Axos Financial, Inc. (AX) Q2 2018 Earnings Report, Transcript and Summary

Greetings and welcome to the BofI Holding, Incorporated Second Quarter 2018 Earnings Conference Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions]. As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Johnny Lai, Vice President of Corporate Development and Investor Relations.

Thank you. Good afternoon, everyone. Thanks for your interest in BofI. Joining us today for BofI Holding, Inc's second quarter 2018 financial results conference call are the Company's President and Chief Executive Officer, Greg Garrabrants; and Executive Vice President and Chief Financial Officer, Andy Micheletti. Greg and Andy will review and comment on the financial and operational results for the three and six months ended December 31, 2017, and they will be available to answer questions after the prepared remarks. Before I begin, I would like to remind listeners that prepared remarks made on this call may contain forward-looking statements that are subject to risks and uncertainties and that management may make additional forward-looking statements in response to your questions. These forward-looking statements are made on the basis of current views and assumptions of management regarding future events and performance. Actual results could differ materially from those expressed or implied in such forward-looking statements as a result of risks and uncertainties. Therefore, the Company claims the Safe Harbor protection pertaining to forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. The call is being webcast today and there will be an audio replay available in the Investor Relations section of the Company's website located at bofiholding.com for 30 days. Details for this call were provided on the conference call announcement and in today's earnings press release. At this time, I’d like to turn the call over to Greg for his opening remarks. Greg, the floor is yours.

Thank you Johnny. Good afternoon everyone and thank you for joining us. I would like to welcome everyone to BofI Holdings conference call for the second quarter of fiscal 2018 ended December 31, 2017. I thank you for your interest in BofI Holdings and BofI Federal Bank. BofI announced net income of 31.7 million for the fiscal second quarter ended December 31, 2017 down 2% from the 32.3 million earned in the fiscal second quarter ended December 31, 2016 and down 2.2% when compared to the 32.4 million earned in the prior quarter. Excluding the onetime revaluation of the deferred tax asset value with reduced reported net income by approximately $8 million in the second quarter of fiscal 2018 our net income would have been 39.7 million for the quarter ended December 31, 2017 up 23% from the same period a year ago. BofI's return on average assets of 1.49% and return on equity of 14.37% for the second quarter of 2018 were similarly impacted by the deferred tax asset charge. Earnings attributable to BofI's common stockholders were 31.6 million or $0.49 for diluted share for the quarter ended December 31, 2017 compared to $0.50 per diluted share for the quarter-ended December 31, 2016 and $0.50 per diluted share for the quarter ended September 30, 2017. Excluding the deferred tax asset charge our non-GAAP earnings per diluted share would have been $0.61 for the second quarter ended December 31, 2017, a 22% increase from a year ago. Other highlights for the second quarter include ending loan and leases increased by 361 million up 4.8% on a link quarter basis but 19% annualized from the first quarter of 2018. Total Assets reached 8.9 billion at December 31, 2017 up 334 million compared to September 30, 2017 and up 0.7 billion from the second quarter of 2017. Net interest margin was 4% for the quarter ended December 31, 2017 up 13 basis points from 3.87 in the first quarter of fiscal 2018 and stable compared to the 4% in last year's second quarter. Loan yields increased 24 basis points year-over-year to 5.38% reflecting higher yields on newly originated single family jumbo mortgages and multifamily loans, a favorable mix shift towards higher yielding C&I loans and higher interest rates on H&R Block seasonal loans. Our net interest margin benefited from H&R Block seasonal loan products originated in the December quarter. Without the effect of H&R Block seasonal loans our net interest margin would have been approximately 3.92% for the second fiscal quarter of 2018 approximately 4 basis points higher on a comparable basis from the second fiscal quarter of 2017. Capital levels remain strong with tier one leverage ratio of 10.26% at the bank and 10.26% at the holding company both well above our regulatory capital requirements. We took steps to redeploy some of our excess capital this quarter buying back 28 million of common stock at an average price of $28 per share. As we previously stated we believe that a 9% tier one leverage ratio makes sense for us. On a capital base of 874 million at 12/31/2017 and a $40 million cash holding above our target holding company cash levels we have approximately 144 million of excess capital that we could return to shareholders through buybacks and/or cash dividend if we decide to reduce our tier one leverage ratio to 9%. Furthermore if you take our current consensus analyst EPS estimate of roughly $3.10 per share for fiscal 2019 and assume that we grow out this by 15% next year we would generate an additional $80 million of excess capital in fiscal 2019. This is a purely illustrative exercise to help quantify the significant amount of potential excess capital we may have over the next six quarters. It should not be construed as any guidance that the company is providing from an earnings or outside growth perspective or providing guidance on a particular method of capital return or the presence or absence of acquisition opportunities that we might pursue with excess capital. Our return on equity was 14.37% for the second quarter of 2018 compared to 17.49% in the corresponding last year -- period last year reflecting the bank's year-over-year increase in capital levels and the onetime deferred tax asset revaluation this quarter. Excluding the onetime tax evaluation charge and considering a full quarter's impact of our share repurchases return on assets and return on equity would have been 1.87% and 18.54% respectively for the quarter ended December 31, 2017. The profound deferred tax adjusted return on assets and return on equity were benefited by a lower federal and state income tax rate of approximately 29% to 30% in the second fiscal quarter of 2018 which is around the long-term tax rate we will be expecting to pay beginning with a 2019 fiscal year. Our credit quality remains strong with 3 basis points of net charge offs and a non-performing asset to total asset ratio of 44 basis points this quarter. Our allowance for loan loss represents 152.1% coverage of our non-performing loans and leases. While we have a small number of loans to borrower secured by real estate properties located in areas affected by the wildfires and mudslides in California our net exposure after insurance appears deminimus. Our efficiency ratio was 40.28% for the second quarter of 2018 compared to 40.49% in the first quarter of fiscal 2018 and 35.78% for the second quarter of fiscal 2017. We continue to make investments across each of our businesses and personnel, technology, infrastructure, and compliance that will help us to sustainably grow over the next five years and beyond. As discussed we're beneficiary of a tax legislation passed at the end of calendar 2017 with the majority of our employees still working in California although we've been growing in Nevada and a proportion of lending in California our effective tax rate has been 41% to 42% for the past several years. Beginning in the first quarter of fiscal 2019 which begins on July 1, 2018 we expect our GAAP tax rate to be 28% to 30%. As a result our net income, return on equity, EPS, and book value but not our efficiency ratio will be positively impacted by the Tax Act. Our higher level of profitability and capital efficiency provides us with the flexibility to opportunistically reinvest in our people, businesses, and customers while potentially returning excess capital to shareholders through buy backs, dividend, acquisitions, or other corporate actions. We originated approximately 2 billion of gross loans in the second quarter up 22.2% year-over-year. Originations for investment increased 27.7% year-over-year to 1.4 billion and originations for sale increased 12.6% to 686.2 million. Ending loan balances increased by 15.6% year-over-year to 7.9 billion. Originations were well balanced with strong contributions from single family, commercial specialty real estate, commercial and multifamily lender finance, and equipment leasing. Our loan production for the second quarter ended December 31, 2017 consisted of 131 million of single family agency eligible gain on sale production, 350 million of single family jumbo portfolio production, 121 million of single family non eligible gain on sale production, 106 million of multifamily and other commercial real estate portfolio production, 186 million of net C&I loan growth resulting from 776 million of C&I production, and 439 million of auto, consumer unsecured, and seasonal pacts tax products including Emerald Advance and small business loans to H&R Block franchisees. For the second quarter 2018 originations the average cycle for single family agency eligible production was 752 with an average LTV of 66.6%. The average FICO score for single family jumbo production was 716 with an average loan to value ratio of 58.4%. The average loan to value ratio of the originated multifamily loans was 53.2% and a debt service coverage was 1.37. The average loan to value ratio of the originated small balance commercial real estate loans was 50.6% and the debt service coverage was 1.41. The average FICO over the auto production was 773. At December 31, 2017 the weighted average loan to value of our entire portfolio of real estate loans was 56%. These loan to value ratios, these origination date appraisals over current amortized balances make these historic LTVs even more conservative when you consider that real estate values have generally risen since the time the loans were originated. 61% of our single family mortgages have loan to value ratios at or below 60%, 32% have loan to value ratios between 61% and 70%, 5% have loan to value ratios between 71% and 75% approximately 2% between 75% and 80% and less than 1% greater than 80% loan to value. The loan to value was calculated using the contrastable balance divided by the original price of the value of the property. We have a well established record of strong credit performance in jumbo single family mortgage lending with lifetime credit losses in our originated single family loan portfolio of 3 basis points of loans originated. We had approximately 1.7 billion of multifamily loans outstanding at December 31, 2017 representing 21% of our loan book. The weighted average loan to value of our multifamily loan book is approximately 53% based on the appraisal value at the time of origination. Approximate 68% of our multifamily loans are under 60% loan to value, 28% are between 60 and 70, 4% are between 70 and 75, and less than 1% of our multifamily loans have a loan to value above 75%. The lifetime credit losses in our originated multifamily portfolio are less than 1 basis point of loans originated over the 17 years we have originated multifamily loans. Our credit performance is equally good in our C&I lending book by focusing on high quality sponsors and borrowers, structures and low leverage and deals backed by hard collateral with readily ascertainable market values. We have not experienced any losses in our C&I lending goods since we entered this business. We remain optimistic on our outlook for loan growth with 981 million loan pipeline at December 31, 2017 consisting of 441 million of single family jumbo loans, 115 million of single family agency mortgages, 131 million of income property loans, and 293 million of C&I loans. With the addition of senior level team members and credit lending and compliance and an expansion in our sales network over the last several quarters we're well positioned to grow our loan book across a diverse set of lending categories. Now switching to funding, total deposits increased 782.6 million or 11.8% year-over-year with growth across consumer and business deposit categories. Checking and savings deposits increased by 689.6 million compared to December 31, 2016 representing year-over-year growth of 12.2%. Our consumer checking and savings products with great customer service, competitive rates and fees continue to garner industry recognition as one of the most consumer friendly products on the market. Checking and savings deposits represent 86% of total deposits as of December 31, 2017. Our deposit base is well diversified across a variety of consumer and business products and verticals which positions us well to maintain and grow our net interest margin as interest rates rise. At December 31, 2017 approximately 47% of our deposit balances with business and consumer checking, 23% money market accounts, 3% IRA accounts, 9% savings accounts, and 4% prepaid accounts. We continue to have success growing our non-interest bearing deposits with average balances increasing 13% linked quarter to 862.7 million this quarter. As we expand our cross marketing efforts across more business lines and invest in our treasury management products and distribution, we should see additional opportunities to grow our non-interest bearing deposits. We believe our balance sheet to be slightly asset sensitive with five one jumbo mortgages and multifamily loans providing a good tradeoff between yield duration and credit and lender finance, commercial specialty real estate, and equipment loans and leases providing accretive yields for their generally floating rate of nature. Our deposit betas have performed better than expected. Since December 2016 the Fed has raised short-term rates by 100 basis points while our cost of funds has increased by 29 basis points despite strong deposit growth. Our expectations are for deposit rates to gradually trend higher with rising deposits betas with each successive rate increase and we will work to offset higher funding costs with improvements in our asset yields and adjustments to our loan mix. Throughout the history of the bank we have made significant investments across a variety of strategic growth initiatives that have enabled us to sustain our impressive growth trajectory and financial performance. Our long standing philosophy of continuous process improvements and controlled investments in new businesses and new technologies have served us well in terms of balancing shareholder returns and reinvestment for the future. For example four years ago we started to invest in personnel and infrastructure to expand our business banking and commercial and cash management deposit businesses. We continue to hire team and to put the systems in compliance infrastructure processes and marketing in place. Once we started to again traction in the marketplace and added more industry verticals we are able to generate meaningful deposit growth. This quarter over 50% of our deposits come from business customers providing us with fee income and high quality core deposits to fund our loan growth. We could point to numerous other ongoing investments in various stages of development. More recently one of our more significant investments in our multi-year strategic initiative called the Universal Digital Bank. Our goal of this initiative is to develop a state of the art open architecture banking platform that is highly personalized for each individual user. We are making steady progress with the core software and infrastructure fully implemented in one of our smaller consumer brands. As we become more efficient at software development, system integration, and third party on boarding our ability to offer a superior user experience and differentiated products and partnerships with third parties will grow rapidly. Similarly we continue to upgrade our management team and diversify our talent base. We opened our office in Las Vegas over a year ago, transitioning various loan production, servicing and treasury functions there. We now have 64 team members working out of the Nevada office with sufficient capacity to add up to 150 over the next few years. We recently hired a Chief Operating Officer and a new Chief Digital Officer. We also added a new business banking team in Irvine to expand our commercial deposit capabilities. While we fully expect these investments to contribute meaningfully to our revenue, deposits and earnings over time they will be a bit of a headwind to the bank's efficiency ratio until they become fully productive. Since we became a public company in 2006 our aspirational long-term financial targets have been a 15% after tax return on ROE and a 35% efficiency ratio. For the last several years we've exceeded one or both of those targets while prudently investing in future growth opportunities. Because we will generate a sizeable recurring earnings boost from the reduction in our corporate tax rate from 42% in fiscal 2017 to 29% to 30% starting in the first quarter of fiscal 2019 we have decided to opportunistically reinvest a portion of these savings to accelerate some strategic initiatives. These included additional build out of business banking and C&I lending teams, IT and other infrastructure investments, marketing and rebranding initiatives for the bank and our consumer brands, and opportunistic additions of senior level talent. The net effect is that with the exception of the March quarter when we receive the bulk of our seasonal H&R Block related fee income our target efficiency ratio for the next several years is now at 40% while maintaining an after tax return on equity of 18% or higher. In taking advantage of the favorable tax changes to accelerate invest in our business we believe we will significantly improve the probability of maintaining the earnings growth we aspire to well into the future. We will be focused on elevating our client experience, brand and service offerings to levels commensurate with the growth we expect over the next decade and beyond, and expanding existing businesses and growing new ones. Our set of investments we made this last year that was in the infrastructure side and a team to act as the sole originator of H&R Block's Refund Advance loans earlier this year we began acting as H&R Block's exclusive provider of interest free no fee Refund Advance loans to qualified H&R tax for the customers. These short-term loans secured by the borrowers expected tax refund are being originated now and through February and they'll be paid back when taxpayers receive their refunds from the IRS. We receive a fee from H&R Block based on the principle amount of Refund Advance loans we originate that is impacted by the actual credit performance of the loans versus our expected credit performance. We're excited to expand our partnership with H&R Block as the exclusive originator of the Refund Advance loans while continuing to act as exclusive provider of Emerald Card, Emerald Advance, and Refund transfer products to Blocks millions of customers. Now I will turn the call over to Andy who will provide additional details on our financial results.

Thanks Greg. First I wanted to note that in addition to our press release our 10-Q was filed with the SEC today and it is available online through Edgar or through our website at bofiholdings.com. Second, I will highlight a few areas rather than go through every individual financial line item. Please refer to our press release or 10-Q for additional details. As Greg indicated earlier BofI net income for the second quarter ended December 31, 2017 was 31.7 million down 2% when compared to 32.3 million earned in the second quarter ended December 31, 2016 and down 2.2% from the 32.4 million earned last quarter. Earnings attributable to BofI's common stockholders were 31.6 million or $0.49 per diluted share for the quarter ended December 31, 2017 compared to $0.50 per diluted share for the quarter ended 31, 2016 and $0.50 per diluted share for the quarter ended September 30, 2017. Excluding the onetime reevaluation of deferred tax asset which reduced reported net income by approximately 8 million in the second quarter of 2018 our net income would have been 39.7 million for the quarter ended December 31, 2017 up 23% from the same period a year ago and up 23% from the last quarter. As Greg noted earlier the Tax Act passed in December 2017 provides the favorable impact by reducing the federal income tax rate from 35% to 21%. However the timing of the full rate decrease is temporarily impacted by two factors first, a onetime charge to income tax expense for adjustment of our deferred tax assets and second, a 28% blended federal rate resulting from our fiscal year ended June 30th. Because half of our fiscal year ended June 30, 2018 is before the effective date of January 1, 2018 the Tax Act requires us for this fiscal year only to apply a 50:50 waiting to the federal rates. So midway between the new rate of 21% and the old rate of 35% is the 28% federal rate we will use for all of our fiscal year ended June 30, 2018 regardless of when it is actually earned during the fiscal year. For all fiscal years there after the federal rate will be 21% and when added to the state income tax rates we expect our combined federal and state income tax rate to average around 30% down from the 42% effective tax rate for our last fiscal year ended June 30, 2017. To calculate the income tax provision for this second fiscal quarter ended December 31, 2017 we first applied the onetime charge of 8 million for the adjustment of the deferred tax asset and second, we applied to pretax net income, a federal tax rate of 21%. The federal rate was adjusted to 21% this second quarter ended December 31, 2017 so that when it is combined with our first quarter's federal rate of 35% the blended six month federal rate is 28%. Going forward for the third quarter ended March 31, 2018 and for the fourth quarter ended June 30, 2018 we will use the blended federal rate of 28%. The 21% federal rate for the second quarter ended December 31, 2017 is the same as the federal rate we expect after the fiscal year end. So by excluding the onetime charge of 8 million from the quarter's income tax provision and adding the average state income tax rate to the federal rate of 21% the pro forma tax rate of 29.8% excluding the deferred tax charge for this quarter is a good approximation of our blended income tax rate for the next fiscal year and thereafter. Excluding the onetime charge of approximately 8 million and using the 29.8% effective rate for the second quarter, pro forma earnings for Q2 increased $0.12 per diluted share to $0.61 per share. Going forward for the third quarter and the fourth quarter of fiscal 2018 the blended federal and state income tax rate will go up to 36% and reduce the benefit due to the application of the blended rate. But it will fall back to 29.8% in the first quarter of next fiscal year ending September 30, 2018. Also to understand the potential impact of lower tax rates on ROE and ROA the actual ROE and ROA for the second quarter was 14.37% and 1.49% respectively which would increase on a pro forma basis to 18.54% and 1.84% respectively when calculating pro forma earnings of 61% per share -- $0.61 per share and adjusting the average equity for the full quarter reduction of our common stock repurchases. Moving to a net interest margin for the quarter-ended December 31, 2017 the net interest margin was 4% flat from the quarter ended December 31, 2016 and up 13 basis from the 3.87% in the quarter-ended September 30, 2017. The positive impact of higher interest rates on our -- from our H&R Block loan products this quarter and the negative impact of excess balance liquidity for this quarter when adjusted out of the 4% margin, results in an adjusted downward calculation of 8 basis points to 3.92% for the margin for the second quarter ended December 31, 2017. We will have a benefit next quarter from our loan growth from this quarter with the majority of the growth driven by C&I lending where the average rates are above our average loan portfolio yield of 5.38% and should continue to help to provide protection against increased deposit costs. Asset quality remained strong. Our provision for loan and lease losses for the quarter ended December 31, 2017 was 4 million compared to 4.1 million for the quarter ended December 31, 2016 and up from 1 million on last quarter ended September 30, 2017. The increase from the linked quarter is due to the seasonal H&R Block loan products which account for approximately 2.2 million of the loan loss provision for the quarter ended December 31, 2017. We have loans secured by real estate located in areas affected by the hurricanes that moved through Texas and Florida and by the wild fires and mudslides in California. We require our borrowers to maintain adequate levels of insurance including flood insurance in areas around the flooding. We performed analytic procedures and discussed directly with our borrowers to determine those properties impacted. To date we have identified to loans totaling 1.7 million that incurred significant collateral property damage up to a total property loss and a small number of loans that have had some collateral property damage. We believe based on our analysis and discussions that each of these properties appear to have an appropriate insurance coverages and that the damages incurred will not result in material loss to the bank. With that summary I'll turn it over to Johnny Lai.

Thanks Andy. Omar we are ready to take questions.

[Operator Instructions]. Our first question is from Andrew Liesch from Sandler O'Neill. Please proceed with your question.

Good afternoon guys.

Hi, Andrew.

Questions here on the Universal Digital Bank just in general how far along are you in implementing it and then just if you can provide some dollar amounts if that's possible, just curious what more needs to be spent to build it, I would like just to upgrade the technology?

Sure, so we've rolled out a prototype in one of the smaller consumer brands. We're going through a full testing process and vetting process and user experience reviews and testing. There is -- the teams that are in place now and are currently there and are in our expense -- current existing expense structure are sufficient with respect to that particular platform to continue to build it. We're trying to time the roll out of the platform to our other consumer brands before we go through rebranding so we can make sure that all that is taken care of in conjunction with a variety of other experience enhancing initiatives that we're doing. We will be going through this full omnichannel upgrade of all the mechanisms by which customers interact with the bank and a variety of other projects to really make sure that when we come out of this not only do we have really best in class user experience on the consumer and small business side but also that we're coming into the rebranding with everything that we want to do to really make a make a splash from a consumer experience perspective.

Okay, and then turning to loan growth so I was thinking past couple of quarters you talked about a mid teens pace of being what we should be looking at but this quarter is certainly above that. Any opportunity to improve your outlook or is mid-teens pace still the right number?

I think mid-teens space is right. Remember there is a relation to our Block production in this. But things on the C&I side the pipelines are very robust, single family is holding in. So I think that it's the right -- that's the right level of guidance and you have to consider that there is an H&R Block production in this number too.

Right, right. And then just one quick question just on the special mention credits on the in house originated mortgages this quarter, just curious what may have driven that?

Is that the [indiscernible]?

The taxes on the single family. So, yes, so we -- generally we review property taxes on single family properties to see exactly that they make their tax payments. If they're late in making that payments those single families will temporarily go into special mention. And so that's what you're seeing as an increase.

Gotcha, alright thank you. I will step back.

Our next question is from Steve Moss, B. Riley FBR. Please proceed with your question.

Yeah hi guys, this is actually Mackenzie Brown [ph] on here for Steve Moss today, how are you?

Hi, how are you?

Great, I just wanted to know, you guys provided some good color on this in your prepared remarks but if you could talk a little bit more about how the corporate tax cut would change your business plan looking forward into 2018 that would be great?

Sure, as I have discussed on the call we have provided really two pillars of performance that we were interested in hitting, one of the 15 return on equity and there was 35% efficiency ratio, obviously the ratio was a pretax number and ROE is an after tax number. By the nature of the tax rate going down and the way that it has I think the -- well we are updating our return on equity guidance and also updating our efficiency ratio guidance to be commensurate with the plans that we have to grow the business. So I think that where we are spending some of this additional money is that we are going to be spending it's in a variety of areas, there is no one thing. It is in some newer businesses that we're looking to continue to grow and develop that have proven themselves to be strong contributors both from an earnings perspective and yield perspective such as our consumer unsecured business which has done a very good job on the credit side but can increase their volume our auto lending business factoring. So there is a number of places that we have businesses that we've started that we want to continue invest in. On the corporate side we're going through a rebranding effort now. We're building our own digital platform. There is a personalization engine that we're building associated with that to enhance cross sell. So we've added executives in some key areas of the bank to help drive what we think is a pretty aggressive vision and a unique one. So that's really what we're going to spend that on from a standpoint of development and in the company. We also talked of course about the capital return issue. We're running now with significant excess capital and even at a target 40% efficiency ratio of the tax that's going to assist us in generating significant excess capital assuming that we're hitting a mid teens loan growth rate. So I gave some numbers around what that looks like and we're not going to continue to let our capital build up over time so we took some small action there and brought back about roughly $28 million of stock over this last period and including -- so the 28 million in this period. So we're going to be doing some more looking at whether we should be paying a dividend, buying back stock, and we're always looking for acquisitions that help us grow our businesses well.

Great, I really appreciate that. And then just one more, does a flatter yield curve change any of your loan growth strategies moving forward into 2018?

I think a flatter yield curve makes margin maintenance more difficult in general. A decent part of our business is out there on the five one arms, so that's certainly something that's meaningful. Obviously the C&I production is shorter term, has better interest rate characteristics. So we've been shifting on a relative basis to the C&I loan categories which do benefit from short-term increases and rates relative to yield curve flattening in that five year range.

Great, I really appreciate it. I will end my questions here.

Our next question is from Gary Tenner D.A. Davidson and Company. Please proceed with your question.

Thanks, good afternoon. Just wanted to make sure that I'm fully understanding the efficiency ratio sort of change in tone there. Greg, it sounded like 40% is the target in the non fiscal third quarter and then obviously that tends to be a lower quarter so we would pull down the overall petitions ratio for the year and is that a fiscal 2018 or sounds more like the next couple of years is kind of what the view is of?

I think it is for the next couple of years. Obviously I think that there's just a lot that we need to do and I want to take advantage of the opportunity to do that. So I think you should think about that for the next couple of years and if it changes then we're able to achieve some economies that are beyond that and we'll certainly update you.

Okay, and then as you roll into fiscal 2019 though when you get to further step down in the tax rate obviously it doesn't change the efficiency ratio but it would help to support the ROE, it looks like at some level above the 18% so is that the right way to think about it or are you going to be managing more towards the 18% number to give you some more freedom on spend?

No, I think the way that we got to the 18 numbers if you look at a 15 ROE and then you adjust that tax rate you get to around 18. Clearly though what that is dependent on, the reason why we're at 15 in that baseline and not at a higher level when I'm doing that change in calculation is because we have all this excess capital. So as the excess capital is deployed, the return on equity at a base level prior to the tax benefit should increase. And so no, if you really look at it right we've been sort of inching up to that 40% efficiency ratio over the last number of quarters anyway. And we've kept that guidance out there under the hope that we could see some improvements there. But the reality of what I see when I look at all the things that we want to do I am just simply unwilling to trim them and sacrifice the long-term future of the bank over a number that is really not particularly meaningful anymore because of the relationship between the pretax income and the after tax income has changed based on the tax rate. And obviously what we're focused on is the ultimate return on equity which is the most meaningful number.

Okay, fair enough. And then just, Andy I think you've gone through this maybe in your prepared remarks are actually very good, obviously running through the production but the period end loan balances obviously well above the average could you tell us what the kind of seasonal impact recurred and impact is or was from the H&R Block related products?

Yes, so couple of notes there, we did have one large C&I pay off early in the quarter which then got replaced later in the quarter which caused the average to drop. In general the deployment of the block loans from a year-over-year perspective it's very similar. So that would be the Emerald Advances are going out in November, late November and so about smack in the middle of the quarter. So that really hasn't changed year-over-year. The rest is just simply production particularly for C&I was loaded in the last half of that quarter which is why you know the point in time is higher than the average.

Thank you.

Our next question comes from Brad Berning, Craig-Hallum. Please proceed with your question.

Good afternoon gentlemen. Obviously a little bit better growth this quarter, can you walk through your progress on the jumbo mortgage book and obviously some of the attrition rates you've had last few quarters, talk about the progress there since you said a little bit better growth there but showed very strong growth in multifamily C&I, can you just talk a little bit more about what you're seeing from market conditions, what you are seeing for opportunities and how sustainable is the growth that you're seeing this quarter but then can you tie that back into kind of the efficiency ratio investment so you're looking to help sustain the growth, I mean how do you think about what is a targeted sustainable growth rate that you're thinking about given the additional investments?

Sure, so over the next several years we're still targeting from an asset growth perspective into the mid teens. So, the 15% maybe slightly higher, we'd like to achieve that. We think that's very achievable with the existing businesses that we have continuing to grow and develop in their normal course. With respect to single family they did have a good quarter this quarter. The first calendar quarter of third fiscal quarter tends to be slower for single family loans whereas on the commercial side they tend to be slower for single family and some multifamily, sort of the more mom and pop styles where they kind of don't really focus on doing deals from that Thanksgiving period through Christmas. Whereas hardcore commercial folks necessarily if they want to do things they are going to continue to do that. So I think that single family just historically has had a little bit of a dip in that quarter coming off the holidays. But overall I think the team is focused and there's lots of opportunity there still. I think there is increased competition there with just some banks continuing to be aggressive in that space. But I think we have a very good mature business there that I'm confident that's going to continue to perform. So, from a sustainable growth rate perspective we're looking at that 15% range. I think that's a good place to be for us. Was there -- is there another piece Brad that you wanted to talk about there.

No, I think that's fine, just want to make sure as far as more from a sustainability on a near-term basis as well and then one other follow-up is given the excess capital and given that the appetite for portfolio acquisitions, can you talk about what does the market look like given some of the interest rate changes out there, what are you seeing for opportunities?

From a straight loan portfolio acquisitions opportunities set I can't -- we haven't been incredibly focused on that but we are in a flow to some extent and I don't really see a lot out there. I think that banks are very hungry for loans. We have a very significant appetite for other institutions looking to purchase our products. And if we could generate more we could certainly sell those loans. So I don't really see that as something that we're going to be pursuing. There are interesting acquisition opportunities here and there that we look at that would be part of our strategic plan that we could use the excess capital for. But the most obvious utilization of that excess capital will either be for the institution of a dividend which we haven't decided upon but we are actively discussing or continued share repurchases.

Thanks very much, appreciate it. Thank you.

Our next question comes from Austin Nicholas, Stephens. Please proceed with your question.

Hey guys, good afternoon. Maybe on just on the H&R Block impact on a name, I know you've mentioned kind of 8 basis points all in number but could you break that down between just the negative impact from the excess liquidity and then the benefit from the lending products?

You know generally the way to think it is we have probably on the excess liquidity front around 150 million at approximately call it 140 basis points to factor in. The block idea, we don't usually discuss that because we don't want to give an early indication of what block volumes are. But you can back into it using that number. So if the negative impact is 150 million of excess liquidity at roughly 1.4% rate.

Got it, okay, that's helpful. And then maybe just dwell around the topic of H&R Block, looking out to the next quarter, can you give any idea of has the changes in tax reform changed anything in the business in terms of volumes that I know you obviously don't want to speak to H&R Block but any color you can give on how you're feeling about those initial call it pre tax revenue numbers that I think we are guided to when you adopted the full relationship?

Well, yeah, you're right we're not going to speak to any of the volumes or any of those things but our guidance has been very straightforward. It has been -- the amount of money that we have made last year from H&R Block is the amount of money you should stick in your model for this year. With respect to any other indications we're just not going to go there.

Understood, great, well I think all my other questions have been answered, thanks guys.

Our next question comes from Jesus Bueno, Compass Point. Please proceed with your question.

Alright, thanks for taking my questions. Let's start quickly on the jumbo side, we heard some concerns about higher tax states losing sales production and the impact of the broader mortgage interest deduction. Your pipeline seems pretty healthy and you have maintained your loan growth guide, I guess are you seeing anything in volume that would make you think tax reform is impacting anything on the volume side there?

You know we have not seen that. I think that whatever -- if you do that math on that right, you look at the difference between 1 million and 750 and you look at that on the mortgage interest side, it's not that significant. The property tax reduction is more significant from the maintenance of high end homes. You are counteracting that is obviously we see a lot. The higher end homes that we do and the type of people who buy those homes are heavily impacted by the stock market and asset values. So the fact that the stock market has done so remarkably well in a more free society than we've had previously under prior administrations I think is going to drive some housing demand. Now whether that housing demand ends up in California and high tax states or it ends up in states that are a little more or less regulatory oriented is yet to be seen. However we're also a nationwide lender so just need to make sure that we have the appropriate presence in all places and to the extent that there would be demand for homes in a high tax state that would drop. You would imagine that that demand would be pushed somewhere else.

That's helpful, thank you. And jumping back to capital return, you have mentioned a few uses for deploying capital. I'm just hoping could you prioritize I mean between buying back dividends and acquisitions and obviously you bought back closer to two times tangible if you could also add kind of how you think about buybacks, I guess at what level you'd be more willing to be buying back your shares?

Yeah I think that's a question and a set of our discussions that we're actively engaged in looking at. And we're looking at the analytics around what sort of dividend would make sense, what our shareholder base looks like and whether there are investors that typically would focus on dividends and what kind of benefit that shareholders would receive from that. I mean clearly we have -- I think we have because of the fact that we're very profitable business our price to earnings ratio isn't particularly great. However, you can always argue about what book value multiple should be for a very profitable company, right, arguably as you sustain a higher level of return on equity it should naturally have a higher book value multiple. So for a company that makes 10% return on equity maybe a two times book value multiple is good but it might not be good for a company that has an 18% or 19% ROE. So, I think those things are things to consider. Clearly from an acquisition perspective we don't view acquisitions and say gee, we've got excess cash so we should just go to Nordstrom's and buy a company. So that's going to depend on whatever. If there's something that is a good value and it is added to our business in a way that makes long term sense then we'll do that deal. And if we had to finance it we would. But the issue right now as we do obviously have the benefit of that tax cut, we have investments that we're going to make but those investments are simply -- and growth that we're going to absorb but the reality as we're simply going to have excess capital. And there's only so many ways to return that capital to shareholders and so we have to make a decision about it.

That's great, thank you. And if I can just slip one more and we have put a lot of talk about deregulation for banks, it's mainly been centered around systematically important banks at the 50 billion level, but there has been some talk of perhaps raising a threshold for DFAST banks up from 10 billion to perhaps 50 billion but I take it that in your efficiency guidance you have most of the costs associated with DFAST baked in there but I mean hypothetically speaking if we were to see that threshold listed, I guess would you have the ability to perhaps I guess lower your expectations for where your efficiency ratio would shake out if that were the case?

I don't really -- thanks very much. You are right and we have been investing in all the DFAST modeling and those sort of things. But that's not really the biggest driver at 10 billion, the biggest driver for us at 10 billion is obviously the interchange side of it. It is not something that's really being talked about. So, that's an issue for us. The DFAST side I think we have a very analytically sophisticated bank with good data infrastructure. So I don't project that that's going to be a significant difficulty. And the level of investment we're making in analytics to do the really complex things that we're looking to do you, we're looking forward to figuring out how artificial intelligence can be used in reg tech and things like that. So I don't view DFAST as this massive challenge and that it would be much more important if we could get Durban removed but I don't think that's going to happen, I don't think that's being debated.

Probably safe not to bid on that. Great, thanks for taking my questions.

Sure, thank you.

Our next question comes from Edward Hemmelgarn, Shaker Investments. Please proceed with your question.

Just got a couple questions. First, related to the accounting for the loan advances in the first quarter at the end of the Emerald program with H&R Block. In last year you accounted for as interest income but trying to say this year it's all just going to flow through -- none of it will flow through interest income what it will just flow through is fee income, is that correct?

Yes, Ed first let me clarify just for everybody that there are two different products, there's a product called Emerald Advance that is a product that we did this quarter meaning the second quarter ended December 31, 2017. That product is in interest income and the balances are shown as interesting income in yield. The product you are alluding to is called Refund Advance. Refund Advance is a non-interest bearing advance to the consumer. The payment for our advance on that product is a fee that we receive from Block. So the accounting for our next quarter will be as you suggest, there will be fee income for the advances. However we will show the loan loss provision in loan loss and there will be no interest income. So it'll non-interest bearing for the average balance. So that's a little bit different from last year where we purchased the RA's but you'll see it increase fee income next quarter.

And that fee income, the fee income is grossed up for two components. One component is the expected fee that we negotiated to make and the second is the expected credit losses. So you will see a higher fee than the expected profitability and then you'll see the loan loss provision associated with the expected credit losses. And so, to make the account you just have to understand what that accounting is going to look like. If our models and the work that we've done and the credit underwriting side is better than expectations and the agreed upon level then we will make more money and if it's worse we will make less and that's the way it's going to be accounted for next quarter.

But you could I mean depending upon how the numbers work out I mean you could see a drop in net interest income after provision this March quarter compared to the December quarter. But then that's all more than offset by the big pickup in fee income?

Yes, that would be the likely result and the only way that that would not be the result is if somehow we vastly underperform on the credit side there which we clearly don't expect. But there is always a possibility at least contractually. And then at the point in time where our fee income would be reduced to zero we have certain guarantees from Block and other things but we obviously don't expect that to happen and that would be an event that would be very bad and these are very safe loans. They are repaid by tax refunds. So, we expect that we'll have a nice return from them.

Okay, and I can understand how under the Durban you don't want to be losing the additional interexchange fees so would you -- then the cutoff date is always as of December 31st for all banks?

Yes.

So, I am assuming that you may work to keep your asset balances under 10 billion for a year from now?

Yeah, I think that that's a reasonable assumption. I think that what we'd like to do is delay that impact if it's on balance. Right, it's not significant enough to delay loan growth in any substantive way for a long period of time. But it's enough that if you are close to it we would -- we would try to make sure that that would be the case because what happens if you have that December measurement period you're under that threshold in December then you're going to go whole other year and then you're going to have that impact occur in July or July 1st of that subsequent year so it buys several years of time associated with that with that impact.

I'm assuming that you would also then have more -- perhaps more opportunities to expand the securities portfolio than in calendar 2019 if you anticipate going over the $10 billion number anyways?

I think that's right. I think well you're bringing up something, I mean it's obviously three legs to a stool, there's capital, there's some asset which could be loans or securities and there's deposits or borrowing, right. And so I think clearly at a point where exceeding with securities in order that $10 billion mark prior to December of 2019 calendar is probably not a good decision. And I think that obviously we have the capital to do that, we have the capital to increase the balance sheet dramatically. But we're looking for balanced growth. So that balanced growth in the loan portfolio as we've -- and we have been kind of shedding securities as you know but the securities portfolio is relatively small now. So there's really not a lot of opportunity to make that smaller and the opportunity to make it bigger is impacted by the timing of that movement overtime.

I mean you said prior to December 31, 2019 you are talking about --?

Yeah 2018, I am sorry.

I mean it is pretty hard for you to keep it under.

Yeah, no I'm sorry I was wrong, I'm sorry I misspoke, I apologize. Even as well as I have been doing this fiscal calendar year thing some plans gets to me. Yeah 2018.

Okay, thanks for the explanations.

Our next question comes from Michael Perito, KBW. Please proceed with your question.

Good afternoon guys, thanks for the time. Just a couple of questions from me, I guess, maybe just on that topic of $10 billion in Durban, since you guys were just on it. Just kind of curious, does that, and I understand that if you stay under $10 billion through the end of this year kind of pushes out any potential revenue of impact to mid 2020s as you just mentioned but is that kind of factored into that 40% efficiency outlook for the next couple of years here, the potential loss of interchange or decrease of interchange revenue related to those relationships?

Yeah, we believe so. Obviously we think there is -- we think as we grow certain books and we get through certain investments there's an opportunity to improve that and then you also have this negative associated with that and there's other opportunities to mitigate through product design and negotiation with some of the relationships and things. But it's something that we have thought about.

And then I was curious as you mentioned in your prepared remarks, the deposit betas looked pretty good this quarter and you have had a kind of full four quarters or now with success or raises to kind of use the increase of pricing. I was just curious if you could maybe give us any more kind of granularity about which specific, are there any niches that have performed stronger, I mean has most of the increase been in kind of the retail consumer side, just any more like specific color on some of your different deposit verticals that you can give us in terms of the pricing trends?

Yeah, I think we've had -- I would say it's been pretty good performance across the board except non checking, savings, retail, retail savings and that's just been subject to a plethora of new competitors. So to the extent that there are folks that are willing to move and look for higher rates and they're chasing those rates there's a lot of movement, right. The one couple day period Goldman moved I think it was 20 basis points in a day. There's just a lot more online banks looking to get higher yielding, online savings accounts, peer point, others, Union Banks peer points. I think people would have been shocked if they thought that Union Bank would be out offering much higher rates than I am in our core brand but that has been the case now for quite a while. So our goal is obviously -- what we have to do and our margin depends on it. It's actually key to our business plan and continue to diversify our deposits. We've done a good job and we have a lot of investments in the commercial cash management side. We have a very good product set there, we have good people there and we can save companies a lot of money. And so there's a huge pocket of money for us if we can do that, they continue to grow that. So it's really about that balance of continuing to work to take to take the quality of the deposits and the channels that are most attractive and grow those. And recognizing that the online savings side is subject to more competition. So, and that's the reason why we're spending so much time on this universal digital banking project so that our platform will be differentiated and so with the differentiation of the platform we are working through the brand side of it too which is a longer term deal but we're spending a lot of time and effort on that. I could think about what that looks like going forward, the service side. And then clearly we have a fee based advantage on the checking side and things like that. It will be more difficult to sustain that fee based advantage on the checking side because a lot of our checking accounts are supported by the interchange side. As the interchange goes down that's a cause for concern. We have some product design ideas around that but that's something we have to deal with. So you know I think -- look I think we have a good strategy, we've got lot of tools in place but that's why we've got to continue to evolve via the business too to do what we've been doing which we've been -- and by the way we've been very successful at it. It's not as if this is something that we're just been talking about. We knew that obviously rates wouldn’t stay low forever and we've been working very hard on it and I think particularly given the growth we've had in our deposits we have done pretty well on the beta side and pretty well in developing some good business deposits here.

Helpful color, great, thanks. And then just one last one, I apologize, I've been jumping back and forth for a couple of calls, but I know you've repurchased some shares in the quarter, you talked about it, and I know I am not going to ask the capital question again and beat that horse but just curious if you can give any color on what type of repurchase authorization you currently have outstanding and what's left on it just going forward?

Yeah we have -- trying to think about it, basically we have a publicly announced share repurchase amount that was left, is there 170, was it -- 128 million [Multiple Speaker] well I think frankly if we decide that the board is engaged in this discussion so if we decide that we're going to pursue a return of capital primarily through share repurchases we will simply make sure that all the formalities are in place to do that. And if we obviously decide that it is through dividend then we will do that.

Okay, great, well thank you for taking my questions I appreciate it.

Our next question is from Don Worthington, Raymond James. Please proceed with your questions.

Thank you, good afternoon. Just a couple I guess more minor questions. Greg you mentioned the capacity in the Las Vegas office, just curious as to what the drivers might be for adding people there, would it be volume driven or growth driven or would there be reason to move existing employees to Nevada?

We've had some existing employees who have raised their hand and wanted to move often for cost of living reasons. And we have a certain groups that we've decided to locate there because we think that the talent pool is better there and it's more sustainable to have those groups there. Obviously there is a tax benefit to having employees in Nevada and so overtime we think that we'll continue to look at the different opportunities to source employees in a manner that makes the most sense. And I think one of the benefits of being in San Diego despite the really terrible tax rates we have in California is that you have a lot of talented people here who are dislocated by all the companies that are moving. And so we've actually been able to take advantage of that. So it's somewhat of a counterintuitive talent strategy but in places that are booming because they're more competitive like Texas. Companies are relocating there whereas here companies are leaving and so it allows us to attract talent here.

Okay, great. And then are you seeing any shift in the composition between purchase and refi of your single family lending?

Yes, both on the gain and sale and the jumbo side. We've been investing a lot in some interesting technology ideas to better connect us to the purchase market to better work on purchase leads which tend to have a longer gestation period. So we're seeing a positive movement there. The jumbo business has always been very purchase oriented but the gain on sale business is becoming a much more purchase oriented as a result of specific strategies including a very specifically focused sales team in Las Vegas that is purchase oriented for gain on sale.

Okay, great, thank you.

Ladies and gentlemen we have reached the end of the question-and-answer session and I would like to turn the call back to Johnny Lai for closing remarks.

Thanks. I know we ran a little bit over here so appreciate everybody staying on. If you have any follow-up questions please give me a call and we will talk to you next quarter.

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation.