Webster Financial's (WBS) CEO James Smith on Q3 2016 Results - Earnings Call Transcript

| About: Webster Financial (WBS)

Webster Financial Corporation (NYSE:WBS)

Q3 2016 Results Earnings Conference Call

October 21, 2016 09:00 AM ET

Executives

James Smith - Chairman and Chief Executive Officer

Glenn MacInnes - EVP and Chief Financial Officer

Joseph Savage - Executive Vice Chairman

John Ciulla - President

Chad Wilkins - HSA Bank Head

Analysts

Steven Alexopoulos - JPMorgan

Jared Shaw - Wells Fargo

Collyn Gilbert - KBW

Bob Ramsey - FBR Capital Markets

Casey Haire - Jefferies

Mark Fitzgibbon - Sandler O'Neill & Partners

Ken Zerbe - Morgan Stanley

Matthew Breese - Piper Jaffray

Operator

Good morning, and welcome to Webster Financial Corporation's Third Quarter 2016 Results Conference Call. This conference is being recorded.

Also, this presentation includes forward-looking statements within the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995 with respect to Webster's financial condition, results of operations, and business and financial performance. Webster has based these forward-looking statements on current expectations and projections about future events. Actual results may differ materially from those projected in those forward-looking statements.

Additional information concerning risks, uncertainties, assumptions, and other factors that could cause actual results to materially differ from those in the forward-looking statements is contained in Webster Financial’s public filings with the Securities and Exchange Commission, including our Form 8-K containing our earnings release for the third quarter of 2016.

I will now introduce your host, Jim Smith, Chairman and CEO of Webster. Please go ahead sir.

James Smith

Thank you, Michelle, and good morning, everyone. Thanks for joining Webster's third quarter earnings call. President, John Ciulla; CFO, Glenn MacInnes, and I will review the quarter and then Executive Vice Chairman, Joe Savage; and HSA Bank Head, Chad Wilkins will join us to take questions.

Beginning on Slide 2, Q3 was another solid quarter marked by continuing strength and loan originations 7.5% year-over-year revenue growth and further improvement in our already strong credit metrics.

Total revenue grew for the 28th straight quarter year-over-year. Record net interest income was driven by the 17th straight quarter of year-over-year double digit commercial loan growth, aided by a two basis point increase in the net interest margin.

Commercial loans have grown by 14% compounded annually over that spend. Record non-interest income advanced on contributions from multiple categories including continued strength and commercial activities. Higher expenses reflect in part are continuing investment in fast growing high economic profit businesses which in turn helped push pre provision net revenue to a record $90 million.

Putting our momentum into perspective, if we exclude for a moment the near term drag from the Boston expansion which produced net expense of $4.9 million or about $0.04 a share in the quarter we would have achieved record net income, a sub 60% efficiency ratio, a return on average common equity of just under 9% and a return on average tangible common equity of just 12%, a solid quarter indeed.

I want to reiterate my strategic comments during the Barclays conference last month. We’ve got a couple of terrific differentiated businesses with strategies that have high economic profit potential, namely HSA Bank and Commercial banking. And the Boston expansion qualifies as having high EP potential as well.

We are committed to investing in these businesses when the opportunity is right, meaning now rather than trying to phase investments over the longer term in order to hit quarterly earnings targets. This will likely create some variability and period expenses, but in the intermediate term will drive our efficiency ratios sustainably lower.

HSA bank our rapidly growing highly differentiated health savings account business which provides stable long term low cost funding is a perfect example. Our commitment to aggressively grow this business has led us to increased and accelerated investments in technology, operational excellence, product development and sales in support of HSA Bank’s extraordinary potential to deliver shareholder value. As we expect that the 20% plus growth rate of recent years will continue over the planning horizon.

More specifically we’ve doubled our sales force in the past two years and will nearly double it again to blanket promising markets across the country. We’re building out a new client services team to support the growth of our large carrier and employer partners.

In January HSA Bank’s dedicate customer care center will move to 24/7 service and we are rolling out live online chat through member and employer portals to streamline the customer experience and meet their interaction preferences. We will enhance data analytics, boost our marketing investment and accelerate the product roadmap.

We’ve also stepped up the pace of the commercial banking expansion with accelerated investment in our front end systems, meaningful upgrades to the treasury and cash management systems and products, more robust and sophisticated operational support and recruitment of additional high quality bankers.

And the Boston expansion is another compelling strategic investment that will pressure the efficiency ratio for a few quarters, but will ultimately help drive it sustainably lower. Now nine months in and progressing well, we are recalibrating the initial deposit balance and net interest income projections for two reasons. One, because the fierce promotional deposit acquisition activity in the market led us in recent months to choose discretion over valour in pursuit of our deposit goals. And the other because a combination of actual versus planned deposit mix and lower for longer interest rates have resulted in lower spread income than envisioned a year ago. So while we are pleased that deposit accounts are ahead of plan, the associated balances of 160 million are running behind.

On the loan side, pipelines are growing nicely across multiple commercial and consumer categories as a result of cross business referrals. And while reiterating confidence that Boston will be a tough performing market and will deliver over $1 billion in deposit balances and more than $0.5 billion in loans over five years is originally envisioned. Our near term view is that where we originally thought we reduced Boston’s EPS drag by a penny a quarter from $0.04 today, it will probably be more like a half a penny a quarter from here.

Meanwhile other than Boston, we are diligently optimizing the lower EP Community Banking business and structurally rightsizing the private bank in order that both of these businesses can earn in access of the cost to capital.

Before I turn it over to John who will go deeper on the quarter’s results, I want to comment on Webster’s sales practices given recent industry developments. As you would expect, we conducted a thorough review evaluating incentive plans and sales practices and related controls and accessing their performance and behaviors they encourage and reward.

Our sales programs are intended to encourage our bankers to provide our customers with needs based financial solutions. Programs are not focused on product [Indiscernible] nor are they quoted within. We focus on verifiable balances and account usage when scaling incentives. We have well established controls in place to monitor for activities that may potentially be inconsistent with our culture and philosophy and we continually enhance and strengthen these controls. We’ve reviewed and tested our controls, including for our detection tools and look back mechanisms which ensure we don’t inadvertently incentivize bankers to open shell accounts.

Our Office of the President and voice of the customer functions provide real time customer feedback to our business units, to our internal customer protection council and directly to me. We conduct anonymous banker engagement surveys to continually access the strength of our living up to you grand promise. I take our extraordinarily high promoter scores and real time customer satisfaction survey responses as signs of our very healthy service sales culture and which our well trained values guided bankers identify and meet our customer’s financial needs.

While we have identified a few areas where we can improve the programs and further four to five controls, the core conclusions are that our incentive plans are appropriately designed with our culture at the forefront and our customer’s best interest in mind. Our vigilance in monitoring both our plants and our culture keeps us well informed with regard to banker behavior at the point of sale. And the integrity of our plans and our bankers is high. I am proud of them.

I will now turn it over to John to report further on the quarter.

John Ciulla

Thanks Jim. Good morning everyone, I’ll begin on slide 3. You can see the solid quarterly growth trends for loans and deposits over the past year with both increasing more than 9% year-over-year. As a result, the loan to deposit ratio remains favorable at 87%.

Commercial loans again led the way with year-over-year growth of 13% and now comprise over 58% of the loan portfolio. On the deposit side, transactional and HSA accounts grew by 12% and comprise over 55% of total deposits.

On slide 4 loan growth is spread across key segments, with each again posting solid year-over-year growth. Each of the four commercial segments achieved double digit growth compared to a year ago.

On slide 5, you can see the diverse sources of our 1.6 billion in deposit growth over the past year. The three transaction account categories on the top of the slide account for 76% of the growth with each posting double digit year-over-year increases. This provides a clear illustration of how Webster benefits from our multiple low cost deposit funding source.

Slide 6 shows solid growth in net interest income and non-interest income both to record levels, reflecting revenue growth in all lines of business led by double digit total revenue growth in commercial banking.

Non-interest expense growth reflects expenses related to the Boston expansion along with growth and investment in commercial banking and HSA Bank. The net result is 1% year-over-year growth in pre provision net revenue which excluding the Boston initiative would have been 6%.

I’ll now turn to the line of business performance beginning on slide 7. Commercial banking continued to deliver strong results reporting solid loan growth of 3% in the quarter and 14% year-over-year. Deposits also grew nearly 14% when compared to last year. Strong loan and deposit growth augmented by a higher level of syndication activity in the quarter drove revenue growth to 12% year-over-year and PPNR growth to 13% year-over-year in commercial banking.

The commercial loan portfolio yield increased 7 basis points linked quarter reflecting favorable origination activity in the higher yielding middle market as well as higher LIBOR rates in the quarter.

Despite a net increase in classified asset balances, asset quality and the commercial banking is solid as non-performing loans and charge offs declined compared to last quarter and remained at historically low levels.

Moving to Community Banking, slide 8 reflects another strong quarter in business banking. Deposit and loan balances were up year-over-year reflecting strong net new DDA growth, higher average DDA balances per account and record loan originations across all markets and channels. We continue to make progress in our previously mentioned fast track loan programs for loans under $100,000. In the quarter, more than half of the applications received through fast track were decisioned within two days of application.

Business Banking continues to be an important net funding source to the bank as deposits significantly exceed outstanding loans in the business segment.

Slide 9 highlights steady growth in year-over-year loan and deposit balances for personal banking. Loan originations rose linked quarter as residential mortgage originations were higher than the level seen in the prior three quarters, a slight decline in overall loan originations compared to a year ago reflects declines in home equity and unsecured lending categories.

Deposit balances experienced a normal seasonal decline while growing year-over-year. Growth in transaction account balances reflect progress in the mass affluent segment as premier checking accounts grew by over 15% year-over-year and total average checking balances continued to improve

We saw improving trend lines in personal banking fees in the quarter driven by mortgage banking and investment revenue the latter growing 7.4% linked quarter. Overall, the community banking transformation continues to advance with the improving digital experience as reflected in the nearly 15% year-over-year increase in active mobile banking users and an increasing concentration of higher value relationships across consumers and businesses all supported by Webster’s best in class net promoter scores in these segments.

Turning to HSA Bank on slide 10, deposits grew 15% year-over-year and accounts grew 20%. Adjusting the year ago period for the anticipated attrition related to the JPM HSA transaction, deposits grew over 20% and accounts grew 27% when compared to the prior year.

In HSA we added 500 employers and 113,000 accounts during the quarter bringing year-to-date new account production to a record 551,000. Year-over-year PPNR growth was 3.4% , however excluding the clawback and an FTP adjusted PPNR growth would have been 19.5%.

Consistent with our overall growth strategy and Jim’s earlier comments, we continued to invest in product operations and sales capabilities in HSA to maintain our momentum in pursuit of regional carriers and large employer relationships and we expect that investment to continue through the fourth quarter and into 2017

We deployed a material portion of our new bankers to focus on the large employer and carrier channels where we are beginning to see traction as evidenced by strong robust pipeline of new activities.

When compared to 2015 in the same period, year-to-date we’ve seen a 65% increase in the number of RFPs we’ve responded to including a spike in the number of large employer request.

Additionally our pipeline of potential new carrier partnerships is up significantly from this time last year reflecting the strength of our grand and service reputation. Overall, we remain excited about the future of this fast growing line of business and you can see why we are investing in this unit aggressively.

Slide 11 highlights results for Webster’s private bank. Growth in fee generating assets, loans, deposits, new client acquisition and average revenue per new relationship combined to drive an 8% increase in year-over-year revenue. We are onboarding higher-quality relationships, executing on larger deals and delivering to our clients the totality of our wealth platform that includes core banking, lending, asset management, trust and financial planning.

As Jim referenced earlier, we continue to position our activities to ensure our private bankers are focused on servicing the wealth needs of Webster customers, namely the owners and executives of our commercial and business banking clients as well as high net worth families and individuals in our community bank. We believe having a tighter alignment with our core franchise will lead to faster growth and greater efficiency in this business line.

I’ll now turn it over to Glenn for his financial comments.

Glenn MacInnes

Thanks John and good morning, everyone. Slide 12 provides a financial backdrop for the business momentum Jim and John reviewed. Included are the key highlights of the quarter’s performance with comparative data for the four prior quarter. Starting at the top continued growth in average earning assets combined with an increase in net interest margin led to a record net interest income in the quarter.

The two basis point increase in NIM primarily reflects the benefit of higher LIBOR rates. Non-interest income came in above our original estimate as a result the stronger than expected commercial activity. The expense quarter over quarter reflects both continued investments in our business which align with the strategic framework and expense related to the performance of Webster stock.

Taken together, we achieved record pre provision net revenue of over 90 million. Further down you see the provision for loan loss increased modestly, primarily as a result of our commercial loan growth.

Reported pre-tax income was 76.3 million in the quarter and reported net income of 51.8 million includes an effective tax rate of 32%.

Slide 13 highlights our average balance sheet and drivers of net interest margin. Growth in average interest earning assets was driven by higher yielding commercial loans which benefitted from higher LIBOR rates. This was partially offset by decline in our securities portfolio. As a result, the yield on interest earning assets increased one basis point.

Average deposits increased 526 million led by an increase of 283 million in demand deposits which fully funded the growth in interest earning assets. The strength and demand deposits reflects the seasonal increase of 182 million in our government banking business and an increase of 97 million in commercial banking.

Overall deposit cost were one basis point lower driven by a two basis point reduction in HSA deposits. Average borrowings decreased 329 million as a result of deposit growth. Combined, our cost of interest bearing deposits declined one basis point from Q2. The net impact was a two basis point increase in net interest margin.

To summarize, strong loan growth along with a slightly higher loan portfolio yield and a reduction in the cost of liabilities resulted in a quarter-over-quarter increase in net interest income of 3.3 million.

Slide 14 details our non-interest income which increased 1.3 million. We continue to see strength in commercial banking activity and this quarter included an increase of over 3 million in loan related fees which you can see in the darker green color. This was primarily the result of syndication fees on transactions we led which offset a decline from prior quarter’s record swap revenues included in other income shown in grey.

Deposit service fees in dark blue increased 1 million as a result of higher transaction volume. HSA Bank fee income in light green decreased 415,000 primarily due to seasonally lower interchange volume as more clients reached a deductible threshold.

Slide 15 highlights our non-interest expense which increased $3.3 million, compensation and benefits increased $2.9 million, about half of which is variable compensation tied to Webster's stock price increased. The remainder is split between strategic hires and seasonally hired medical costs.

Turning to slide 16, our investment in Boston held our efficiency ratio to 61.4% excluding Boston our efficiency ratio would have been below 60%.

Slide 17, highlights our key asset quality metrics, non-performing loans in the upper left decreased $5 million primarily in residential mortgages and commercial loans and represent 77 basis points of total loans.

Past-due loans in the upper right decreased by $4 million and represent 24 basis points of total loans, commercial classified loans in the bottom left increased by $16 million representing 3.4% of total loans and remained well below our five-year average of 4.8%.

Net charge-offs totaled $6.8 million in the quarter for an annualized net charge-off rate of 16 basis points. Loan loss coverage increased to 113 basis points in support of our loan growth and mix. In summary, our credit metrics remained strong and we maintain a positive forward view on our asset quality performance.

Slide 18 highlights our capital position. The tangible common equity ratio was 7.25% at September 30, flat to prior quarter and our common equity Tier 1 ratio was 10.46%. We continue our strategy to grow primarily with the 100% of risk weighted loans. Risk weighted assets represent 72% total tangible assets compared to 70% a year ago.

Before turning it back to the Jim, I have a few comments on our outlook for Q4 compared to Q3. We expect average interest earning assets to grow approximately 2%. We expect average loan growth to be in the range of approximately 1.5% to 2.5%. We expect NIM to be similar to Q3.

As a result, we expect net interest income to increase around $2.5 million to $3.5 million linked-quarter. Of course the projected increase is subject to overall interest rate environment.

We expect the provision to continue to be driven by loan growth and mix but generally in line with Q3's level. Non-interest income is likely to be flat to slightly down versus Q3, which included strong commercial activity.

We continue to manage our non-interest expense closely, while opportunistically investing in talent and initiatives as Jim emphasize in his comments. We expect the efficiency ratio included the Boston expansion to be in the range of 62%. Our expected effective tax rate on a non-FTE basis should to around 32% and we expect our average diluted share count to be about 92 million shares.

With that I’ll turn things back over to Jim.

James Smith

Thanks, Glenn. Our solid results reflect success investing capital and resources and strategies that maximize value to customers and shareholders, and we continue our progress toward our high performance [Indiscernible] measured by financial performance, growth in key customer segments and customer satisfaction.

I will now open it for questions.

Question-and-Answer Session

Operator

Thank you. We will now be conducting a question and answer session. [Operator Instructions] Our first question comes from the line of Steven Alexopoulos with JPMorgan. Please proceed with your question.

Steven Alexopoulos

Hey, good morning everybody.

James Smith

Good morning, Steve.

Steven Alexopoulos

I want to start on HSA Bank. You guys obviously had nice growth in deposits. When we look at the account growth adjusting for the deals that was actually stronger than at least I was looking for at 27%. Can you give some color on what drove that and talk about expectations for account growth?

Chad Wilkins

Hi, Steve. It's Chad. We've seen very positive growth coming from our channel partners, so carrier growth is up this year over the last year, that's represented more than 50% of our account growth year to-date, so that's really been the driver of – higher than expected account growth.

Steven Alexopoulos

Okay. And do you expect that to continue Chad, at that higher pace?

Chad Wilkins

Yes. We are – our focus Steve is really to make sure that we're generating and improving our production through our existing carrier partners and then obviously adding new partners as we go into 2017 and beyond. So, we're seeing positive trends on that front and we're also seeing positive trends in terms of our pipeline of carrier partners that we're in negotiation with.

Obviously those take some time to develop. You've got to do your integrations and begin to drive the productivity so that will take a little longer for the new ones to produce, but we're seeing nothing right now that would lead us to believe anything contrary to what the guidance we've given of 20% plus account growth and deposit growth as we head into 2017 and beyond.

Steven Alexopoulos

Okay. And it looks like fee income from HSA declined about 2% quarter over quarter. What drove that?

Glenn MacInnes

Chad, let me jump in there. Steve, it's Glenn. And so when you look linked quarter we did see and I think it's seasonal a drop-off in interchange revenue. If I look at transaction volume we were at $4.6 million in the third quarter versus $5.2 million in the second quarter, so we were down on transactions about 10%. So that's what you're seeing, interchange itself is down about 7% linked quarter.

Steven Alexopoulos

Okay. That makes sense. Thanks. And then if I could shift the loan growth for a minute, you guys had really nice growth in commercial real estate in the quarter. Would you consider this an unusual quarter or you just see more opportunities as others pull out of the market?

John Ciulla

Steve, its John, I don’t think it’s the fact that others are pulling out of the market in terms of they are having regulatory pressure in concentration. I just think we have so many levers and our commercial real estate activities across our Mid-Atlantic region, we continue to see with our existing sponsors and our relationship, high quality transactions across property types. And so, I would just say it’s kind of business as usual.

Steven Alexopoulos

Okay. Thank you, John. Maybe just one last one. The commercial loan growth was also strong and many banks are putting up pretty weak commercial loan growth in the quarter. Can you give us a sense how much of that's coming from share gains versus this higher utilization of your existing clients? Thanks.

John Ciulla

It’s a great question and we struggle with the definition of share gain versus transactional opportunity. What drives I think our outperformance. In this quarter is again our specialty areas and we've talked about it at various conferences. We've got a really robust industry specialty segment group, and so the universe of opportunities for us is broader and we're dealing with some of our private equity sponsors as well. Most of the outperformance I would say is attributable to transaction opportunities rather than a straight shares deal.

Steven Alexopoulos

Okay. And is Boston helping it at this point on the commercial side?

John Ciulla

Yes.

Steven Alexopoulos

Okay. Thanks for all the color.

Operator

Thank you. Our next question comes from the line of Jared Shaw with Wells Fargo. Please proceed with your question.

Jared Shaw

Hi, good morning.

James Smith

Hi, Jared.

Glenn MacInnes

Good morning, Jared.

Jared Shaw

Just following up a little bit on the HSA, on the commentary you had mentioned that there were 113,000 new accounts this quarter, but then looking at the slide it looks like that was a little bit less. Did we still see some -- is there still some net outflow from the JPMorgan transition, and if so should we expect that to be done now or is there a little bit more of a tail on that?

Glenn MacInnes

So, Jared, its Glenn, and we're pretty much run through the transition at this point.

Jared Shaw

Okay. So now it should be – it should be all the net account growth going forward?

Glenn MacInnes

That's correct. And as you know, we anticipated a certain level of attrition given the early, that the deal was announced very early without a buyer. So we had fully accounted for that.

Jared Shaw

Okay. And then on the seasonality on the fee income from HAS, we should assume then I guess, that keep stays with us in fourth quarter as more and more people hit their high deductible?

Glenn MacInnes

Yes. That's exactly what happened in the second half of the year, people hit their deductible and their transaction volume goes down. so I think it will be relatively flattish going into Q4.

Jared Shaw

Okay. Thank you. And then on the – with 50% of the new account growth coming from the carrier channel and then with the new hiring going on for the direct sales channel, should we see as we look out over the next two years or so, what do you envision the new account growth coming from the direct sales channel versus the carrier referrals?

Chad Wilkins

Hi, Jared, this is Chad. We'd expect to see, I'd love to see us maintain that ratio and see more direct-to-employer sales, so that we're really balancing the amount of accounts we see through partners and then in the direct channel. So, that's our goal has been to add more direct-to-employer sales reps as well some additional resource on our carrier side, so that we're growing both. But again we're having pretty good success driving productions through our carriers, so we're happy with that growth as well.

Jared Shaw

Very good. Thanks. And then just finally, what's the – can you give an update on the status of how the loan production offices in the Mid-Atlantic are doing and what the balances are out of those offices?

John Ciulla

It's John. Good morning. It's continued to make steady progress and as we talked about our goal is not to be the market leader, we don't want to make credit mistakes there. I think we've done in our Philadelphia, Middle Market office, whereas you know we had commercial real estate for long time. We did a couple of more transactions in the quarter and we're up to between $60 million and $75 million in funded loans there.

We also did another single transaction in Washington in our commercial real estate group and the balance is there around $100 million. So again steady slow progress and really adds to the overall pie with respect to how we can drive loan growth smartly and safely across our platform. Maybe DC is about $150 million now, let me correct that in terms of total commercial real estate outstanding.

Joseph Savage

Hey, Jared, this is Joe, and I just want to underscore the point that John has made, when we go into these markets and it gets to a question, Mark had asked a while back, we are really interested in establishing an appropriate foothold and we make it very, very clear to our bankers that we're with them for the long haul and we think there's enough power in the existing franchises for them to grow comfortably and smartly and you put together with the fact that we've known for an extended period of time. We're just not going to take chances with respect to being a new kid on the block that gets the loans that nobody else wants. So, I hope that helps.

Jared Shaw

Great. Thanks for the color.

Operator

Thank you. Our next question comes from the line of Collyn Gilbert with KBW. Please proceed with your questions.

Collyn Gilbert

Thanks. Good morning everyone.

Glenn MacInnes

Good morning, Collyn.

Collyn Gilbert

Could you guys talk a little bit about the syndication business, obviously good you had good strength this quarter; it was good in the second quarter as well. Just sort of talk about how that business is evolving and sort of where you see the potential growing from there – growing from here?

John Ciulla

Sure Collyn. I think you use the right word, evolving, and in the 12 years I've been here, we've sort of slowly driven our capabilities in capital markets and in the last couple of years with the acquisition of some great talent from GE capital and other areas, we've really had much better access to transactions both with owner operators and with private equity sponsors of leading deals in those industry segments we know really well.

So again to sort of jump off where Joe left off, risk management is the primary concern here and so we've gotten comfortable with certain industries. We've gotten comfortable with sponsors. We've gotten comfortable with the talent we've acquired and so over the last couple of years we've gone from a handful of transactions that we’ve led in the $50 million to $75 million range.

Now, we're perfectly comfortable leading deals up to $200 million and successfully syndicating them which obviously allows us to do business with higher quality, larger companies allows us to drive fees and be confident that we can lay off the risk and not have outsize single point hold. So I would say we will continue to evolve it and like we do in most of these activities we're not going to try and triple the business next year, but we'll go from a dozen transactions to hopefully 12 to 18 transactions next year across all of our business lines.

And we're obviously trying to look to apply our capital market activities into commercial real estate into the traditional middle market and other areas as well. So it will be a slow and steady process but we'll continue to add fees to the bottom line and continue to open up the universe of larger companies we can do business with.

Collyn Gilbert

Okay. That's helpful. And the growth that you saw this quarter was it kind of spread out among multiple transactions or did you just have a large deal that closed?

John Ciulla

We had a couple of larger transactions, right. So that's the one thing that you can expect from an earnings perspective is as you know it can be lumpy, so the pipeline you work on a couple of transactions everybody is working on two deals at once and they hit and you can have a spike of couple of million dollars in fees in the quarter, so it was really centered. We had several transactions but the pop was really centered in two deals.

Joseph Savage

The only think Collyn, I'd add to that is that the John has nailed it. The pacings are such increasing the little bit. So while it will be episodic on a year-over-year basis we would expect to continue to see more frequency and success.

Collyn Gilbert

Okay. That's great. That's helpful. And then just in terms of kind of bigger picture on the lending side, are there areas where you guys are pulling back because of price or risk and you just not liking what you're seeing in the market?

John Ciulla

Interesting question, I don't think anything that were sort of from a strategic perspective. I will tell you, we always go back to Bill Wrang in real estate. We've never been a market player in New York multifamily or other areas, so I would say we're being more careful and selective in the multifamily space just with some of our markets being heated.

I think retail is a property type, it's never been one that we've aggressively gone after and its one that I think we're even more cautious about now. With respect to C&I businesses in general Collyn, we're not in the oil and gas business. We look at contractors, which is something that we historically and sort of been careful about putting a lot of exposure and concentrate exposure there, but other than that I don't think there are any strategic areas where we're looking to avoid.

Collyn Gilbert

Okay. That's helpful. And then just finally on the HSA front, can you just talk about maybe you guys have undergone a lot of changes in that business over the last couple of years, maybe Chad, you've just talks about the direct to employer and the carrier focus, but just give us a little bit more color as to what – where you see that momentum coming as we go into enrolment season, sort of where the efforts are being placed now in terms of kind of investment and energy and time and all those types of things?

Chad Wilkins

Yes. Good morning, Collyn, great question. I'd say it's across the board, right. We've spend lot of time over the last two years with the conversion to the new platform and then the integration of the acquisition and while we've been doing that we've been making improvements along the way. Now we've got our entire focuses on making sure that we maintained our [Indiscernible] and grow our portfolio and all the current customers and we capture more and focus is really to keep moving up market to get larger and more larger employers and health plan partnerships.

And to do that we've got to stay at the top of the industry in every aspect, the operational excellence, the customer service and customer experience, data analytics, targeted marketing, making sure that we've got – we grow our account management and sales staff putting sales methodology and training and tools to make sure that when we're out there selling, we have to put our people in best position to win.

So we're really making investments across the entire business. And what's nice is that we would have a lot of resources that and we're focused on doing integrations and migrations and now 100% of our tension is on all of those activities. So, it’s not that anything broken needs to fixed, it is that we want to make sure we're continuing to lead the market and just to even to stay up with the 20% growth rate we have to continue to expand and excel in all those areas. So, good news is that's kind of 100% of our tension [Indiscernible].

Collyn Gilbert

Okay. And just one final sort of follow-up to that point, is there are certain geography where you're seeing more success coming out kind of new customer acquisition either on the employers, I mean, let's talk employers not the carriers, but on the employer side?

Glenn MacInnes

Yes. I think we're seeing areas that traditional weren’t strong for CDH growth, they're beginning to show more growth with the areas that we traditionally been strong on like Texas, and Illinois are great markets for us, but we're also seeing areas that were traditionally not great CDH states like in the East Coast for one, starting to head in that direct as well.

So, that's we were continuously analyzing the market and where we have our people placed and as we see opportunities to capture more growth that's where we're placing individuals both in terms of segment and then geography.

Collyn Gilbert

Okay. That's great. Thank you very much for the color everybody.

James Smith

Yes. If I may just add to what Chad is saying. This is Jim speaking. HSA is such an extraordinary opportunity for us to create value through this differentiated business that as I was noting and Chad has reinforce that as well that we've made the choice, because it’s so attractive that we will accelerate and increase the investment in the business and that's what's happening because the growth potential is so extraordinary.

Collyn Gilbert

Okay. Great. Thanks, Jim.

Operator

Thank you. Our next question comes from the line of Bob Ramsey with FBR Capital Markets. Please proceed with your question.

Bob Ramsey

Hey, good morning. I think at the start of the call, Glenn, you were talking about a little bit slower of the reduction in drag coming out of Boston. I just want to be sure, did I understand you correctly that all reflects the rate environment? And if that's right, I'm curious if the Fed does move in December if that changes the view materially or whether it will take more than one rate hike to really change that?

James Smith

Hey, Bob, this is Jim and it was in my comments that we indicated that the drag…

Bob Ramsey

Sorry, Jim.

James Smith

That's okay; the drag is about $0.04 a quarter. We originally thought we bring that down by about a penny a quarter, now we're saying it’s probably going to be half a penny a quarter, but the objectives are still solidly in place and Boston is going to be home run for us, there's no questions about that.

So there were couple of things, one was lots of promotional activity in the market, at the same time if we were trying to make our way and at some level we said, let's not go crazy, just to get the balances, let’s be more careful and so while account production is actually higher than estimated and while the loan referrals are every bit of what we thought that they would be. Overall the deposit balances are little bit lower and the deposit mix is little bit different. And as a result to that plus the fact that rates are lower than we anticipated they would be when we originally making our projections a year or so ago. Those are the factors that come into play and are making that assessment. If rates move up a little at the end of the year, we don’t think that’s going to make a material difference in Boston.

Bob Ramsey

Got it. All right. That’s helpful. Thank you. And then maybe you could just touch a little bit on the margin guidance. I know you guys are expecting a stable margin as we go into the fourth quarter here. I guess sort of, what is that outlook predicated on, what are the risk for opportunities around margin?

Glenn MacInnes

So, Bob, it is Glenn here. Good morning. We do expect or anticipated a fed rate hike on December 14 up to 75 basis points and really what’s driving the margins, so we are 310. We continue to see as the securities portfolio reprices, to give you an example of that, our purchases are coming on at say 256 with a 5.3 year duration. They are coming off still a little above three. So that’s going to continue to put pressure on the margin, about 2 basis points in NIM.

On the other hand, as we've seen LIBOR increase, both on the CRE and C&I portfolio, we will clawback 2 basis points. To give you can example, CRE, 91% of the CRE portfolio is floating in periodic. So that benefit is LIBOR based, so that benefits from increase in LIBOR that we've seen over the last couple months.

Likewise on C&I, 84% is floating in periodic and so we clawback another basis point. So, you have 2 basis points pressure from the securities portfolio and then you clawback to on the commercial portfolio and so you end up -- and that’s broad based. You end up about 310.

Bob Ramsey

Okay. Okay. Got it. Thanks. Last question, I know you’ve talked about the commercial fees and how they were sort of particularly strong this quarter. What is the right way to think about that line maybe on an annualized basis? You all obviously had good growth over time. This quarter might have been unusually strong. But what is the right way to think about that?

Glenn MacInnes

Again, Bob, it is Glenn. Again, it’s a hard line to forecast. We had terrific swap revenue, record swap revenue in the second quarter, $4.6 million. And this quarter it was more like $2 million which is still pretty good. That was offset by some of the loan fees, the syndication fees that you saw. So it’s really a hard line to predict on an annual basis. And as John indicated it’s very lumpy. I don’t know if, John, if you want to add something?

John Ciulla

Yes. I mean it is. It’s almost impossible to do it by category. I think we target along with our PPNR and loan growth, we target low double-digit growth year-over-year. So, we make our internal forecasts and we are aspirational to get a 10% to 12% increase in total non-interest income from the various categories.

Bob Ramsey

Okay. Perfect. And is -- sorry, one other question on the tax rate, I know you said 32, is that a good rate for next year as things look today as well.

John Ciulla

I would say within in the range of 32% to 33%.

Bob Ramsey

Okay. Thanks.

Operator

Thank you. Our next question comes from the line of Casey Haire with Jefferies. Please proceed with your question.

Casey Haire

Thanks. Good morning, guys.

James Smith

Good morning.

Glenn MacInnes

Good morning.

Casey Haire

Wanted to follow-up on the efficiency ratio, basically the Boston branch expansion sounds like we are looking at breakeven in the back half of 2018. Aside from any potential rate help, is a 62% efficiency ratio sort of the best that we can hope for until Boston breaks even?

Glenn MacInnes

No, I think -- Casey, it is Glenn. So there are things in the quarter. We've indicated that we are investing more aggressively in the HSA business. I won’t give guidance on a full year basis but I think in the fourth quarter, we expect it to be around 62%. I think a lot of the gains that we will get on the efficiency ratio will be on the revenue side as opposed to the expense side given our appetite for investing in strategic initiatives.

James Smith

Yes. I want to add to that. It’s Jim. We’ve reiterated the comments that we’ve made about investing in our businesses, which will provide us higher revenue, better efficiency ratio over time. So the idea of having a sustainably lower efficiency ratio was a goal. In the meantime, we’ve done a very good job of managing our expenses.

And so the point we are making is, as we invest in our highly differentiated businesses, particularly HSA Bank and Commercial Banking that there may be some investments sooner rather than later. And as a result of that you could get a little bit of lumpiness in the ratio but the trend is still very positive. So, when you look at it over the intermediate term, we are going to do better as a result of the investments that we make today by delivering a sustainably lower efficiency ratio over time and that's what we are focused on.

Casey Haire

Okay. Said another way, I mean I don’t like P260, used to be the house religion for you guys. Is that until Boston breaks even? Is that unattainable?

Glenn MacInnes

Well, until -- what we are saying is you’ve got Boston, you’ve got investment in HSA, Commercial Banking. There may be some quarters where it's under 60 and others where it maybe a little bit over 60. Longer-term, we think it will be well under 60. So instead of trying to nail a prediction on efficiency ratio quarter-over-quarter, what we are saying is that expense discipline is ingrained in every decision we make here at Webster.

But we also recognize there is an opportunity to invest and sometimes we want to invest now rather than trying to smooth that out over a longer period of time. So, I’m not trying to avoid your question. I'm saying we will manage our expenses tightly and we will invest in our businesses as appropriate and we will deliver better performance and a better sustainable lower efficiency ratio over time.

Casey Haire

Got you. Okay. Understood. And just on the Boston breakeven metrics, I believe it was $0.5 billion in deposits and I can’t remember the loan amount. But just where do we stand today versus what the -- ?

James Smith

It was a $1 billion in deposits over five years and $0.5 billion in loans. We have no doubt that we are going to be able to achieve those goals. We don’t want to predict it but clearly, we are on track to be able to achieve that. We originally had thought we’d be somewhere between $250 million and $300 million. At the end of 2016, we think that’s going to be closer to $200 million at this point.

Casey Haire

$200 million deposits.

James Smith

Yes, in deposit but over the five-year horizon where we had estimated what we thought we could achieve, we said a $1 billion in deposits and $500 million that we are holding.

Casey Haire

Okay. Thanks very much.

James Smith

Thanks, Casey.

Operator

Thank you. Our next question comes from the line of Mark Fitzgibbon with Sandler O'Neill & Partners. Please proceed with your question.

Mark Fitzgibbon

Good morning.

James Smith

Good morning, Mark.

Glenn MacInnes

Hey Mark.

Mark Fitzgibbon

Just to follow-up on the HSA stuff, I was a little surprised to see HSA deposit costs go down by about 2 basis points this quarter. Just curious what drove that?

James Smith

Chad?

Chad Wilkins

Yes. Good morning. We had couple of opportunities as we looked across the portfolio. One, we originally anticipating rates would start to go up but given the current environment that we took a hard look at all of our peers and then some of our partner agreement and so we adjusted in just a few minor areas within our pricing structure. And that’s what drove the 2% or the 2 basis point decrease. And I think we don’t see any changes in near term. But as we see opportunities, we make those decisions and make those changes.

Mark Fitzgibbon

Okay. And then secondly on professional fees, Glenn, I was just curious what kind of drove that up this quarter? Was it stuff related to HSA or was it elsewhere in the organization?

Glenn MacInnes

It was elsewhere. It was spread around the organization. Some of that is more of annuity but some of it is one-time as well.

Mark Fitzgibbon

Thank you.

Glenn MacInnes

It was in the other areas as opposed to HSA.

Mark Fitzgibbon

Thank you.

Glenn MacInnes

Mark, I just want to say, too, that your question about the cost of the HSA deposits reinforces what's so important about those deposits is that they're stable, they are long-term and they are low-cost deposits with less elasticity than other deposit categories.

Operator

Thank you. Our next question comes from the line of Ken Zerbe with Morgan Stanley. Please proceed with your question.

Ken Zerbe

Great. Thank you. Just a question about Boston and sort of the more muted outlook on that. Given that you are running behind in deposit growth versus your expectations previously, what gives you the confidence that you ultimately hit your five-year targets on deposit growth? And does that come with a risk that you end up, to get that deposit growth you end up pricing up deposits that Boston in general is just simply less profitable five years from now than you originally thought it would be?

James Smith

No, we don't think we will be deciding that we should push rate to gain deposit share. In fact that's exactly what we are not doing and I want to be clear about that. We could have kept our promotional rates relatively high, extended the periods. We said no, we are not going to do that. That’s not the right call. But as we assess the market, we think the potential is as great or greater than initially estimated, which is why we still have confidence that we will make the goals we originally had estimated and not just for deposit or loan growth but for profitability as well.

Ken Zerbe

Understood. I guess the reason why I ask is that, obviously, you go into Boston and as you said promotional activity across the entire market was just much stronger than expected. It sounds like there is an embedded assumption that that competition is going to get better or easier such that the environment gets better so you don't have to pay up for deposits to gain share.

James Smith

The environment, Ken was such that, particularly when Citi deposits were in the minds of many up for grabs, that that was one of the developments that I think encouraged people to promote very heavily. And we think that is going to subside and so that was an unusual period. I think importantly is we noted, we actually have more accounts open than we had expected that we would at this point. We’ve got a great team of people in Boston that’s going to develop those relationships. In the end that's what it's all about. So for those reasons we remain highly confident we will achieve our goals.

Glenn MacInnes

And let me just add to that, Ken. It’s Glenn. That we also are just starting to get traction on things like small business banking and commercial where there is definitely some upside there. So those are -- that's not going to impact the pricing. But I think small business banking as an example I think they are just starting to get a lot more traction on that. The halo effect of this, of our expansion to Boston on the commercial, John can probably highlight. But I think we are definitely getting a lot more looks at things as a result of our presence being there.

John Ciulla

Right. I mean part of it, Ken, is just timing. So, business banking, we’ve sort of hired our group of business bankers and we are starting to see a big pipeline for business deposits there. And it’s just taken a little bit longer on our initial assumptions. We are seeing activity in government banking around the municipalities where our branches are located, which will give us additional momentum. Commercial bankers are seeing a lot more momentum. Our private banker and wealth manager there who we really have a lot of confidence in is, are starting to gain significant traction. So, I think part of this is just timing. It’s why we remain confident but we are kind of in that blocking and tackling phase where we are fully staffed positioned and now we just have to continue to get it done.

Ken Zerbe

Got it. And then just on the customer base, if I do my mental math on this, if the balances are lower but you are getting the right number of deposit customers presumably implies lower deposits per customer obviously. Is it -- have you had enough time to really examine? Are you getting the right types of customers, the customers that you want them to bank with you or is it just too early yet?

James Smith

One thing about Boston is that they really have the right type of customers. When we think about emphasizing mass affluent focus there is no question about that being a very, very, the most attractive market. No question about it for us. So that holds. And we are assessing the quality of the deposit opportunity and we think it's as high as we originally had expected. And I think the points already made here is that it's not simply what's happening on consumer deposit side.

It’s also what’s happening in business deposits and what's happening on the mortgage banking side and what's happening in Webster Investment Services and the private bank. And the commercial bank is benefiting as well, as is government banking. So, basically the totality of Webster is being delivered in the market. Our brand awareness is increasing every day. So, when we think about what’s happening over the longer term, there is no doubt that we are going to be able to achieve our goals and have the quality of relationships that we had envisioned.

Ken Zerbe

All right. Perfect. Thank you very much.

James Smith

Yes. And let me say the average balances are pretty good for these relationships as well.

Ken Zerbe

Okay. Thank you.

Operator

Thank you. Our next question comes from the line of Matthew Breese with Piper Jaffray. Please proceed with your question.

Matthew Breese

Good morning, everybody.

James Smith

Good morning.

Glenn MacInnes

Good morning, Matt.

Matthew Breese

I just had one quick one. In the 4Q margin guidance, absent a rate hike what would that do to your NIM guide?

Glenn MacInnes

Well, we are still getting the benefit of the LIBOR increases I highlighted. So, I think we’d be relatively flat going in just the fourth quarter. Maybe a half a basis point, assuming if they raise.

James Smith

Yes. It is two weeks and it really it doesn’t. It gets us 300 grand at the end of the day. So it’s not a big number, so it’s about half a basis point.

Matthew Breese

Got it. Okay. That’s all I had. Thank you.

James Smith

Thank you.

Glenn MacInnes

Thanks.

Operator

Thank you. There are no further questions at this time. I would like to turn the call back over to Mr. Jim Smith for any closing comments.

James Smith

Thank you, Michelle. Thank you all for being with us today. Have a good day.

Operator

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.

Glenn MacInnes

Thank you, Michelle.

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