Banc of California, Inc. (BANC) Q2 2018 Earnings Report, Transcript and Summary

Hello, and welcome to Banc of California's Second Quarter Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator instructions] Today's conference call is being recorded. And a copy of the recording will be available later today on the company's Investor Relations Web site. A presentation that management will reference on today's call is also available on the company's Investor Relations Web site. I would now like to turn the conference over to Mr. Doug Bowers, Banc of California's President and Chief Executive Officer. Mr. Bowers, please go ahead.

Thank you, and good morning everyone. I appreciate your joining us for today's second quarter 2018 earnings conference call. Joining me on the call today is John Bogler, Banc of California's Chief Financial Officer. Before we begin discussing the quarterly results, I would like to refer you to our Safe Harbor statement included in both the earnings release and the earnings presentation. With that, I will start by saying I am pleased with the progress we are making in executing on our three-year strategic roadmap. While we are only two quarters into our journey, we continue to see positive signs. To remind everyone, that roadmap includes four primary points of focus that we expect to achieve over the ensuing 12 quarters. Before John speaks to the detailed financial results for the quarter, I want to spend some time updating you on our progress and work to date on these strategic goals. In short, we are happy with the early accomplishments, and remain confident in our ability to execute on the full strategic plan. That said, we will recognize we have plenty of work ahead of us. As a reminder, the four focus points on the Banc roadmap, B-A-N-C are B, build core deposits; A, amplify lending; N, normalize expenses; and C, create stockholder value. First and most importantly, build core deposits. On this front we have fully exited the high-rate high-volatility institutional deposits and have accelerated our efforts to grow core deposits. For the quarter core deposits grew by $357 million, allowing for the reduction of wholesale funding sources, namely brokered deposits and FHLB advance. Quarter-over-quarter, brokered deposits declined by $323 million while FHLB advances declined by $100 million. While we saw strong growth in core deposits, it should be noted that this growth was mostly in higher-costing deposits. As we have noted in the past, we envision our overall funding transformation occurring in three phases. The first phase was to transition out of high-rate high-volatile institutional bank deposits into more traditional wholesale funding. This has been accomplished. The second phase is to transition out of wholesale funding into core deposits. And the results this quarter are a strong indication of our capabilities. Overlapping with the second phase, the third phase is to begin to convert the higher-costing core deposit pursuits into lower-cost relationship-based deposits. This third phase is receiving growing emphasis but will take time. As for key insights, we continue to gain traction in all our deposit gathering efforts. Commercial real estate, while a relatively modest contributor, continues to add low costing deposits through the direct-to-borrower channel we initiated late last year. The Community Bank or retail and small business channel is redefining their approach to deposit gathering, and is demonstrating their ability to deliver on growth plans. The specialty and treasury management groups are also gaining traction and continue to build an impressive pipeline. I particularly want to comment the private bank team for their success in both gathering deposits as well as bringing in low-cost core deposits and offering first-class service to our clients. It is worth noting that this is the first quarter in which all our new leaders have worked together. And I must say it's already paying dividends. The teamwork, collaboration, consistent messaging, and training across all our frontline business units has been impressive. Jason Pendergist and Rita Dailey have each been in their respective chairs less than a year and are changing the way we think about commercial deposits and treasury management services. Leticia Aguilar has been onboard for five months and has upped our game considerably with respect to how we engage with our customers. Jay Sanders is our seasoned veteran, of over 18 months in the role, and he continues to lead a talented team in our private banking business. For the first half under the year the private bank well exceeded their goals for loans, deposits, and managing the cost of deposits. With these leaders and their teams firmly in place, coupled with having a fuller product set, we expect to see meaningful progress in growing core deposits over the coming quarters. On a related note, over the next two quarters we will also plan to re-launch our small business banking product set with a coordinated effort across all of our frontline commercial banking units. Lines of credit, term loan products, and cash management services will be offered with the primary focus, as you would guess, on gathering deposits. Our second strategic initiative is to amplify lending. While our gross loan production for the quarter was below expectations, we remain very encouraged by our pipelines across the franchise. The real estate banking teams are now largely established, while we continue to seek additional talent to join both our private banking and commercial banking teams. As noted earlier, we will soon re-launch the small business banking platform. And while it will not provide meaningful loan volume in the short-term, it further enhances our ability to sell treasury management services and gather deposits. In addition, before the end of the third quarter, we expect to re-launch a business banking platform with a narrower focus that is more tightly integrated with our other divisions. Coupled with our existing middle-market banking team, we will soon have the ability to offer robust credit products and treasury management services to key client segments from $500,000 to $250 million in revenue. All of this, alongside our maturing private bank services, for high net worth individuals. For the first-half of the year the annualized loan growth was 11%. And we fully expect to achieve our mid-teens target rate for the full year. As mentioned earlier, the loan pipelines we are seeing today support that expectation. In the early part of the quarter, a new loan origination system was implemented. And other efforts are underway to further improve on the time it takes to originate and fund a loan. We believe the increasing use of technology combined with streamlining the onboarding process will ultimately lead to an improved customer experience, and a reputation in the market as a preferred bank. Third, normalize expenses. Late in the quarter, we announced reduction in fourth that resulted from the simplification of our operating structure, and in the recognition of the process improvements being implemented throughout the bank. Over the past 12-plus months the conforming mortgage platform was sold. Non-traditional investment securities have been sold. The majority of the bank's MSR asset portfolio was sold. The institutional banking was right-sized, and we exited the trust business to name just a few of the operating changes that have occurred here. While friends and colleagues were impacted by the staffing actions, it was a necessary step in furthering our commitment to create an efficient and focused bank. This quarter included several other transactions and non-recurring items. However the core outcome was operating expenses were reduced to $54.3 million. The result was better than we had expected. And while we believe the recently announced expense reduction initiative will produce incremental benefits, efforts will also be focused on further building out the frontline businesses. Fourth, creating stockholder value; second quarter reported ROAA and ROATCE were 58 basis points and 6.03% respectively. We recognize these results are well below our long-term targets of 1% plus and 12% plus respectively. We are confident in our planned and initiatives underway. And by continuing to focus on growing core deposits and accelerating core lending efforts, while leveraging our expense base, we strongly believe we can drive returns towards these targets. As part of our commitment to aligning our interest with our stockholders, you saw earlier this year that we published the metrics for our 2018 annual incentive plan, which apply to myself, the other named executives in our proxy, and other portions of which apply to the senior management team. These metrics are aligned with the plan we shared with you in the metrics we are focused on. Those metrics include core deposit growth, ROAA loan growth and adjusted efficiency ratio, in addition to minimum gain in threshold around capital and credit quality. Our goal here is to be good storage of your capital, and the Board and I take that task very seriously. I want to ensure all of our interests are aligned. As I've noted before, the incentive approach and goal-setting efforts are aligned not only with me and my leadership, but just as importantly, are aligned throughout the organization. With those opening remarks, I would now like to turn it over to John to provide more detail around our second quarter financial results.

Thank you, Doug. During the second quarter, we continued on our plan to remix the balance sheet toward more traditional core assets and liabilities, with the overall size of the balance sheet remaining flat at $10.3 billion. On the asset side, we continued to reduce our securities portfolio which declined by $127.5 million, and securities as a percentage of total assets declined to 22%, and continue to trend to the targeted range of 15% to 20% of assets. Included in the ending securities balances are $130 million of CLOs that have been purchased but not settled under our trade data-counting. Further, based on feedback from various sources, an estimated $150 million of CLOs will be called in the third quarter. The net impact is that the CLO portfolio will continue to decline, with the net proceeds expected to be redeployed to loans. Also during the quarter, we completed the sale of additional $3 million of mortgage servicing right or MSRs. The bank will continue to provide services related to the remaining MSR balance which is now immaterial to the core business platform. The asset remix was supported by continued growth of core held-for-investment loan balances which increased by $105 million for the quarter. During the quarter, we elected to sell $132 million of single-family loans, $71 million of multi-family loans. These sales were focused on performing long-duration low-coupon loans with the sale executed primarily for interest rate risk management purposes. Going forward, we may continue to selectively sell portions of the loan portfolio to manage interest rate risk, reduce concentrations in selective borrowers, or to manage overall loan portfolio growth. For the first-half of 2018, the annualized rate of loan growth is 11%, and we remain confident that the full-year growth rate will meet or exceed the long-run target of mid-teens' annual loan growth. Gross loan production totaled $765 million for the second quarter, and new production yields on average were 5.05%, substantially above the blended portfolio loan yield of 4.63%. The higher loan production yields we saw in the second quarter were largely reflective of a higher macro rate environment. And the spread above existing portfolio yields should give us a degree of tailwind as new production balances continue to grow. Net held-for-investment loan growth was primarily driven by C&I growth of $104 million, while multi-family growth of $16 million was muted by the previously mentioned $71 million pool sale, along with a number of deals that moved into July. The commercial real estate portfolio grew by $21 million, and the single-family portfolio declined by $27 million due to the previously mentioned $132 million pool sale. Commercial loans collectively increased by $150 million or 3% from the prior quarter, and are up $178 million or 18% from a year ago. At quarter end, commercial loan balances totaled $4.8 billion and represented 68% of the loan book. Over the past year the gross loan portfolio has increased nearly $1.1 billion or 18%, further supporting our belief that attaining our loan growth target is achievable. On the deposit side, we saw strong core deposit growth of $357 million, alongside lowered brokered deposit balances of $323 million, and lower FHLB advances of $100 million. The deposit was largely centered on savings accounts which increased by $124 million over the prior quarter, and CDs which increased by $309 million. As Doug noted, we are in a multiphase transition of the deposit portfolio. With the passage of time we expect to migrate the core deposit portfolio to an overall lower cost on a relative basis. Core deposits or non-broker deposits now account for 75% of total deposits, up from 72% at the end of the fourth quarter. FHLB advances decreased by $100 million during the quarter as growth in core deposits allowed for the repayment of overnight advances. During the quarter, one term advance was secured for the seven-year term which totaled $200 million and is part of our overall balance sheet and asset liability management activities. Transitioning to the income statement, net income available to common stockholders for the second quarter was $9.7 million or $0.18 per diluted common share. For continuing operations, earnings per diluted common share were $0.16. These results include a number of items that we want to call to your attention. The company's second quarter reported financial results included $6.4 million of net nonrecurring expenses. This included $4 million of severance-related costs associated with the reduction in force, $6.9 million of legal and professional fees, and a $900,000 charge for various other items. These costs were offset by a $5.4 million insurance recovery related to ongoing director indemnification expenses. After adjusting for these nonrecurring expense items, our operating expenses for the second quarter were $54.3 million, for which we have provided a reconciliation on page eight of our slide deck. In the June 28 published 8K regarding our expense reduction initiative it was indicated that we expect to reduce go-forward expenses by approximately $15 million due to the reduction in staff along with the reduced use of third-party advisors. Our expectation is that the go-forward expense savings will be phased in over the third and fourth quarter with approximately half of the savings starting to be realized by the middle of the third quarter and the balance of the expense savings starting to be realized by the middle part of the fourth quarter. We also plan to continue investing in our frontline business unit, which will offset some of the current and expected expense savings. The result of excluding the non-recurring items for the second quarter and normalizing our tax rate of 20% put us closer to a core earnings figure continuing operations of $0.23 per diluted common share, which we have detailed on Page 09 of today's slide deck. Average interest earning assets for the quarter were unchanged from the prior quarter at $9.7 billion both remix of assets and securities in the loans and growth of the earning assets are key growth plan to drive revenues higher over time. Net interest margin increased by 3 basis points for the quarter to 3.01%, which was above our expectations. The yield on interest-earning assets increased 23 basis points for the quarter, driven by a 15 basis point increase in loan yields to 4.63%. The securities portfolio yield increased by 31 basis points from the prior quarter to 3.78%, largely driven by the quarterly rate reset on CLO investments. The costs of interest-bearing liabilities increased 22 basis points to 1.60% primarily due to a 21 basis point increase in interest-bearing deposit cost and a 34 basis point increase in FHLB borrowing costs. The increased FHLB borrowing costs were driven by both higher short-term rates on overnight advances, which totaled $775 billion at the end of the second quarter; as well as increased interest expense as a result of the longer term FHLB advances I mentioned earlier. While we benefit in second quarter from various rate resets on the asset side, we remain very early stages of our deposit growth initiatives and the transformation of our overall liability funding structure. Despite the increase in net interest margin for the second quarter, we believe the margin could come under a bit of pressure for another quarter or two at which point incremental deposit traction and higher loan yields should prospectively drive the margin back above 3% and slowly expand thereafter. Interest income increased by $1.3 million from the prior quarter to $72.8 million, which is the first quarterly increase in net interest income over the past five quarters. For the second quarter, loan interest income increased $6.4 million due to a $250 million increase in the average balances and a 15 basis points increase in the average yield. Interest income on securities is relatively flat as average balances decline by $246 million offsetting a 31 basis points improvement in the average yield. On liability side, interest expense on deposits increased $3.5 million as the average balance increased by $79 million and the average rate increased by 21 basis points. Interest expense on FHLB advances increased by $2.1 million due to $116 million average balances and 34 basis points of average higher rate; the growth in net interest income is an important step as we continue to remix and reposition both assets and liabilities. The composition of interest income continues to improve as commercial loan interest income now represents 54% of total interest income. Loan interest income now comprises 77% of total interest income up from 73% a year ago. For the quarter, we recorded $2.7 million provision for loan losses which included $372,000 of charge-offs related to the sale of performing loan pools. Under our accounting policy, we attribute a portion of the loan sale as a credit charge against the ALLL balance with an offsetting amount included in the gain on sale line item. Net of this accounting treatment, the provision for the second quarter was $2.3 million as mostly reflected a slight decrease in the loan portfolio along with further enhancements to our ALLL model. A slight deterioration in the loan portfolio is attributable to borrow performance and not necessarily risk of loss. The ALLL balance coverage ratio of nonperforming loans is 254%, while the overall ALLL ratio was 81 basis points. Total non-interest expenses for the quarter were $62.5 million, which included $6.4 million of onetime expenses and $1.8 million of expenses from solar investments. Our current solar tax investment commitment is largely completed. For the third quarter, we now expect to see the solar expense moderate with a similar level of tax benefit. For the fourth quarter, we would expect to see a small amount of expense on solar investments largely offset by a small amount of solar tax credit with our tax rate returning to a more normalized level of 20% to 25%. As noted non-interest expenses included a number of items that we do not consider to be core operating expenses. These items totaled $6.4 million and adjusted for these items, core operating expenses came in at $54.3 million. Our adjusted efficiency ratio came in at 74% for the quarter and continues to reflect more of a revenue opportunity for us to the extent we can improve on our net interest margin grow the earning asset base and begin to generate fee income from our expanded deposit and treasury management initiatives. Non-interest expenses-to-average assets came in at 2.12% from continuing operations for the second quarter after adjusting for the nonrecurring expense items. Over time, we expect to leverage our expense base through asset growth coupled with infrastructure investments that we believe will improve operational efficiency and manage this number closer to 2%. Our capital position remained strong, as the common equity Tier-1 capital ratio was 9.90% and a Tier-1 risk-based capital ratio totaled 13.83%. As many of you know, we have a $40 million preferred issuance with an 8% coupon that comes callable starting September 15 of this year. At this time, we have not made decision on whether to call prefer or defer action for another quarter or more. We expect to make a decision on this trench of deferred prior to August 15 and the decision is to call the preferred, we will make announcement at that time. Moving on to credit and asset quality metrics for the second quarter; our nonperforming asset ratio for the quarter was 22 basis points, consistent with the prior quarter. This absolute low level of non-performers reflects the disciplined credit culture of the bank and remains strong compared to peers and the industry broadly. Nonperforming assets-to-equity continued to remain strong at 2.3%. Delinquent loan metrics are strong and decline to 38 basis points compared to 63 basis points at the end of the prior quarter. Net charge-offs for the quarter were $738,000 and include $372,000 related to the accounting treating of the performing loan sale discussed earlier. Adjusting for the charge-off related to performing loan sale and the annualized charge-off rate for the quarter would have been two basis points. With that summary of our second quarter financials, I would now like to turn the call back over to Doug.

Thank you, John. As mentioned in my opening remarks, we are beginning to see the potential for Banc of California. Earlier this month, we held a full day offsite meeting with over 100 of the top leaders from the bank along with all of our client-facing teammates; the energy optimism, desire to succeed and work as one was all very inspiring. Coupling that kind of tenaciousness with the most robust market in United States and maybe the world Southern California, gives me plenty of optimism and determination that we are indeed on the road to building something special with Banc of California. That concludes my prepared remarks. Operator, now let's open it up for questions.

[Operator Instructions] The first question today comes from Timur Braziler with Wells Fargo Securities. Please go ahead.

Hi, good morning guys.

Good morning.

First question relates to loan growth and the loan sales that occurred this quarter. I'm just wondering as you look out for the remainder of the year, how should we think about the loan sale strategy and how much of that is going to be driven by the ability to generate core deposits?

Well, let's kind of break that apart. I'll talk a little bit about the loan growth and the deposit side, and ask John to comment more on the loan sale side. Loan commitment is a little bit in the second quarter, a little bit below what we had planned. Outlook however, given pipelines and how we are seeing the rest of the year on a fold makes us pretty optimistic both on the top line as well as a loan growth overall, so both outstanding to end commitments. With respect to deposits, obviously that's in many respects comes with, and the quarter was quite good. On the deposit side, we are obviously very pleased, that is as we stated more of the higher rate the Phase 2 of this process and we are doing a lot of work, we started this wall business banking program, restarted it rather. We've commenced with much more rigor, our business banking and little market capabilities particularly now under Jason Pendergist's leadership. And then, all the work that Rita Dailey's team is doing on treasury management side and the specialty deposit side, put all that together with Leticia's retail banking, community banking efforts and the great success that Jay Sanders has had on the private bank, we are pretty happy. We got a lot of work to do on the deposit side, but we are pretty happy there.

John, can you comment on the loan sale side?

Yes, certainly on the loan sales what we did during the second quarter was primarily for interest rate risk management purposes and so the sales were in longer duration, lower coupon type instruments and I think like 10-1, 7-1 hybrid type instruments and many of them were IO in nature. So it was primarily intended just to simply shorten the duration and help us out to the extent we have a rising interest rate environment. So wasn't necessarily about balancing the rate of growth in the loan portfolio. So as we continue to move through the second half of the year, we will continue to look at those opportunities for many interest rate risk management purposes and less from an overall managing the rate of growth in the loan portfolio. We still expect to target something in the mid-teens in terms of the overall loan growth for the year.

Okay, so it sounds like loan growth is going to accelerate and the sale were more from the interest rate perspective than a growth perspective, so with that being the backdrop, should we expect the growth and deposits on the runoff and securities to help fund that loan balance for the remainder of the year or should we see some sort of expansion in the wholesale market as well.

No, I think for the most part you will see the securities continued to decline, we continue to make progress in balancing out on the asset side with securities coming down and loans going up. I will expect that to continue through the second half for the year and I would expect that we see kind of similar event occurring on the liability side where we have a declining concentration of wholesale funding sources and increasing level of core deposits.

Yes, you put all that together, the rate of balance sheet growth will remain muted here for a while longer as we continue to run down the securities portfolio to a more normalized level and have the continued success and growth on the loan side, same is true on the deposit side as we rundown the flab and Prokard and run-up the more traditional deposit side. So again the balance sheet growth will be -- will remain a little bit muted here for a few more quarters.

Okay. And then, maybe just switching gears to the security side, I guess pretty surprised to see the magnitude of yield increase given the linked-quarter reduction of balances and linked-quarter reduction in CLOs, I guess what the total net new purchase of securities was during the quarter, what's that kind of position and what's the new security deal being brought on?

Yes, I don't have the balances here in front of me but for the most part that CLO book of business reset on a quarterly basis, it's tied to LIBOR, we saw a significant increase in LIBOR during the first quarter and a little bit in the second quarter. LIBOR has been relatively flat through the second, latter part of the second quarter. So I would not expect to see the same degree of reprising effect as we go into the third quarter reset. So I just don't, I think in a securities book of business most of those instruments as they are called and we enter back into new ones to the except that we do enter back in a new one, the pricing has been relatively stable. So we don't really see much difference in terms of what's being called because it's a current rate coupon versus what we are purchasing.

Okay, that's helpful. And then, maybe one last one if I can on the expense phase, I'm just wondering of the restructuring that was announced about a month ago now, what portion of that employee base has already been noticed. And then, similarly on the vendor side how many of those relationships have already been terminated?

Yes, we will not go into deep detail there other than to say the majority on both brands.

Okay, great. Thank you.

The next question comes from Jackie Bohlen with KBW. Please go ahead.

Hi, good morning guys.

Good morning.

I wonder if you could provide a little more color just on what you are thinking in terms of the small business banking platform and I know you mentioned our treasury management and deposit growth from them but just how you see that playing out over time?

Well, first of all, it's a very, very early innings and with Leticia coming on board her teaming with Jason Pendergist, it's a matter of wanting to take advantage of our branch network and ensure that we are focused as much if not more on the small business community, which as you know, is richer in lower cost deposits and we had a degree of that capability and focus here relatively modest and we've worked to aim that both in terms of creating the right credit metrics, right credit box, and ensuring that our teams are well trained to be with that client base. So early innings but that's the intent and it's much more deposit play than it is a loan play, but the loan is usually how you start the relationship.

Okay, that's helpful. Thank you. And then, just in terms of you've obviously done a wonderful job of building out your senior management and helping to transition the company, approximately where are you in that process and it's kind of a cheaper question and of that $15 million in annualized cost savings that you anticipate, how much of that do you expect to generally reinvest in the company?

Well, I will deal with the first portion. In terms of my leadership team, the team that reports directly to me, we are set. So when Jim Hazboun coming on board as our Head of HR and with the earlier announcement we had on the first quarter Kris Gagnon our new Chief Credit Officer now well in the chair, Leticia as I mentioned earlier now well in the chair with respect to running all of our branch operations and capabilities. All of that frontline leadership team for me across both originations and the support areas is in place and I'm really satisfied, really pleased with the degree of teaming and just be degree of adult leadership that we have in place here, so very, very good. And those teams now have -- those leaders have also gotten themselves in a very, very good spot in terms of their chosen senior leaders. So it's' something I suppose you never quite done with, but we are a long way down the path with respect to the teams. On the expense side, in general I want to comment more but first of all we are much more geared towards the expense to asset ratio and driving that to the 2% in lower number. So obviously we are pleased with the expense levels that came in the second quarter. There will be some add backs, we do want to continue to add to our teams on the origination side and where we need to throughout rest of the company. But obviously we are quite focused on the sales runoff the side.

And I guess what I would add is we will continue to focus on back office and creating efficiencies and as we make those gains that will certainly be a benefit towards the expenses but as Doug mentioned we will continue to invest in the frontline units and so that will put some upward pressure but the way I think about expenses again is over the long-term will drive that expense ratio down to something that's 2% or lower of average assets.

Okay. That's helpful and then just one last one. This is regarding footnote four on Slide 9, the $2.1 million, and we will settlement -- that was just captured as a benefit to other income in the quarter?

That's correct. Yes.

Okay, great. Thank you very much.

Thank you.

The next question comes from Matthew Clark with Piper Jaffray. Please go ahead.

Hi, good morning. Can you give us a sense for the rates on the brokerage CDs that you ran off relative to the pricing on the new CD that you're offering just trying to get a sense for the differential?

The typically the way we take out the brokerage CDs is going to be in three in six months terms and so you look back at what the rates were at that time which was rate increase or two ago versus the new CDs that are coming on so I don't have the exact numbers but it's relatively short duration on the broker deposits sides and they're continuing to reset at market and then we're bringing on obviously the new CDs that what we believe are market rates but all when we generally on a comparable bases we're able to generate deposits at a lower cost than broker deposits.

Okay, great. And then can you quantify the payoff activity in the quarter just wondering what the payoffs were in the first relative to the second quarter on that loan growth?

No, we typically don't kind of break that out we're just more focused on what it looks like in terms of the overall net loan growth what I can say is that the yield on the gross whack I guess on the new production was 505 which is up slightly from the prior quarter and certainly well above the overall loan portfolio yield.

Okay. And then just on the income statement the loan servicing income, I guess how should we think about that line item going forward I think with the MSRs asset largely going away I guess what else was left there?

What's left is primarily the SBA loans that we service and so there will continue to be a little bit of servicing fee income but it's a relatively small component of the overall income statement and the MSRs is a small component of the balance sheet so it will be relatively small on a go forward basis.

Okay, great. Thank you.

Next question comes from Andrew Liesch with Sandler O'Neill. Please go ahead.

Good morning, guys.

Hello.

Good morning. Can you hear me?

Yes, Andrew. Good morning.

Okay, great, just questions on the yield side here just noticed the C&I, SBA and lease financing yield was up pretty substantially was just a function of the variable rate loans repricing or was there anything else driving that increase?

Now that's primarily the variable rate loans repricing there's substantially tied to LIBOR and again we saw some pretty significant increases in the LIBOR curve in the early part of the year so that results in higher rates in the second quarter.

Okay. So you've got the better rates there generally improving rates on the new production and then certainly deposit costs are coming on higher but what's giving you the little bit of sense that the margins going to continue to decline it seems like you're getting some improvement on the earning asset mix that should help better loan yields and while funding costs are going up you can offset that so it's giving you the sense that the margins are going to going to slip a little bit lower?

Well, I would start by saying that it's still early any means in terms of this team and their production efforts, so really like what we saw in virtually every category in the second quarter but that's second quarter so no one here is declaring victory we've got a lot of work to do. And also you've got a fair degree of still transitioning away from some of the more wholesale funding pieces, so we're just trying to be very cautious and thoughtful about where that that NIM may turn out here over the next couple of quarters. We think it'll be in an around three but it may drop below three.

And then we think about you know just the market itself. We saw a fair amount of competition certainly in the first quarter entering in the second quarter and so we still believe that the market is very competitive in terms of trying to gather deposits so we would expect some ongoing pricing pressure in that arena.

Okay, that makes sense. And then on this the operating expense side with that the cost saves you have coming from the events announced a month ago in the good cost control this quarter recognizing that there is going to still be some hiring. I mean I'm looking at you could reach your 2% to assets ratio middle of next year I'm curious when does that make sense to you guys do you think you could achieve it sooner is going to go a bit longer?

Well, I like how you're thinking. I do think the look a piece of it is, is getting out from under the muted balance sheet growth as we again go through spending down the securities and institutional funding so as always there's two sides to any ratio. But look we're pretty we're pretty optimistic in terms of getting to that 2% or below target in a timely manner.

Great, you've covered my other questions I'll step back.

Thanks.

The next question comes from Ebrahim Poonawala [ph]. Please go ahead.

Good morning guys.

Good morning.

So, thanks a lot for the getting all the initiatives you have on the deposit front and I'm sorry if I missed this, what are the incremental deposits coming on at when you think about on a blended basis at market rates at 2, 2.5 or is it much lower than that?

Well, to begin what you going to be closure in the 2% to 2.5% range, so higher costing deposits the phase to construct that I spoke about earlier, so this is a multi-phase process here and so this round of deposits is unsurprisingly higher rate but and efforts are underway as we go pursue more and more relationship based deposits that would be a lower rate and as we've said many times that portion is underway but it will take longer to show through.

Understood and on the other side when you think about loan origination news coming on is it that means given the mix of the business but on 5 to 5.5 greater than that. I'm going to simplify in terms of how to think about the margin outlook?

Yes, lot of our loan generation is all going to be done at market rates and so it really kind of depends upon the mix and so I think of the general rate the drought there in the markets you're probably in the mid pours in the multifamily you're probably in the low five per C&I and single family probably on a gross keep on base is in the high pours.

That's helpful. Thank you and I'm not sure if you mentioned this loan to deposit ratio where it is do, are you okay with that goes over 100% in the near term or you want to going to keep it sub 100%?

Well, look, we did we'd love to keep it sub 100% and we're doing a lot of work on that front, so that too is a piece that we will play out.

Got it. And just one follow up question of expenses so the operating expense on it was 54.3 I realize you would like to think about it as an expense to asset ratio what we mean when we think about just the absolute expense on the debt in this low 50s, do you think that's kind of the right way to think about it as you look into 2019 given the savings that you're getting about 3.5 million per quarter but then the investments at the other end?

Yes, look I think that's, this is a bit of an interesting journey here and why we're so much more focused on expense to assets. So we talked in terms of we're happy with the $54 million print on the expense side for 2Q but there will be important degrees of investment back into again primarily the origination side as we've said, so we're going to remain focused on the expense asset side of things for now.

Got it. Thanks for taking my questions.

Thank you.

Next question comes from Gary Tenner with D.A. Davidson. Please go ahead.

Thanks good morning guys.

Good morning.

I had a couple of questions first, I may have missed the $2.1 million benefits other income, what was that driven by?

That was the legal settlement that occurred.

Okay, so that came in, okay separate. So that's separate one, you called out on the press release.

That's right.

Okay, all right. Great. In terms of the balance sheet, given your kind of pretty steady pace of loan growth and expect the acceleration back half of the year maybe some more color of your securities portfolio, do you think you hit the balance sheet inflection in terms of starting to see growth in first quarter of 2019, do you think you go deeper into 2019 until you spend, until that balance sheet starts to expand again?

Yes, well, we're not going to overly comment on the when, we still have more work to do, we said we want the securities to represent somewhere between 15% and 20%, we're in the low-20s, so we got important work to do there to continue to get loans up and securities down. The same is true on the institutional funding side, the wholesale funding side, we've got certainly more work to do there. So, I don't know that I'd put a precise finger on the quarter when you start to see the acceleration but it's out there for us.

So to make it more clear for me, in terms of when that starts to happen, is it more purely driven by the asset mix and if that happens sooner do you not let as much of the wholesale funding run-offs supported the growth or is it both mix and funding focus?

No, I think you got it. Look we want to this bank will have degrees of institutional funding, wholesale funding for a long, long time to come given the legacy and the work here that needs to be done. So that number will, will stay probably elevated by comparison I suppose. So but we don't want it to be as high as it is today, so we want to continue to work that down and maybe less focus necessarily on the sources what we're most focused on is the NIM, and the net pricing reduction over time and the cost of funds by comparison to where we stand today.

Okay, thanks. And then just last question, in terms of the acceleration of loan growth in the back half of the year that you would need to get to your mid-teens or better target. Is that predominantly from the business banking platforms that you're talking about or is there other segment that you would suggest would be drivers of that acceleration?

Yes, well, first of all we said mid-teens not mid-teens are better just to be crystal clear. And look we think it's out there from across the platforms. So good, our team is much more employee [technical difficulty] and we're going to see kind of pipeline and growth outlook in our commercial business.

All right, thank you.

Thank you.

The next question comes from Steve Moss with B. Riley FBR. Please go ahead.

Good morning.

Good morning.

Just wanted to talk about the core deposit growth and when do you think you'll start getting meaningful traction on getting lower cost deposits into the bank or it's less of a CD base in terms of deposit growth?

Yes, well, a couple of thoughts here. First of all, two of our units the real estate banking business were more modest at this stage of the game is already having that success and our private bank is having considerable success in that arena. So, it's all about the amping of our C&I platforms from small business through business banking through middle market. And then some of our specialty deposit initiatives that what we believe that will bring. And then if you will slowly but surely as we work with our teams and Leticia's efforts on the branch banking side. So it's a journey on the lower cost side, we're having good degrees of success in particular units and we're underway with pretty significant initiatives all across the board.

Okay. And then on the -- I think I heard that there was on the credit front, there are some borrower performance issues driving a little bit of an increase in the reserve just wondering if it was one credit or if there is any particular class of credits?

Nothing in particular, it was much more broad based and so we've just seen some downgrades into special mention and substandard and as we continue to look at those credits that we don't view them as having underlying loss exposure necessarily, it's just more of a borrower deterioration and classification issue.

Are they C&I credits or commercial real estate credits?

Predominately on the C&I side.

Okay. Is it tied to any particular industry or?

No, no particular industry.

Okay. All right, thank you very much.

Thank you.

Next question comes from Tim Coffey with FIG Partners. Please go ahead.

Great, thanks. Good morning gentlemen.

Hello, Tim.

Could you provide little bit color on the changing balances in non-interest bearing deposits this quarter, was it customers moving into interest bearing products or exit from the bank like that?

I don't think there's any necessarily additional color to provide, we continue to see some pricing pressure out there in the market and we continue to see people taking action with respect to how they're managing their own deposits whether it's consumer or whether it's businesses. And so we've just seen a little bit of a migration as we go forward and as we launch the business banking as well as the small business lending initiatives. That's where we would expect to start seeing the non-interest deposits flattened out and begin to grow but that would take some time.

Okay. And then how should we think about the tax rate for the next two quarters, would it be flat in the next quarter and then a step up by 4Q with the alternative energy investments coming down or would it be kind of gradual rise from here going forward?

Yes, we originally expected to have completed our solar equity tax program by the middle part of the year and we have largely done that but it's just a timing recognition so we'll have a little bit of a flow over into the third quarters. So, our effective tax rate won't be back up into the 20% to 25% range that we had targeted, it would be lower than that for the third quarter and then as we get into the fourth quarter, I would expect us to start getting back to something that looks more normalized in the 20% to 25% range.

Okay, all right, thanks. My questions have been asked and answered. Thank you.

Great, thank you.

This concludes our question-and-answer session. I would like to turn the conference back over to Doug Bowers for any closing remarks.

Well, thank you all very much for your participation. I'd close it out by saying deposits, expenses, NIM, credit quality all making degrees of important progress, loan growth outlook as well and our team that is growingly in place and settled putting to work what we think is a special opportunity at Banc of California. So with that, we'll close it down and thank you very much for participating.

This conference is now concluded. Thank you for attending today's presentation. You may now disconnect.