffray

Aaron Deer - Sandler O'Neill

Brian Zabora - Hovde Group

Gary Tenner - D.A. Davidson.

Tim Coffey - FIG Partners

Operator

Good morning, ladies and gentlemen and welcome to the Third Quarter 2016 CVB Financial Corp and its subsidiary, Citizens Business Bank, Earnings Conference Call. My name is Mike and I'm your operator for today. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer period. Please also note, this event is being recorded.

I would now like to turn the presentation over to your host for today's call, Ms. Christina Carrabino. Ms. Carrabino, the floor is yours ma'am.

Christina Carrabino

Thank you, Mike and good morning everyone. Thank you for joining us today to review our financial results for the third quarter of 2016. Joining me this morning are Chris Myers, President and Chief Executive Officer and Allen Nicholson, Executive Vice President and Chief Financial Officer. Our comments today will refer to the financial information that was included in the earnings announcement released yesterday. To obtain a copy, please visit our website at www.cbbank.com and click on the Investors' tab.

Before we get started, let me remind you that today's conference call will include some forward-looking statements. These forward-looking statements relate to, among other things, current plans, expectations, events and industry trends that may affect the Company's future operating results and financial position. Such statements involve risks and uncertainties, and future activities and results may differ materially from these expectations.

The speakers on this call claim the protection of the Safe Harbor provisions contained in the Private Securities Litigation Reform Act of 1995. For a more complete discussion of the risks and uncertainties that may cause actual results to differ materially from our forward-looking statements, please see the Company's Annual Report on Form 10-K for the year ended December 31, 2015, and in particular, the information set forth in Item 1A, risk factors therein.

Now, I will turn the call over to Chris Myers.

Chris Myers

Thank you, Christina. Good morning everyone and thank you for joining us again this quarter. Yesterday, we reported net earnings of $25.4 million for the third quarter compared with $25.5 million for the second quarter of 2016 and $27.9 million for the year ago quarter. Earnings per share were $0.23 for the third quarter unchanged from the prior quarter. Earnings for the third quarter of 2015 were $0.26 per share.

Earnings for the third quarter of 2016 were positively impacted by a $2 million loan loss reserve we capture as we had approximately $2.1 million in recoveries. Non-recovering items of note for the third quarter included a $550,000 gain on the sale of an investment security and $350,000 of merger related expenses.

On September 22, we announced that we entered into a merger agreement with Valley Commerce Bancorp pursuing to which Valley Business Bank will merge into Citizens Business Bank. We are excited about this acquisition as Valley Business Bank with approximately $416 million in assets is a strong community bank with four branch locations in the lower Central Valley area of California. This acquisition meets all of the strategic attributes we look for in a transaction.

Geographically it strengthens our footprint in the Central Valley. Valley Business Bank has been a strong community bank for over 20 years with a strong core deposit base and good credit quality. There are opportunities for us to add value to their customers by offering wealth management trust services, more sophisticated treasury management products and services, expertise in agro business lending and an overall higher legal lending limit.

And we expect the transaction to be modestly accretive to earnings and slightly dilutive to tangible book value to close. With a tangible book value earned back within three years.

The acquisition is expected to close in the first quarter of 2017 and we expect the systems conversion will be completed in the second quarter of 2017. This acquisition should not preclude us from pursuing other potential acquisitions. Through the first nine months of 2016, we earned $74.4 million compared with $70.5 million for the first nine months of 2015.

Diluted earnings per share was $0.69 for the nine months period ended September 30, 2016 compared with $0.66 for the same period in 2015.

The third quarter represented our 158th consecutive quarter of profitability and 108th consecutive quarter of paying a cash dividend to our shareholders.

Our tax equivalent net interest margin was 3.30% for the third quarter compared with 3.57% for the second quarter and 3.72% for the year ago quarter.

The second quarter was positively impacted by the recapture of non-accrued interest from the three TDR loans. When this recapture is excluded, the tax equivalent net interest margin was 3.45% in the second quarter.

So, from an apples-to-apples perspective, the third quarter over second quarter declined in net interest margin from 3.45% to 3.30% can be attributed to the following. Loan pricing pressure continued to be a factor related to loan retention. Simply put, we replaced some loans to retain them, no different than we have been doing for the past few years.

Prepayment penalties declined from $1.1 million to $800,000 quarter-over-quarter. The impact of loan repricing and lower prepayment penalties combined for about a 12 point decline in loan yields and an approximate 7 point decline in the net interest margin.

A six basis point decline in our tax equivalent investment yield contribute to an additional two point decline in the net interest margin. The remaining six point decline in the net interest margin was due to a higher concentration in cash balances.

Total loans were $4.3 billion at the end of the third quarter. Loan origination remains strong and continues to be ahead of last year's pace, loans grew by $57 million or at an annualized rate of 5.4% from the end of the second quarter.

This is slightly below our 8% organic growth goal. The quarter-over-quarter increase was principally due to increases of approximately $26.9 million in commercial real estate loans, $15.1 million in commercial and industrial loans, and $25.4 million in dairy & livestock and agribusiness loans.

From the year-over-year perspective net loans increased $473 million or 12.4%. Organic loan growth accounted for $314 million of the growth or 8%, while County Commerce Bank loans accounted for $159 million of loan growth or about 4%. The low interest rate environment and competitive pricing pressures continue to impact both loan retention and loan yields – excuse me during the third quarter.

Excluding recaptured interest on non-accrual loans, our loan yields were 4.41% in the third quarter, compared to 4.53% in the second quarter and 4.71% for the third quarter of 2015.

Loan repricing has been a consistent theme over the past few years. The allowance for loan and lease losses were $61 million or 1.42% of total loans at September 30th 2016 compared with $60.9 million or 1.44% of total loans at June 30, 2016.

Net recoveries on loans for the third quarter were $2.1 million. In terms of loan quality, nonperforming assets defined as nonaccrual loans plus OREO, Other Real Estate Owned were $13.5 million at the end of the third quarter down from $23.5 million for the prior quarter primarily due to a large participation in a share national credit that converted from nonaccrual to accrual during the third quarter.

At September 30, 2016, we had loans delinquent 30 to 89 days of only $522,000. Classified loans for the third quarter were $105 million an $8 million increase from the prior quarter. We will have more detailed information on classified loans available in our third quarter Form 10-Q.

Now I would like to discuss deposits. For the third quarter of 2016, our non-interest bearing deposits totaled $3.66 billion compared with $3.67 billion for the prior quarter and $3.3 billion for the year ago quarter. This represents a $9 million decrease quarter-over-quarter and a $353 million increase or 11% year-over-year. The ending balance at September 30, 2016, included a $147 million deposits from one customer that declined by $63 million from the end of the second quarter. This deposit will continue to decline throughout the remainder of the year and into 2017.

Average non-interest bearing deposits were $3.72 billion for the third quarter of 2016 compared with $3.44 billion for the prior quarter, an increase of 8%. Non-interest bearing deposits represented 58% of our total deposits at quarter end.

Our total cost of deposits and customer repurchase agreements for the third quarter was 10 basis points, compared with 11 basis points for the prior quarter. At September 30, 2016, our total deposits and customer repurchase agreements were $6.9 billion compared with $6.57 billion for the same period a year ago and $7.18 billion at June 30, 2016.

Average total deposits and customer repurchase agreements were $7.1 billion for the third quarter of 2016 compared up $195 million in the prior quarter and $510 million higher than the third quarter of 2015. We continue to focus on maintaining a low cost stable source of funding for our loans and securities, as part of that focus we had approximately $240 million of time deposits from the State of California mature and not renewed during the quarter.

We consider these deposits interest rate sensitive and elected not to renew the time deposits as they mature. This was our choice.

Interest income. Interest income for the third quarter of 2016 totaled $65.2 million compared with $68 million for the prior quarter and $67.7 million for the same period a year ago. Excluding interest recaptured on non-accrual loans, interest income for the second quarter of 2016 and third quarter of 2015 was $65.4 million and $64.9 million respectively.

Lower levels of prepayment penalty income also impacted the quarter as prepayment penalties declined by approximately $300,000 from the prior quarter and $1.1 million from the same quarter last year.

Non-interest income was $9.2 million for the third quarter of 2016 compared with $9.3 million for the prior quarter.

Now, expenses. Non-interest expense for the third quarter was $33 million compared with $34.4 million for the prior quarter; the decrease was generally split between temporary and non-recurring expense items between the two quarters and seasonality of certain expenses.

Non-interest expense was 1.59% of average assets for the third quarter compared with 1.73% for the second quarter. Now I would like to turn the call over to Allen Nicholson, our CFO to discuss our effective tax rate, investment portfolio and overall capital positions. Allen.

Allen Nicholson

Thanks Chris. Good morning everyone. Our effective tax rate was 38.4% for the third quarter bringing our full-year effective tax rate to 37.5%. In comparison, our year-to-date effective tax rate was 36% for the same period a year ago. Our effective tax rate varies depending upon tax advantage income as well as available tax credits. The Increase in the effective tax rate was impacted by the continued decline in tax-exempt municipal bond interest income.

Looking to our investment portfolio, during the third quarter of 2016 our average interest earning balances at other financial institutions and at the Federal Reserve totaled $553 million. This represents an approximate increase of $172 million over the prior quarter. At quarter end, these balances totaled $223 million.

During the third quarter, these balances represented approximately 7% of our average earning assets which compares to 5% in the prior quarter.

At September 30, 2016 our combined available-for-sale and held-to-maturity investment securities totaled $3.11 billion increasing $134 million or 4.5% from the second quarter of 2016. Investment securities represented 38.6% of our total assets at quarter end and were 38% of our average earning assets during the third quarter, down from 39% in the prior quarter.

At quarter end, investment securities available-for-sale totaled $2.23 billion including a pre-tax unrealized gain of $62 million. In addition, we had held-to-maturity investment securities totaling $879 million. We continue to be selective in investing in securities in the current interest rate environment carefully weighing market rates and overall pricing duration risks.

During the third quarter, we purchased $40 million in municipal bonds with an average tax equivalent yield of approximately 3.3%. In the current environment, there is a limited supply of municipal bonds that meet our investment criteria.

During the quarter, we purchased MBS and CMO Securities totaling $331 million with an average expected yield of about 2.02% and an average expected life of approximately four years. We also purchased some SBA Securities totaling $26 with an average expected yield of 2.04% and an average expected duration of approximately six years.

In total, the $371 million in security purchases are expected to have a 2.0% tax equivalent yield. Prepayment speeds in our mortgage-backed investment portfolio have increased in recent months. Based upon the current interest rate environment, we presently projecting approximately $160 million to $170 million in quarterly cash flow from our portfolio, including calls on municipal bonds.

Now turning to our capital position. We continue to look at many different opportunities to deploy our capital liquidity. In August, we announced that our board of directors authorised an increase in our common stock repurchase program. The boards authorisation increases the number of available for repurchase to 10 million shares or approximately 9.3% for the outstanding shares.

We did not purchase any common stock during the third quarter. For the nine months ended September 30, 2016 shareholders' equity increased by $79.9 million to $1 billion. The increase was due to $74.4 million in net earnings, $21.6 million for the issuance of common stock for the acquisition of County Commerce Bank, a $17.7 million net increase in unrealized gain on available-for-sale securities, and approximately $5.1 million of various stock-based compensation items. This was offset by $38.9 million in cash dividends.

I will now turn the call back to Chris for some closing remarks.

Chris Myers

Thank you Allen. Before I discuss economic conditions, I would like to point out something that may seem trivial to many of our institutional [ph] investors at this point, but it’s important to note.

In 2010, a class action security law suit was filed naming the bank as defendant. Over the next five years, this case was dismissed several times in Federal court and was most recently appealed by the appealed by the plaintiff 9th [ph] circuit.

We are pleased to announce that on September 28, 2016 we signed a memorandum of understanding with the plaintiffs that would resolve our class action security litigation case. The resolution is subject to final court approval but it would be funded solely with insurance proceeds and would involve no admission of liability by the company whatsoever.

It would be nice to put this matter behind us finally. Now let’s talk about economic conditions. In terms of the California drought, we continue to see little effect on the repayment of our customer’s loans, long term issues related to the drought remain a concern, we still see what winter brings in terms of snow pack [Ph] and rain.

Turning to the California economy, according to various economic reports, California’s unemployment rate remains unchanged at 5.5% in August 2016 compared with 5.5% in July and 6% back in August 2015.

Over the past year non-farming employment in the state extended 2.3% compared with a 1.7% nationwide. California’s economy has maintained a steady course and is on-track for the fifth consecutive year of economic growth, job creation and lower unemployment. Nearly every major industry added jobs in the first several months of the year while business activity increased and wages advanced modestly.

The California housing market continues to move forward, thanks to low mortgage rates dealing with sales. The supply of existing homes increased but remains lean and the new home construction continues to proceed at a modest pace.

In terms of the dairy industry, the forecast for the remainder of this year remains challenging but the outlook for 2017 appears to be on the upswing. The majority of industry analyst predict a steady rise in global dairy trade and demand from countries such as China and in Southeast Asia for the next decade due to population growth and rising income in developing nations.

In closing, as we are pleased with the execution of our strategy and feel we are well positioned for continued success. We are excited about our merger with Valley Business Bank and look forward to welcoming their customers, associates and shareholders.

We remain focused on our growth initiatives and will continue to pursue a strategic acquisition to help us increase our market share in California geographic presence.

And that concludes today's presentation. Now Allen and I will be happy to take any questions that you might have.

Question-and-Answer Session

Operator

Thank you, sir. We will now begin the question-and-answer Session [Operator Instructions] The first question we have comes from Matthew Clark of Piper Jaffray. Please go ahead.

Matthew Clark

Hey good morning.

Chris Myers

Good morning.

Matthew Clark

Can we just start on the replacing that you guys saw on the quarter on the loan front and just curious you know the magnitude of you know customers in terms of dollars that you guys reprice this quarter, what you probably reprice them too and I guess what your outlook is for more of that activity going forward?

Chris Myers

Yeah it really wasn’t that much different than any other quarter. And just I wanted to highlight that prepayment pressure continues to happen. In general the yield on our portfolio right now on our loan portfolio is, I want to say it’s 4.41% for the quarter. The average loan we are putting on the books right now is around 4%. And the yield on our security portfolio for the third quarter was 2.38% the average yield and the average security we’re putting on the books for the third quarter was 2.07%. So you are looking at 30 basis points on the security side and 40 basis points on the loan side, quarter after quarter that will continue in this interest rate environment.

Now a little of that encouragement – you know we bought a lot of securities at the end of the quarter for the third quarter, so that’s going to help us a little bit in the fourth quarter because we add most of our cash balances are higher cash balances towards the early part of the quarter and then we push those cash balances down at the end of the third quarter as we exited those CDs we talked about from the funding perspective and we put the other access cash to work with securities. So, I think that’s going to help our margin in the fourth quarter. We also -- I want to mention that in terms of margin, the TDR, the non-performing asset, the large loan that was a Shared National Credit, that went from non-performing TDR to performing TDR at the end of the quarter. But we had no financial benefit for that in the third quarter.

The financial benefit of that will be felt over the next eight quarters. That loan matures two years from now as long as the loan continues to perform. So, we should have a good, if you will recovery or interest income on that over the next eight quarters, which will help our net interest margins.

So, I think overall, I think the loans repricing is kind of business as usual. Prepayment penalties were slightly backward. They were down by $300,000 for the quarter. That’s a good indicator of how much we are doing in terms of repricing. And I was a little surprised the net interest margin got to $330,000 as well, but we really didn’t have any windfalls in the quarter at all to help us on the net interest margin. This was kind of a barebones for us at least at this time quarter in terms of the margin.

Matthew Clark

Great. Great color. No, it was good. And just on the increasing classified, I think it was roughly $8 million coming from the dairy & livestock and cattle and beef prices are down pretty dramatically more recently. I’m just curios what you are seeing, what your farmers are saying and whether or not we could see this migration continue or not?

Chris Myers

Yeah. I think the word is that the first six months of 2015 were not good -- 2016, I’m not sorry, moving in the past. 2016, we are not good. We see some improvement in the latter half of this year and feel like in the 2017 it’s going to get better. Our dairies despite the fact that we’ve had some downgrades in our diary portfolio, for most of our diaries they still have lending capacity. This is like asset-based lending. So the value of the herd and the value of the feeds still has lending capacity in there with us.

So, we are not in any kind of panic mode. We have increased our reserves in the portfolio but we are watching it closely. But again in the total history of our bank over the 20 -- we really started diary lending in 1993, so let’s call it 23 years. The total charge-offs in the diary industry are around $6 million, little over $6 million net charge-offs over that entire period of time. So, we feel we have a good handle on this. We are trying to be proactive and with all of our dairies looking at all the factors and make sure that we are properly reserved.

Matthew Clark

Got it. And just one last one on capital management and share repurchase that you have authorized. I know you didn’t buyback any stock this quarter but just curios how active you might get with that program?

Chris Myers

We put that in place in the -- I think a lot -- in general I don’t want to get into specifics but in general when we were trading at two times tangible booking above, we are less inclined to repurchase shares because we feel like we can buy banks at one and a half times of tangible book and that makes sense for us to deploy our capital in that way.

However, if our stock were to trade down, we have the optionality to go ahead and repurchase stock, which then gets closer to where we would buy another bank. So that’s kind of where we are. We have excess capital. We know we need to deploy that. Our number one preference is to do that through organic loan growth. Our number two preference is to do that through acquisitions and number three would be to look at buying back stock.

Matthew Clark

Got it. Thank you.

Operator

Next, we have Aaron Deer with Sandler O'Neill.

Aaron Deer

Hi. Good morning, guys. First, to start maybe it looks like you are already starting to see little bit of ramp in the ag book, what’s your expectation for borrowings here in the first quarter much of your dairy farmers, maybe what’s kind of your outlook for loan growth generally?

Chris Myers

Yeah. I -- and I’m going to give you guesstimates, so don’t hold me to this but this is just based on conversations with the way it feels with the head of our diary. I met with him last week. Last year, we had about $85 million run-up in seasonal dairy loans ish, $85 million and that really started a little bit in the third quarter but was mostly felt in the fourth quarter.

This year, we feel that run-up is going to be about $60 million and it started a little bit in the third quarter but most of it is going to be felt in the fourth quarter too. So that’s kind of where we are and that’s just the guesstimate. So don't hold me to it. It’s just based on the fact that the dairies haven’t been as profitable this year. But there still is going to be some deferral based on their cash basis accounting status, which is they like to expense everything at the end of the year and deferred taxes to the extent they can.

Aaron Deer

Right. And generally for the loan outlook?

Chris Myers

Yeah. I think we are still -- again, our organic growth target is 8%. We were at a run rate of around 5.5% this quarter, so we are little behind that. Pipeline is good. It’s not great. It’s good. We are running ahead of where we were last year in loans and I expect we will finish the year ahead of what we did last year in loans and last year was our record organic loan growth year. So, I feel good about it. I don’t feel great about it.

Aaron Deer

Okay. And then Allen, maybe you can help gives us some color on expectations for some of the margin effects. Obviously, some of the excess liquidity that was on the balance sheet during the quarter weighed on the margin to some extent. As some of that gets deployed during the fourth quarter, what kind of rebound might we get in terms of a basis point impact on the margin and also with this loan that’s been pulled back to performance status, how might that affect it?

Allen Nicholson

Well, I think, Chris first of all pointed out what the impact was in the prior quarters. So, I think you can get some estimate about that for going forward, as we try to bring this down into the south of 5% of earning assets. A year ago it was about 4%. So, I think we’d like to be somewhere closer to that as percentage of earning assets that are in cash. And we certainly do have some positive headwinds around that one particular loan but we’ve got securities. They are going to be coming off as I mentioned, $160 million, $170 million coming back. Those come back at about a yield of about $220 million.

We can reinvest if rates stay where they are right now, little bit north of $2 million. So that’s a headwind and certainly on the loan portfolio, Chris already pointed that out so. We had a very base I would say quarter at $330 million, no unusual items. If we continue to have a base next quarter, I think we will probably going to be somewhere in a couple of basis points up or down.

Aaron Deer

Okay. Thanks. I will get back into the queue. Thanks, guys.

Operator

Next, we have Jackie Bone [ph] of KBW.

Unidentified Analyst

Yes. Good morning.

Chris Myers

Good morning, Jackie.

Unidentified Analyst

I wondered you had mentioned in the prepared remarks about temporary and non-recurring items in expenses. I just wanted to see, I know some of that was in 2Q but if there were anything noticeable in 3Q and kind of what you think about the run rate going forward?

Chris Myers

On the expense side there is a little choppiness going on because we have acquisitions going on. We did the County Commerce Bank acquisition. Now, we’ve entered into the Valley

Business Bank acquisition so we had some expenses in there. There are some legal expenses that we’ve had that’s been alleviated a little bit. I think they are going to moderate through the -- probably moderate more in the first quarter of 2017 than in the fourth quarter of 2016. But I think those are going to -- they are going to -- that’s a good sign because we’ve got -- we are working through some of that. So the expense side, I think is still going to be alleviated a little bit from where I would like it to be, but a lot of that has to do with some of the things we are doing like the Valley Business Bank acquisition and we are moving our operations center.

We bought a new building that we are going to close here in the fourth quarter. We are excited about that, that’s going to give us some more efficiencies ultimately. But temporarily, we will incur some expenses while we are doing the move and things like that. So, I feel good about our efficiency and our ability to manage those expenses. But I do think there is a transitional period probably going on in the next couple quarters while we are doing all those acquisition and the move in the building and so forth that make cause a little choppiness there.

Unidentified Analyst

Okay. And the moving into the new building, does that provide once you get through the one-time costs and everything associated with that, will that -- is it more a move for ease, or is it more a move to drive efficiency?

Chris Myers

Yes. It is really a move out of expansion. We were kind of impacted to the gills and our operations and technology building where we are. So, I think the whole team over there is really excited about getting a bigger building. And the bigger building is going to provide us more efficiencies ultimately once we get through it and I think we will be cost neutral probably within -- Allen, what do you think, nine months?

Allen Nicholson

9 to 12 months. Yeah.

Chris Myers

9 to 12 months, we will be cost neutral from where we were before to where we are. We are just going to have some transitional expenses getting over there.

Unidentified Analyst

Okay. And I would guess a lot of that will probably be mixed in with acquisition costs and everything else. So it sounds like expenses will be a little choppy over the next several months, couple of quarters and then kind of smooth out once you’ve got the cost saves from your acquisition in there?

Chris Myers

Yes. I agree with that. And one thing I want to mention about the acquisition before I forget is that we are about 62% or something like that loan to deposit ratio and Valley Business Bank is at 82%, 83% loan to deposit ratio, somewhere in that area. So that’s a good thing because we are going to be -- their average loan yield is higher than ours. We are going to be funding those with their deposits and if they have any impure deposits that we don't like we can fund those from our deposits.

So, I think that’s some of the synergy that we get with the merger like that bank. And one of the attractiveness -- the actual parts about Valley Business Bank is they did have higher loan to deposit ratio than we did. We just had to make sure that we felt comfortable with those loans and we did substantial due diligence and do feel comfortable with our loan portfolio.

Unidentified Analyst

Okay. Thanks, Chris. That’s great added color.

Operator

Next, we have Brian Zabora, Hovde Group.

Brian Zabora

Thanks. Good morning.

Chris Myers

Good morning, Brian.

Brian Zabora

Question on -- you mentioned the loan pipeline you thought was good, not great. With the liquidity you have, you mentioned the possibility of purchasing loans last quarter, is that a greater possibility, are you looking at packages and just your thoughts around that?

Chris Myers

Yeah. We had some bigger buying out few months ago and we are looking at that and we were kind of excited to try to do that. But we went through and looked at some of these packages and so forth and we were not as enthusiastic as we were few months ago because we just can’t find the right fit and again, we are very disciplined about what we are trying to build in this bank.

And I think you’ve seen from other banks, there's been some credit things coming through this quarter, haven’t seen that for a long time but we are starting to see some of that stuff. And one of the -- I think the great things about this bank, albeit sometimes boring is that we stick to what we know how to do and lot of times we get through due diligence and looking at this portfolios, we go, yeah we wouldn’t have done it that way. We wouldn’t have done it that way. And so we just can get our arms around and get comfortable with it.

So, I think we are going to continue to look at that but I'm just not as optimistic as I was few months ago that we are going to be able to get anything done there because it's really got to make a lot of sense for us. And I think we just put our heads down, keep building out the teams, keep growing organically and we are going to get together on the loan to deposit ratio. It’s just not going to be in the next quarter. It’s going to take us slowly but surely and we are going to keep building that.

And one of the great things, I think we were doing right now is we are really looking at the efficiency on our deposits too. We are trying to get away from any deposits that we think are overly interest rate sensitive, or non-relationship deposits and that was part of that. We exited those base CDs because those are transactional deposits. They would cost us about 33 basis points.

We would have taken that money, put it in the overnight fed funds at 50 basis points. But there is no relationship there. So the bottom line is if we want to go back and get those deposits because we have this tremendous loan growth, well we can go get them. So there is no reason to carry it on our books and just get ourselves closer to $10 billion in assets artificially. We want to make sure when we go over $10 billion in assets, our earning assets are as efficient and impure as possible, not a bunch of overnight cash sitting on our balance sheet.

Brian Zabora

That makes sense. And then just you kind of mentioned teams you are hiring, are you looking at adding additional teams and did you make any additions during the quarter?

Chris Myers

Yeah. We are closing a couple things right now but I don't have anything to announce. So, we are working on two teams right now. So that’s definitely a part of who we are and what we are doing and we will keep you guys posted when we can say. I do want to say this. The teams we have brought in are all now operating properly. I mentioned that last quarter in San Diego and up in the Central Cost is doing well. Our downtown L.A. office is doing well, so all of them are. It’s not exponential growth but it’s just plotting growth and they are getting bigger and they are getting more traction into each of those office. So it’s great. It’s like if we can do this organically, it’s almost like buying a bank without having to pay for a bank you just pay for the people.

Brian Zabora

That’s great. Well, thanks for taking my questions.

Operator

Gary Tenner, D.A. Davidson.

Gary Tenner

Morning.

Chris Myers

Morning, Gary.

Gary Tenner

I wanted to ask regarding the County Commerce acquisition, a couple quarters out from that now. What have you seen in terms of loan balances at that franchise? I think there were 158 you had mentioned when the deal was closed. Have you got any benefit from the larger lending capacity, have you seen run-off in the portfolio, what’s the kind of update there?

Chris Myers

Yeah. Overall, we are up from where we were when we purchased it, so that’s good. We have seen some benefit. We are gaining more and more traction. We have some good talented people there. They are getting acclimated to the Citizens Business Bank way. So, I think the integration has gone very well in that.

The proof is going to be in that region, which we will report as we go along how the loans and deposits grow quarter after quarter, time after time and we have some good people up in that area. We have good leadership in that area. So, I’m excited about that. I think it was everything we thought it would be and I think Joe Kreutz ran a good bank there.

And I will say that I’m as pleased as I expect it to be and so. I think we are doing some good things there. So, I'm optimistic about it. But again, it’s not exponential growth as we have new teams in there who are just plotting away. We are cross-selling. We are doing all the things we knew. We are educating clients. That takes time. But that’s a great market for us.

Gary Tenner

Great. Thanks, Chris.

Operator

The next question we have will come from Tim Coffey, FIG Partners.

Tim Coffey

Thanks. Good morning, Chris. Good morning, Allen.

Chris Myers

Hey Tim.

Allen Nicholson

Good morning.

Tim Coffey

First question, I guess for Chris is the structure of the Valley Commerce transaction and the kind of special dividend that you are allowing them to pay, has that generated any additional costs to you from similarly overcapitalized banks?

Chris Myers

I don't know specifically that that structure triggered any costs. But we do have banks that reach out to us from time to time and we do have discussions with them. I think that -- I like that structure because we have a small bank that’s overcapitalized. We don’t need their capital. We don’t need their excess capital. We like their base capital. We kind of like that 8% capitals and then anything above that we consider somewhat excess capital, especially with our capital levels.

So that’s exactly what we did. We said we are not going to pay in multiple on excess capital but we will pay a fair multiple for the nice earning bank that you have had and that’s kind of how we worked it out. So, I think it was kind of win-win for both of us and part of -- we are allowing them to do that special dividend. They want to try to get the right tax treatment on there for their shareholders so they can treat that, I think as more of a long-term capital gain. Is that right, Allen?

Allen Nicholson

Yes.

Chris Myers

So they can treat as a long-term capital gain. So that's why the acquisition is going to close in February and probably not January. So that’s an extra month for them to somehow get that treatment. I’m not sure exactly how that works but that was the gist of the whole thing. I think it was accretive structure that was a win-win.

Tim Coffey

So, you’ve been trying to use that structure again.

Chris Myers

Absolutely, if they have excess capital.

Tim Coffey

Okay. And then you always steal a bit of my thunder. But taking about the banks in your market that are starting to see credit blips, from where you sit do you see any similarities or kind of explanatory variable on what’s happening?

Chris Myers

Yeah. I said this for the last few quarters, credit isn’t perfect right now. There is a little choppiness going on. We feel like we are in a good position but I do think that one of things that we focus on in our company and our Executive Team talks a lot about is are we the subject matter experts in what we are doing? Are we right people to know this market what we are lending into and this product type that we are lending into? And in the type of businesses, we are not a technology -- we are not a technology bank. We don’t bank a lot of high tech companies, so we don’t lend in that area. We are not the subject matter experts on entertainment lending and so we don’t lend in that area.

So, we stick to where we feel we have good expertise and it develops good expertise over the years. And we have to expand that as we go along, but we have to be careful how to expand that. One of the areas we are looking now is more medical practices, veterinarians and doctors and so forth. But as we go and as we lend into those areas, we are being very careful about how we think about that and how we expand our lending into that areas because we don't want to get pounded by a learning curve of things we don't know that cause bad credit problems.

And I think in the spirit of people trying to grow fast in a good economy, they get over exuberant about these things and sometimes they grow faster than they should. And that’s why I said our target loan growth is -- this is not a great economy. It’s a fair to good economy, right. It’s not a great economy. One 1 to 10, it’s a 6.5. And so we shouldn’t be lending like it’s a 10. We should be lending like it’s a 6.5 and trying to take market share from our clients and that’s what we are doing.

Tim Coffey

Good. Thanks. Those were my questions.

Operator

[Operator Instructions] At this time, we have a follow-up from Aaron Deer, Sandler O'Neill.

Aaron Deer

Hey guys. Just a couple of clean-up questions and pardon me if this was addressed and I missed it. In expense categories, the compensation line was down. Was there a true-up in the bonus accrual or just a good run rate going forward?

Chris Myers

There wasn’t a true-up in the bonus accrual. There was some noise there. We did probably have, what I would characterize is about $400,000 in the prior quarter that was very temporary in nature but it wasn’t bonus related. And generally, I think as we transition to County Commerce in the quarter there, in the prior quarter there were all sorts of probably some expense, comparable lower expenses in the third quarter from that but nothing really. If there was anything directional we would let you know. But I really can’t comment beyond that.

Aaron Deer

Okay. And then how about in the other operating expense line, that was down like $0.5 million or something in the quarter, anything behind that?

Chris Myers

A lot of -- I would say smaller items. Some expenses related to software, communication are sometimes one-time in nature. But I wouldn’t call non-recurring. Some of that is just timing of certain expenses that happened, so once again nothing directional.

Aaron Deer

Okay. Very good.

Chris Myers

There is going to be some choppiness. There has been some choppiness in the next couple quarters and there was going to be some choppiness in the next several quarters. But I think that we are watching the expenses very closely. We are thinking carefully about it and we are trying to streamline as much as we can to position ourselves to consistently achieve that 45 percentage efficiency ratio.

Aaron Deer

Yeah. And are you guys --

Chris Myers

I think that’s achievable but there may not be a quarter here where we bump up the 48 or 47, as we are going through like the building where we had -- we had some true-up on our medical benefit expenses that we had to have. There was workers’ comp true-up and that’s what I was thinking. And so there is just little things there that are going to hit you little bit here and there but nothing of any -- we don’t see anything of any great magnitude that’s going to at least that’s foreseeable at this point.

Aaron Deer

Sure. No, I appreciate the follow-up. Thank you.

Operator

Next, we have Matthew Clark, Piper Jaffray.

Matthew Clark

Yeah. Hi. Couple of quick ones too for me. Just on the tax rate that’s been drifting a little higher of late, I just wanted to make sure that we touch on early assumption going forward here?

Chris Myers

Well, we do a full year forecast of our taxable income and what that effective tax rate is. And as you we saw, we bumped it up little bit. We were assuming it will probably be about 37%. It grew to 37.5%. Some of the things that can happen can cause that to change is we generally don’t forecast provision recapture sort of that’s fully taxable. So that can create some noise. But our best estimate right now is 37.5%. If we have some wins in the fourth quarter it could grow slightly.

Allen Nicholson

And then on the tax rate, it was 38.44% for the third quarter because we had do a little catching up, right.

Chris Myers

Correct.

Allen Nicholson

So, we would guesstimate again that the fourth quarter will be in the 37.5% from a modeling standpoint. Actually, Allen and I have a little bet on that but that’s another story.

Chris Myers

We can’t disclose to you.

Matthew Clark

And then just one on the recoveries, I think a couple of quarters ago we talked about you having some visibility on some larger recoveries coming through. Just want to see if you had thought there was some more left here at least in the fourth quarter of size?

Chris Myers

Yeah. I think we have -- my guess is very close to this, is that we’ve got another three or four quarters of recoveries that will have at times more substance than the other. But I would expect that we will continue to have knocked on wood I hope unless there is a surprise in the credit side. Positives, we will have net recoveries over the next few quarters in aggregate. And we do have some things in the pipeline to recover and we are working due diligently to get after them before the next recession hits. Anyways, yeah, it is still positive but I think that we are in the early part of fourth quarter in terms of football analogy, in terms of our recoveries. But we still got some more to run here for the next few quarters.

Matthew Clark

Got it. Thank you.

Chris Myers

Hopefully that answered your questions.

Matthew Clark

Yeah.

Operator

[Operator Instructions] Again we will just pause momentarily to sum our roster.

Well at this time there appears to be no further questions. So I would like to turn the conference call back over to Mr. Myers for any closing remarks. Sir.

Chris Myers

Thank you and to all our shareholders we appreciate your interest and look forward to speaking with you again on our fourth quarter and year ended 2016 earnings conference call in January. In the meantime, feel free to contact me or Allen Nicholson our CFO. Have a great day and thank you very much for listening. Take care.

Operator

And we thank you sir to the rest of the management team for your time also today. The conference call has now concluded. At this time you may disconnect your lines. Again, we thank you all for participating. Take care, and have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!