BankUnited, Inc. (BKU) Q2 2019 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Second Quarter 2019 BankUnited, Inc. Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded for replay purposes. It is now my pleasure to hand the conference over to Mrs. Susan Greenfield, Corporate Secretary. Ma'am, you may begin.

Thank you, Brian. Good morning and thank you for joining us today on our second quarter 2019 earnings conference call. On the call this morning are Raj Singh, our Chairman, President and CEO; Leslie Lunak, our Chief Financial Officer; and Tom Cornish, our Chief Operating Officer. Before we start, I'd like to remind everyone that this call contains forward-looking statements within the meaning of the U.S. securities laws. Forward-looking statements are subject to risks, uncertainties and assumptions, and actual results may vary materially from those indicated in these statements. Additional information concerning factors that could cause actual results to differ materially from those indicated by the forward-looking statements can be found in our earnings release in our SEC filings. We do not undertake any obligations to update or revise any such forward-looking statements now or at any time in the future. With that, I’d like to turn the call over to Raj.

Thank you, Susan. Welcome, everyone, to our earnings call. A special thank you for everyone for joining. We know we have strong competition for your attention today with Robert Mueller going on about at the same time as we are. So for all those who have dialed in and want to hear our story, thank you so much. Let me start by saying this was a very strong quarter for us. We printed $81.5 million net income, $0.81 a share. This is up from $0.65 last quarter. The second quarter of 2018 which feels like a long time ago was $0.82 a share. But the non-loss share earnings last year in the second quarter were $0.59 a share. So from $0.59 last year or $0.65 last quarter, $0.81 is a hell of a performance. Actually, what is even more interesting is that our total EPS including loss share last year was $0.82. Today, we have no loss share and we're at $0.81 in a very, very short period of time loss share expired just six months ago. So, overall, I'm very happy with the profitability metrics that we posted. I think we are at 10% return on equity and a little over, I think, 91 basis points or so of ROA which is a very healthy trend over the last two or three quarters. It terms of growth, let's talk about deposit first then we'll go to loans. Deposits grew $243 million total deposits but DDA grew more than that. DDA grew $335 million which just to looks reflective all of last year, our DDA growth was $550 million which I think most of you would agree was a very strong year for us. Now we had $335 million of growth in one quarter which is - it makes me very happy. I will pause here for a minute and say what I've been saying on I think for the last five or six calls is do not look at any quarterly number and annualize it. Always look at the trailing 12-month numbers when you think about growth. So, just before this call, we quickly did the math. I think over the last 12 months, if you see our total deposit growth was about $1.74 billion of which DDA was $784 million and loan growth was about $1.178 billion. So that is more reflective of where the franchise is. Every quarter, there can be ups and downs on the growth numbers, but nevertheless going back, this is a very solid quarter. We’ll take $335 million of DDA growth any day. The cost of deposits edged up by 3 basis points. So we are finally seeing that curve inflect. Last quarter, I think our cost of funds had gone up 17 basis points. This quarter, it was only 3 basis points. And with the impending - next quarter, we expect cost of funds to decline. Competition for deposits remains strong in all our markets. But, obviously, like I said, this inflection point, we’re expecting some shakedown and some reversal in deposit pricing. Loans grew $420 million. That's before taking into account $189 million of loans that we moved from held for sales to - moved from held for investment to held for sales. These loans are municipal loans, are Pinnacle loans. To remind everyone, these loans were originated prior to the tax law change that went into effect a few quarters ago. So they were originated in a higher tax environment. And hence, the profitability of these loans in the new tax environment is much lower. So we've been looking for a way to tear back some of this. And we are in the middle of trying to get this transaction closed. And I expect this to not have any impact on earnings. These loans will clear for above par. The current outlook for loan growth and deposit growth for the rest of the year, we’ll stick with the guidance that we gave you at the beginning of the year or back - I’m sorry, back in April. We are still looking for the same kind of loan growth and deposit growth that we talked to you about. The NIM guidance that we gave of 2.50% to 2.60%, by the way, this quarter, we came out at 2.52%, which was down 2 basis points from 2.54% last quarter. For the year, I think NIM will be under a little bit of pressure. So, we will probably - instead of ending in the 2.50%, we might end up just a tad below, maybe in the 2.40%. But that's sort of - and where the yield curve does not help NIM, as you all are aware of. Non-performing loans and credit metrics are pretty consistent over the last couple of quarters. Annualized charge-off remained very low at about five basis points and Leslie can talk more about that when we pass the microphone to her. Share buyback, we continue to buy back shares through the quarter. And actually subsequent to the quarter-end, we completed our $150 million share repurchase. So at the end of the quarter, we still had a little bit left. But in the last two or three weeks, under our 10b5-1 plan, we continue to buy back and that authorization has been fully executed. Before I pass this on to Tom, I just want to talk a little bit about the environment. The macro environment, again, it's a story - it's sort of a - when we look at our portfolio, when we look at what our - how our clients are doing, it looks like a very strong economy. And we don't see any concerns. However, when you look at capital markets and you look at the shape of the curve and the warning signs coming from our Bloomberg terminals, obviously, give us pause. So, we are from a standard perspective, we are in a place where we are not leading into more risk. We have been defensive for now, I would say about three quarters. And we'll continue to be so. So with that, I will turn this over to Tom who’ll talk a little bit about the business in more detail and also give you an update on BankUnited 2.0.

Great. Thanks, Raj. So, we're happy to pass along our progress, so far, on BankUnited 2.0. We've been vigorously executing all of our strategies and initiatives over the last few months and we feel like we're in excellent shape. So, as far as our financial targets, we think we are on track to meet those financial targets which were an incremental annual pretax impact by mid-2021 of $40 million on cost savings and overall $20 million on revenue lift. So, we feel like we're starting to see the impact of that already and we feel very positive about where we are. Just a couple of comments on some of the major initiatives and components of BankUnited 2.0 as it relates to the driving of operational excellence. We have now completed in the last quarter the reorganization realignment of all of our commercial and small business operating entities. And this support credit functions that go with them. We've begun implementation of the reengineered operational process and back-office departmental structure to increase efficiencies. And we've initiated the rollout of our robotic process automation. So, all of those are exciting initiatives to help us drive operational excellence throughout the company. In the area of revenue enhancements, we have hired the director of the commercial card program and started to build out the team and the technology to support the 2020 launch of our commercial card and P-card programs. We've implemented new treasury management fee structures, re-aligned sales efforts to increase and we were seeing very significant increases in product penetration with our existing client base, which we're very excited about. We went live with our new Credit Center for mid-sized loans and we've decreased our cycle time from 28 days to 7 days, which is obviously a dramatic improvement in both our efficiency and client experience that happens from that. Our target is five days, so we're narrowing in on that. So that will be a very significant improvement for us. We continue to execute our branch optimization strategy. We've opened up a new branch in Winter Park. We have long sought a location in the Winter Park area of Orlando which is a terrific market to be in. So we opened that up this last quarter. And we're continuing to enhance our presence in that market. And we also established our data analytics center of excellence for the company. So that's a big new initiative for us and the entire data management process. So, overall, 2.0 continues to be executed and implemented with vigor and enthusiasm and we're very excited about the progress that we've made so far. So, to pivot a little bit and go into loan and deposit growth. I just start out on the loan side by saying overall it was an excellent quarter. In production for us on all of our commercial businesses, we had about $1.05 billion in production for the quarter which met our overall goals. We were happy with that, with a weighted average yield of 4.7% So if we look at the individual components a little bit more residential loans grew by $222 million for the quarter. Multifamily loans decline by $153 million and this is kind of consistent with our strategy of continuing to tear down our exposure in multi-family space particularly in the New York market. That $153 million decline was offset by other categories of growth inquiry principally office and industrial which ended up leaving CRE basically flat for the quarter. Overall, C&I loans grew by $34 million within our corporate banking and commercial banking segments. For national business, it was a strong quarter for the mortgage warehouse business grew by $70 million. Our bridge leasing and franchise business have an excellent quarter $80 million of growth across both the franchise and equipment lending divisions. So, overall, we saw a nice balance across the portfolio and I think a reasonable growth and an excellent production level. On the deposit side, as Raj said, that continues to be a good story for our strong non-interest DDA of $335 million that was offset by a decline of $476 million in the savings and money market categories. Interest-bearing DDA grew by $70 million and time deposits increased by $314 million. But I think the overall strategy continues to be to work very hard at increasing all of our non-interest DDA accounts across the company, better treasury management product penetration and continuing this effort to significantly increase our percentage of non-interest DDA as a percentage of our overall deposits. So, that’s kind of the summary of the deposits. And with that, I'll turn it over to Leslie.

Thanks Tom. So as Ron said, good quarter from an earnings perspective. Net interest income was flat to the prior quarter but as expected declined by about $64 million from the second quarter of the prior year, all of that as a result of the covered loans sale that took place at the end of the year last year and the reduction in accretion on those loans, and then decreased to 2.52% this quarter from 2.54% two years before the prior quarter and down from 3.60% for the second quarter of 2018, again reflecting the covered loan sale in late 2008 team. The yield on non-covered loans was 4.52% this quarter up from 3.96% for the second quarter of the prior year and an increase from the immediately preceding quarter when it was 450, so a couple of basis points up from there. Yield on the investment portfolio up to 3.61% this quarter from 3.33% for the comparable quarter of 2018, down 3 basis points linked quarter mainly due to coupon resets. Duration of the portfolio remains very low. As Raj mentioned, we do expect NIM compression over the next two quarters. Our forecast has three assumed rate cuts by the Fed baked in for the rest of 2019. So predicated on those assumptions we do expect some NIM compression over the next two quarters as our assets reprice down before our liabilities. Reserves and provision, I think if you've all noticed that the provision for loan losses was a credit this quarter. We had a net release of reserves and that was driven primarily by releases of specific reserves on a couple of particular credits. We had one large pay off and one situation where we were able to favorably restructure a loan that led to the release of some of those reserves. Expenses guidance, non-interest expense for the second quarter included $5.2 million of cost specifically related to BankUnited 2.0 primarily professional fees, also some severance and branch closure-related costs. For the six months, these costs totaled $12.1 million. For the full year 2019 compared to 2018, I would expect total operating expense to be flat to slightly down that’s inclusive of the BankUnited 2.0 costs and excluding for the prior year the indemnification asset amortization. If I exclude the onetime costs such as professional fees related to BankUnited 2.0, I would expect that to be down 3% to 4%. And with that, I'll turn it over to Raj for any closing remarks before we open up for questions.

Sure. I think the only thing we didn't talk about is that the pipelines both on the loan side and deposit side remain strong. Like I said in the past, loan pipelines are generally much more easy to predict and deliver on. Deposit pipelines can be harder to predict, but I do measure success sort of based on what new accounts are coming in. There's a lot of movement in the existing book, just about a living breathing book, but as long as we are bringing in new clients and opening new accounts, that’s really in my mind the indicator for how well the bank is doing. And on that front, the pipeline of new business which has never been at Bank United and are about to get here, that is very healthy and robust. So, we feel pretty good about the rest of the year. And with that, we will turn it over to you, guys, for questions.

[Operator Instructions] And our first question will come from the line of Ken Zerbe with Morgan Stanley. Your line is now open.

I guess maybe just starting off, in terms of the CRE growth or the flatness I suppose, I've heard you guys say that multifamily was down, but it was offset by office and industrial. Is any of that coming from New York in terms of the CRE growth, or is that declining New York and then growth in other non-New York CRE?

No, it would be both. It would be both. We had a particularly good production quarter in New York in office and industrial loans and Florida had a good production quarter as well.

Okay. And are you at the point where you believe New York could actually stabilize given some of these trends?

It's stabilizing. The rate has come down as a bit lower than it has been in the past. We're also looking more intensely at some of the rent regulation issues that are going on. So, that's been a significant change in sort of the market dynamics of the multifamily. So, to the extent that there's activity in that space, that's activity we're watching closely, but definitely the pace of the decline continues to slow down if you will. And we think over some reasonable period of time that we will start to get another asset categories enough growth in the market to where we'll start to see some growth in the New York market.

And in terms of the loan - the held for sale loans from Pinnacle, are you - does that complete your sort of basket of loans that you want to sell or are there potentially additional loans that could be moved to held for sale?

We are looking at loans that were originated prior to 2017. And that portfolio is fairly large. But we will be opportunistic about it. There is no plans right now to do more sales, but if the opportunity comes along and we will act on it. But right now, this is all we’re planning and that we'll be like I said opportunistic.

And then just one last question if I could. Do you have any additional appetite for share repurchases from here? I think I’d heard your authorization was basically over at this point?

Yes. We have a board meeting coming up at the end of August that is an agenda item to be discussed, capital strategy going forward. I wouldn't be surprised if the board wants to see a deep dive into CECL and the impact because CECL will lead up some capital or at least, not regulatory, but certainly GAAP capital. So we want to, sort of, warm up all of that. And then the board will decide what to do whether to act now or maybe wait a couple of more months. There's some more room to do a buyback, but we need to nail down CECL numbers.

And our next question will come from the line of Jared Shaw with Wells Fargo Securities. Your line is now open.

I was just following up on the New York City multi-family of the $2.4 billion at the end of the quarter. How much of that is tied to properties that are impacted by rent control legislation?

So, as of kind of end of May that number was $1.4 billion. I don't - we had disclosed that previously. I don't expect that number has changed very much but we're in the process right now of doing a real deep dive into that portfolio in terms of what's in there and how each of the loans is going to be impacted. But it was about $1.4 billion as of the end of May. And I'm sure that number hasn't moved.

And then on the margin discussion, you said that you're assuming three rate cuts in 2019. And then, for the full-year margin under that scenario that we could be in the 2.40%. So...

Yes, call it, high-240s.

…a pretty significant decline in - high-240s. On the deposit side…

Well, practically, they’re predicated on fairly broad set of assumptions, but…

Right. On the deposit side, are you starting to see any relief on the - especially the promotional pricing in Florida? Last quarter, you said that that market’s still remained highly competitive. Are we starting to see any pullback there and with three rate assumption - three rate cut assumptions, how much of that do you think sort of flows through to the new money cost on deposits?

So the big move that has - that we have seen this quarter was actually in the broker market, fairly significant move. Brokerage market is leading that and rates have come down meaningfully. Retail market and commercial market have not moved so much. But I suspect that it’s going to change literally the day after the Fed announces. For some reason, that market waits doesn't look at the forward curve or the probability of a rate cut but they want to wait for the rate cut. So we're expecting that to happen shortly and that market will move at that. There has been some reduction. Some online players have been pulled back and we're seeing some relief over there but not much to talk about. Really the big relief this quarter was more on brokered. And of course, generating BDA was always the best antidote for deposit pressure - for deposit pricing pressure.

Okay.

I might add on the multi-family question that you asked. The $1.4 billion, our predominant exposure is all today in stabilized loans. So we actually have a very modest exposure level today to loans that would currently be in a repossession or value-add perspective. Those would be the loans that would be most significantly impacted by the regulation. So our stabilized portfolio makes up the lion's share of our overall portfolio and exposure to things that would be more negatively immediately impact this is very modest.

Thanks for the color on that. And I guess just finally for me on the expenses with the move down quarter-over-quarter, how much of that is sort of directly related to the BKU 2.0 process [indiscernible] to assume as it layers in?

Some of it is directly to the BU 2.0 and other significant is the termination of our residential mortgage servicing operation which took place back in the first quarter. So you’re seeing the full impact of that in the second quarter. Those are the two largest components along with some branch closure activity that took place back in 2018. So all of that added together, I don't actually - I tried to do this but it's harder than it sounds to actually carve it up and say X dollars is this is Y dollars is that because there's a lot of moving parts but those are the three components. And the largest would be the termination of our mortgage servicing operations at this point.

And our next question will come from the line of Brady Gailey with KBW. Your line is now open.

I'm just wondering if you could quantify how much a specific loan loss reserves you all released in the quarter? I’m just trying to figure out, if you exclude those kind of one-time in nature releases, what the provision would have been in 2Q.

Yes. It’s $2.9 million, Brady.

So, still a pretty low provision level. I mean if you look at - if you look at a couple of quarters before this one, you are more in kind of the $10 million to $12 million range. I know the provision can be driven by growth and kind of hard to forecast, but would you expect the provision to transition kind of back up to that $10 million quarterly run rate for the back half of the year?

So Brady, it’s really hard to say. I mean the moving parts in the provision are the specific reserves there. What happened to our - the trends in our historical loss rates, which have been trending down, which is part of the reason you're seeing what you're seeing. And then the always elusive qualitative reserve factors, which there's a pretty defined framework for, but those can move in either direction. I would expect the provision to mainly respect provisioning for new production to reflect provisioning for new production in the absence of the one-off credit here or there, where you have to put up a specific reserve, which really is difficult to predict.

And remember, Brady, this $2.7 million that Leslie is talking about, it was probably put into reserves a quarter or two ago. So, you back it out here - you got to back it out from there as well. So, these things do happen. We are very conservative when we see an issue come up in the loan. We're very quick to put up a reserve and then they should be resolved a quarter or two later and then we're reversing it. Yeah. Anyway the way it is an interesting discussion for the next two quarters. It is going to get very, very interesting when we adopt CECL. And we’ve had a very robust discussion internally in the company as to how all of you will think about bank earnings because I think it's going to act to a tremendous amount of volatility quarter-over-quarter and how you will decide for results in the seasonal framework will be interesting to see.

And then on the CECL topic, I doubt you guys are ready to disclose a range, but bigger picture, if you look at BankUnited's loan loss reserve of around 52 basis points, I mean that's well below peer average. So, is it right to think that BankUnited’s CECL impact will be greater than the peer average?

I can't speak to that because I had absolutely no view into what the peers are going to do. But I can - what I will say, Brady, is because of the fact that the portfolio includes a fair number of longer-term loans and we're moving from an incurred loss model to an expected loss model, I do expect the reserve to increase. I'm not prepared at this point to say by how much, but it's fair to say that I do expect the reserve to increase, and that that will be the primary driver of the increase is that expected loss concept over the portions of the portfolio that have longer contractual life.

And our next question will come from the line of Steven Alexopoulos with JPMorgan. Your line is now open.

Just start on the deposit side. Raj, the growth in non-interest bearing is obviously very strong. Can you give more color on what drove that and how sticky the balances are?

So, up until this quarter, our DDA growth had been very uniform across our business lines. This quarter we saw a little more skewed towards the national deposit business line. How sticky it will be, how much does it move? It moves around because literally in a day-to-day and week-to-week basis, it moves around. But the general direction is very strongly up. That's why I said it's better to look at clearly 12 months rather than any one quarter. Because the last quarter, we had $90 million of DDA growth or something like that if I remember the numbers right.

Right. Yes.

So, $90 million isn't right and $335 million isn't right if you want to think about long term. You got to think about sort of a more stable number which emerges only if you look at a few quarters and average amount. So, it's really hard because especially DD&A. It moves around quite a bit because people are using these accounts on a day-in day-out basis. In the quarter, that close two or three days before that number would have been very different. If it closed two or three days after, the number would have been very different. So, I prefer an average of four quarters rather than any one quarter as a way of looking at this. But the fact that we've grown $784 million in DDA over the last 12 months, I think that it's something to celebrate more than to $335 million this quarter. I wish it was even more than $335 million next quarter and maybe it will be.

Yes.

But over the last 12 months of $1.7 billion plus of deposit growth of which a $1 billion is interest-bearing and $780 million or so is non-interest-bearing, that actually is the real story.

So, I might add to this. If you look at the underlying non-interest DDA accounts, you're generally talking about commercial DDA and you're talking about relationships there while the balance is as Raj pointed out obviously move, virtually all of the growth is coming from relationships that are heavily tied to very complex TM relationships and implementation of a number of product sales. So we think the overall business itself, while the balances may fluctuate, the trend lines and the solidity and stickiness of the business is good.

And then on the margin I'm trying to parse out the impact from the Fed potentially lowering rates here in terms of the new guidance. Can you help us think about just for every 25 basis point change in the Fed funds rate what do you approximate the change in NIM to be from that?

Steve, I don't have those specific numbers in front of me. I think the phenomenon you're seeing with NIM compression, one, LIBOR has tended to lead Fed funds a little bit. So we're seeing our assets repriced before our liabilities. The balance sheet as a whole is managed to a pretty - as neutral of a level as we can manage it from an interest rate risk perspective but we will see some lag between when assets reprice down and when liabilities reprice down. And so that's going to cost some short-term NIM compression over the next couple of quarters before it levels off. But again, we're looking at something in the high 240s based - our best estimate today for the year as a whole.

So, Steve, one of the things - benchmarking that we do against our peers, we have about 24 peers from the biggest banks to banks that are even smaller than us. And we look at what kind of cost of funds or cost of deposits move they've had versus us. And over the last three or four quarters we've not been faring well. Our betas have been higher. So last quarter for example our cost of deposits moved up by 70 basis points or. This quarter, we moved three basis points. And while we were in that list of 24 names, we were somewhere near the bottom. This quarter, we are I think last we saw we were not everyone had reported, but of the people who had reported, we were number three. So, if I was to get technical, I would say high. If our deposit basing has an inherently high beta, it hurts you on the way up, but it should help you on the way down. Certainly, there is a lot of assumptions built into that statement mostly try to make an estimation of what the marketplace will do and will people be hit the same way down as it did up. But I'm actually fairly optimistic that, in fact, lowering rates is not the worst thing in the world for our balance sheet.

Just one follow-up to Jared’s question, how much of the $40 million expected cost saves are now in the run rate? It wasn't clear to me.

We can't give you that number. It's very hard to tease that out. We have tried.

It’s still - I think we'll have a better ability to do that if we get a couple more quarters down the road, Steven. We've just gotten into this implementation phase and all of these things are just starting to happen. And, right now, it's a little - it can be a little difficult to tease out what does this dollar relate to versus what that dollar relates to. But we are definitely seeing positive trends and we're encouraged by that.

But is it fair to say that a majority of this is still ahead of us not behind us. We just started the seven-quarter journey and we're only one quarter…

Yes, that's absolutely fair, Raj.

And our next question will come from Austin Nicholas with Stephens, Inc. Your line is now open.

Appreciate the comments on the margin but I guess just to dovetail on that, I guess it's fair to say that the impact for the first rate hike is going to be more impactful than the last couple as your liabilities reprice faster than your assets and you kind of - you probably have a little bit less impact as you kind of enter into 2020. Is that fair to say as we think about your margin guide?

I think what I'm saying is that we have suffered from a higher beta on the way up. And by that logic we should benefit from a higher beta on the way down. So I'm making a comparison, our deposit pricing versus our peers. I'm not trying to make a comment on our assets versus liabilities repricing. It's more our liabilities versus our peers’ liability. We're seeing that already this quarter with our cost of deposits moving up three basis points. I think I saw JPMorgan and BofA move four basis point and Wells Fargo moved even more than that and banks our size were at 8, 9, and 10 basis points. So already this quarter we're seeing our deposit growth - cost of deposits going up less than others and when the curve turns and starts to go the other way, hopefully we will see the benefit of having a higher beta at least for the foreseeable future.

And then maybe just as we're talking about deposits, can you maybe just give us a feel for what type of businesses that the national deposit team targets. I know you’ve spoken about this in the past but any update there on maybe any specific types of deposits that drove the growth there. And then if you were able to kind of disclose the kind of overall deposits, you’d maybe associate with that group.

So, I have talked several times about the industry that they focused on and that has not changed. What has changed, one is just a focus on DDA rather than total deposit growth. But more importantly, the average ticket size, we have taken down quite dramatically. Larger accounts tend to bring in growth quickly and give you instant gratification on just volume numbers. But tend to be - just much tougher on price. So, we have quite meaningfully changed - if you look at our pipeline and even stuff that we’ve won so far this year, it is - it’s no longer $20 million, $30 million, $50 million, $100 million accounts. Well there are couple of big accounts, but the vast majority of those accounts are single-digit millions and sometimes even below $1 million. So, the story here is not that we’re focusing on any new industry than what we’ve talked about in the past, but focusing more on smaller accounts, which tend to be less price sensitive, more sticky. And honestly harder to get and they take a long time to bring in. But we’ve been at it now for a while and we’re seeing success.

And then maybe just on the previously covered portfolios. Do you happen to have the unpaid principle balance and accretion on those?

The carrying value is $184 million. I don’t have the total accretion number in front of me. I do have the yield. I think it’s in the press release. No. I don’t have it. I don’t have the accretion number - according - I guess I’m looking Jorge is definitely looking. He's going to maybe show me here in a minute so. The balance is $184 million. I want to say the yield is somewhere in the low 30s but I'm going to get somebody to confirm that for me.

And then just one last one. I think you spoke about the multi-family portfolio in New York and I appreciate the comments on the value-add loans. But maybe can we just clarify how you think about what constitute the value-add loan. Is it really borrowers that had the strategy of increasing rent - stabilized rents up to higher market rents within there - within their business strategy or is it loans that were may be actually underwritten with that assumption?

No. It's the former. And so, there is in the value-add, there is an in-place cash flow that does not necessarily meet the long-term debt service coverage ratio strategy but there's enough in-place cash flow in order to cover the debt service on a 1:1 times. Our value-add portfolio though is extremely small right now.

And our next question will come from the line of Lana Chan with BMO Capital Markets. Your line is now open.

I just had a few follow-up questions on a things that have been asked already. One on the multi-family portfolio, is there a risk that with given the potential declines in property values on rent reform, do you see any risk in terms of having to build reserves as those profit to value potentially come down a bit?

Lana, as long as the portfolio is performing which we don’t see today any reason to expect that that would not be the case going forward, I don’t expect it to have a material impact on credit cost. I do see an element of potential refinance risk where there are less refinancing opportunities for some of these borrowers potentially in that situation although maybe not. But I don't really see it today as being a credit event.

Okay. And of your $7 billion of CDs, how much of those would be broker deposits as you've said the rates have come down pretty meaningfully in the marketplace?

About 14% of our total deposits are broker, Lana. And that's a combination of CDs and money market. I don't have the breakdown in front of me, but it’s about 14% of total deposits that are broker.

And then just last question on expenses, as we think about the impact of BKU 2.0 into 2020, as the onetime costs likely I think drop away in 2020 excluding those year-over-year, should we expect expenses to be lower even excluding those onetime costs?

For 2020?

Yes.

Yes. And I'm not quite prepared to quantify that with precision yet, but the overall answer to the question is yes.

And our next question will come from the line of Stephen Scouten with Sandler O'Neill. Your line is now open.

I'm curious, Leslie, with the expense guidance that’s down 3% to 4%. Is that really the same guidance as last quarter versus the flat guidance when we're excluding the onetime items, or are you guys ahead of schedule slightly on your expense progress?

Slightly overhead.

And then thinking about the NIM, if I remembered correctly, you guys have a lot of loans that are tied to three months LIBOR and obviously that was down pretty significantly in the quarter.

It's one month LIBOR.

It’s one month LIBOR. Okay.

Yes.

So, have you seen most of the impact already in loan yields in 2Q from the move we've seen to-date in LIBOR? Is that already encapsulated?

Yes. But that may not be the end of what we see with LIBOR.

No. Absolutely. Yes. In the absence of any further cuts. Sure. And then on the deposit pricing side, and I don't know if I missed this. But do you guys have a thought or a target of what you’re assuming for a deposit beta on the way back down for subsequent rate cuts?

There's a very wide range, depending on - we analyze betas on an extremely granular level in our deposit base. So, some of them, we think, will be a beta of one, because we have some relationships that are overly tied to Fed funds. So, those will come down with a beta of one. There are - everything we think went up with the beta of one, we think it’ll come down with a beta of one. But if you get down into the small business in money market, it’s going to be significantly less. We’re hopeful to Raj’s point, that the beta is on the way down, are very similar to what they were on the way up.

And our next question will come from the line of Brock Vandervliet with UBS. Your line is now open.

I didn’t see the return, the ROE - ROA targets in the deck. Are they there? And I just didn’t see them? Or have they disappeared?

They’re not - we have not changed them. We haven’t changed the guidance we put out. The only caveat I will put to that is with all of the uncertainty right now around the rate environment and the curve and whatnot. That’s something over which we have no control. That will ultimately impact both ROA and ROE. But, as of now, we haven't changed those targets.

And just going back to the reserve and the qualitative risk factors. And it sounds like you're releasing reserve this quarter, but you're flagging also that CECL is a real issue and could be large enough that perhaps you push out buyback. Why release the reserve? You can maybe talk about the qualitative reserve calculation.

I pick two things here in your comments. I think you may have misconstrued the remarks about CECL and buybacks. I don't think we said that CECL would cause us to push out buyback. So, I think what Raj said was that before they do another authorization, the board is going to want to see some more definitive estimates around what those numbers are going to be. I think those are two very different statements. And, secondly, there's a gap as it exists now. And today in calculating my reserve, those are the rules I have to follow. And there's gap as it's going to exists in 2020. And starting in 2020, those are the rules that I have to follow. So, I haven't changed my reserve methodology in anticipation of CECL, and the driver of an increase in reserve would be the contractual life of the portfolio. Not any different assumptions about fundamental credit quality. Does that make sense?

It does. Just my understanding of the qualitative component was that that kind of allows a management to sort of toggle over and above what the absolute accounting calcs may be.

No, it’s not. No. The qualitative component is built around and defined framework and we need to stay within that to confine to that framework. It’s not something that’s just going to allow us to set reserve levels arbitrarily.

Appreciate the color on CCEL and buyback.

And our next question will come from the line of David Chiaverini with Wedbush Securities. Your line is now open.

A couple of questions for you. Starting with loan growth, what loan categories do you expect to drive growth going forward? Should I continue to be - resi, you mentioned about how CRE in total is flattish, but C&I was kind of somewhat weak this quarter. I was just curious about the outlook.

Yes. So, we saw - if you look at the C&I book, we actually saw a very, very good quarter of production, but we also saw kind of a very high level of payoff activity. This particular quarter, a lot of that was around private equity companies moving out, selling companies, other things that were sort of blips on the radar screen, if you will, and what we saw in the payoff activity. So I would say it would be balanced across most of the units. We continue to expect growth in residential. We continue to expect growth in the bridge. Subsidiaries, we'll see it in the C&I business segments, both in corporate banking and the commercial banking segment. We’ll see it in small business as we launch forward with a lot of the small business initiatives that are embedded in our BankUnited 2.0. So I think it’d be pretty broadly across all categories. Probably the lightest one will be CRE, only because of what we’re seeing in the multi-family space in New York and also we’re seeing while it’s been a good first two quarters of CRE growth in Florida, we are seeing continued significant asset sales in that market. So, overall production is very good, but our ending number tends to move more up on payoffs than it moves on production. Our production is actually pretty stable.

Even Pinnacle which has been the only business line that has not had good origination for the last year-and-a-half even that business is now stabilized, and we're seeing some modest growth outside, of course, the loans that we move to held for sale. So, outside of that, the core business is actually stable or has stabilized and beginning to grow modestly.

And as it relates to Pinnacle, you mentioned about how the profitability of these loans are less profitable in the new tax environment. I was curious is that because you're not paying tax on the interest income on these loans?

That's correct.

And how big is the Pinnacle portfolio now?

About $1.5 billion including the loans that we moved to held for sale.

And our next question will come from the line of Christopher Marinac with Janney Montgomery. Your line is now open.

Leslie, I know you talked to Steve’s question a couple callers ago about the NIM change. I was curious if the first Fed cut is worse than the third, or should we think of it in the opposite way?

So, I don't know so much that I would think of it is the first cut being worse than the third cut as I would think of it more - you're going to see more pressure in the first couple of quarters as your assets reprice down more quickly than your liabilities. So I just - I think it's more a timing thing than a number of - but it isn't linear, you're right about that.

That's helpful. I appreciate that. And then just a question on the growth of the franchise lending, is all that restaurants or would that be some other types of franchises besides just restaurant?

Yes. It's multiple - the strategy is built around a large portion of QSR restaurants. There's also a significant component of fitness and there is a significant component of non-food related franchise type, auto service businesses, and things like that in the portfolio.

Is there any particular trend on the food side, good or bad, as that area just sort of borrower dependent?

I would say that the trends in that business are - and it's something that we're watching carefully, the trends in that business continue to be reasonable top line demand at the food level but there is pressure in the cost structure both from a labor and resources perspective. And the need I think for investments in technology is also significant in that business as people move towards digital, demand control and client experience opportunities.

Thank you. This will conclude our question-and-answer session for today. It is now my pleasure to hand the conference back over to Chairman, President, and Chief Executive Officer, Raj Singh, for any closing comments or remarks.

Thank you, Brian. Once again, I just want to thank everyone for joining us and we’re very excited about how this quarter turned out and even more excited about what is in front of us for the rest of the year. Thank you again. And we'll talk to you again in three months. Bye.

Ladies and gentlemen, thank you for your participation on today's conference. This does conclude our program. And we may all disconnect. Everybody, have a wonderful day.