Good day, and welcome to the OceanFirst Financial Corp. Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Ms. Jill Hewitt, Senior Vice President and Investor Relations. Please go ahead.

Thank you, Aaronson. Good morning and thank you all for joining us. I'm Jill Hewitt, Senior Vice President and Investor Relations Officer at OceanFirst Financial Corp. We will begin this morning's call with our forward-looking statement disclosure. Please remember that many of our remarks today contain forward-looking statements based on current expectations. Refer to our press release and other public filings, including the Risk Factors in our 10-K where you will find factors that could cause actual results to differ materially from these forward-looking statements. Thank you. And now I will turn the call over to our host today, Chief Executive Officer, Christopher Maher.

Thank you, Jill and good morning to all who've been able to join our third quarter 2016 earnings conference call today. This morning I'm joined by our Chief Financial Officer, Mike Fitzpatrick; Chief Risk Officer, Dave Howard; and Chief Lending Officer, Joe Lebel. As always, we appreciate your interest in our performance and are pleased to be able to discuss our operating results with you this morning. As has been our practice, we will highlight a few key items and then add some color to the results posted for the quarter, and then we look forward to taking your questions. As part of our discussion this morning, I'll ask Dave Howard to comment regarding the credit risk management approach we are executing in relation to our recent acquisitions. Joe Lebel will be available to discuss any questions regarding our commercial lending activities during the Q&A portion of the call. In terms of financial results for the third quarter, diluted earnings per share were $0.35. Quarterly reported earnings were impacted by merger related charges of $0.05 or $1.1 million after-tax, resulting in core earnings per share of $0.40. Core earnings per share increased 25% versus the prior year, largely driven by the initial efficiencies achieved with the Cape acquisition. The second stage of efficiencies from the Cape acquisition is on track to be fully realized in the first quarter of 2017 as the Cape systems integration and rebranding were completed on October 15, and some additional integration expenses to be realized through mid-December when acquisition related expense reductions will be fully implemented. Regarding capital management for the quarter, the Board declared a cash dividend of $0.15, the company's 79th consecutive quarterly cash dividend, and an increase from the $0.13 from prior quarters. The quarterly dividend was supported by the advancement of…

Thank you, Chris, and good morning everyone. With two acquisitions completed in the last 15 months and one more pending approvals, I wanted to spend a few minutes discussing how OceanFirst is integrating these balance sheets, while demonstrating a continued commitment to the credit risk management that has been a hallmark of our lending strategy. The Colonial American Bank acquisition added about $121 million of loans in July of 2015. The Colonial American loan portfolio has been fully integrated into OceanFirst and the loan quality and performance have met the expectations we developed during due diligence. The Cape acquisition added another $1.2 billion of loans just this past May. We are again seeing the portfolio perform as we expected given the size, geographic scope, and product diversity of the Cape portfolio. I'll walk through a few specific credit risk management initiatives under way for this integration. First, for all loans, we fully applied the OceanFirst credit underwriting standards across our entire lending footprint on the date of acquisition. This included ensuring that all newly underwritten loans and renewing credit facilities need OceanFirst's existing loan policies and approval procedures. A natural part of this process is that a few loan officers and credit staff with different views of credit risk management, pricing, or underwriting standards, are no longer with the organization. However, we've retained some very talented people that are well aligned with our credit and pricing philosophy. We've been fortunate to attract several highly experienced professionals to the credit team. So, we're comfortable the new loans being approved meet the credit standards that we've been careful to maintain. On the portfolio management side, we began pre-grading the existing Cape loan portfolio on the date of acquisition using the OceanFirst risk-rating scale. That process is more than half way complete, and…

Thanks, Dave. At this point, Mike, Dave, Joe, and I would be pleased to take your questions this morning.

We will now begin the question and answer session. [Operator Instructions] Our first question comes from Bernie Preston of Piper Jaffrey. Please go ahead.

Hi guys. I'm filling in for Matt Breese this morning. How are you?

Very good. How are you?

I'm doing well, thanks. I just have a few questions for you. I wanted to start off, thanks for the color on the loan sales. It helps to answer some of my questions about cash balances being up. But in the past, you guys have talked about certain opportunities, given your CRE concentration being below 300 and a sub 100% loan-to-deposit ratio. I want to know if you're going to use any of the cash for any potential loan purchase opportunities you're seeing in the market or any whole bank M&A.

It's Joe Lebel. We absolutely are having fruitful conversations today about utilizing some of the cash for additional CRE opportunities, and we expect, based on what we've seen most recently, that market terms have improved both in terms of structure and pricing. So, I think that's going to be a benefit to us as we head into the first quarter of 2017.

Okay.

And just to follow up on Joe's comments, there's a distinct possibility that interest rates may move up a little bit in December. So, as we go into next year, I think this cumulative focus on investor CRE by the regulatory agencies and the interest rate movements, we've been in no rush to deploy that, and we've had our credit folks really drilling down into every loan in the portfolio that we've acquired. So, what I think as we go into 2017, we see a return to growth in the commercial loan book.

Okay, great. And so do you think that will help offset some of the loss spread from the loans that you're currently selling or looking to sell moving forward?

Yes. We think we're going to be back in the position where we'll be able to grow both the loan book and net interest income during 2017.

Okay. What is the outlook for organic loan growth and deposit growth [indiscernible]?

So, the first comment I'd make is towards deposit growth. Yes, the deposits are doing quite well. I think any time that you get into an acquisition the size we did with Cape, you try and be conservative about your expectations about retention because if you make a mistake there and you wind up not retaining as much as you thought you might, you'd have a liquidity squeeze. On the positive side, that portfolio has performed better than we thought. I think so the combination of our continuing commercial lending efforts plus execution on the Cape strategy allowed us to come into the third quarter with deposits higher than, frankly, we forecasted. So, we're working through that and making sure that we understand the durations of the deposits before we rush to deploy them. And also, we wanted to get through the system's conversion, which was about a week ago and which went swimming, so we're very happy with the way that turned out. So going into that conversion, we thought it prudent to keep higher levels of cash balances. As we look into next year, I think we said in our prepared comments that there's a still a little bit of headwind. We have probably, at this point, maybe another 40% of the Cape book to re-underwrite the risk rate. That will happen between now and the end of the year, and as we apply our pricing minimums and structure constraints to that portfolio, that does put pressure on some of the renewals that will come through. So the fourth quarter is probably still a little bit of a headwind, but as we go into next year, we will have, with that integration behind us, we have - what we see is slightly improving structures and pricing in the investor CRE market. We may have a Fed rate hike. So, going into next year, we feel more comfortable. That said, we're not going to rush to deploy everything all in one quarter because we're just conservative by nature, and we want to dollar average it, and so I think is what you'll see is you'll see return to growth. But, as we've done in the past, we will focus on consistent growth quarter after quarter rather than rush to deploy all the excess liquidity in any one quarter. With our margins where they are in the 350's, and earnings where they are, we don't feel under pressure to go out and deploy this liquidity too quickly. We'll do it methodically, and probably most significantly, starting the first, second, and third quarter of next year.

Okay, great. Thank you. The last one from me, I was hoping you could remind us of NIM guidance with and without a rate hike in December.

I would say that our NIM has been pretty stable the last several quarters. We expect that stability to continue, while - let's say, for example, there is a rate hike. I think our overall expectation is very similar to the rate hike that happened last year, which was a nonevent. So, we expect very little pressure on deposit pricing, and we don't expect a whole lot of jump on the loan book, and that's for a couple of reasons. Many of the loans we have that float are at a floor, so until you get a couple of increases in, you're not going to start to pick up that incremental shift. And the non-floating loans, we've got to work through that over a period of time, so each quarter, there's a portion of those that would renew and re-price. So, I think the first interest rate moves probably will net in neutral. It helps maybe a little bit in origination yields, but then that's going to dollar average in over a series of quarters, not over one or two quarters. So, if the Fed were to move rates in December, we don't expect a near-term positive effect, but over time that would move itself through the balance sheet in a positive way.

Okay. All right, great. Thank you very much.

Thank you.

Our next question comes from Collyn Gilbert of KBW. Please go ahead.

Thanks. Good morning guys. I just want to thank you. That was really good color on what you guys offered on the risk mitigation efforts; you just really did great. So, I don't say things like that very often, so I just thought that was really good. One question on that though is, just trying to connect the dots, and you touched on it a little bit Chris, but the difference in when you first - when you guys assigned the mark on the Cape book being what it was, why you're still so comfortable with that relatively low mark, but given though the intense process that you're undertaking now with the portfolio. I guess I would have thought maybe there would be a tighter correlation there. So, I'm just trying to understand. I know you mentioned financial statements, so maybe it's just a process. You just have to check the boxes differently, but I'm just trying to understand those two parts.

Sure. Let me start with the kind of risk rating approach and although there's industry conventions around risk rating each bank kind of has its own risk rating guidelines, and every bank has a little different policy and application of, let's say, structural requirements or requirements for tax returns, and all that. So it's not uncommon for different banks, particularly you'll have banks that have different regulators, we're an OCC bank, and Cape had been an FDIC bank, they're not tougher or lighter, they're just different. So as you take a loan portfolio, which was of size, it was a $1.2 billion portfolio, and you move it from one set of guidelines to the other, you're just going to have changes. And if we moved the portfolio from us over to Cape, you'd have similar changes. So the risk-rating nomenclature is going to be different. You're exact ratings will change from time to time. Interestingly, I think this is the finer points of tuning a loan portfolio and making sure you've got uniform risk ratings. It doesn't speak that much about the aggregate level of risk in the portfolio. And in fact, the risk ratings that have changed below pass are actually a very small portion of the overall portfolio. So it's not a big deviation, and it's more moving from one bank's risk-rating scale to the other. It's not easier. It's not tougher. It's just kind of different. We do place a high emphasis on the reporting of annual financial statements from our clients. We review loans every year, and that's just a discipline that I think, in our size and our complexity, that we've got to maintain. So when you move loans when that are underwritten one way into a risk-rating scheme that's a little different, you're going…

Okay. That's really helpful. Thank you. And then, I think you talked about this, but just in terms of the outlook for 2017, obviously, with a re-ignition of the loan growth, you mentioned pricing and structure seems to be improving. Is that across the board in all loan categories or is that multifamily? Is that, I know I think you mentioned unoccupied CRE, but just - because it sounds like we're getting mixed messages from a lot of the banks as to how this pullback or pressure on CRE is impacting pricing. Some are saying not at all; others are saying it is. So, just trying to get a little bit more color as to what you guys are seeing.

Well, I would say that in the - we're not a big participant in the multifamily market, so I really can't offer much guidance around that. We don't do a lot of it, so my comments would be related to investor CRE that's not multifamily, so either office, retail, some construction, those kinds of things. What we're seeing is it's not a wholesale change, right? So we're not seeing things are way better than they were, but we are seeing - let's start with this, fourth quarter last year or second quarter this year, we would compete for deals where the structures were out on the edge in multiple areas. So, you would have a combination of risk characteristics. You might have a relatively low debt-service ratio, high LTV, nonrecourse, and long amortization periods. And when we look at loan, often they're very good loans that have a weakness. It might be a little bit weak on the debt coverage or a little bit weak on the amortization because it's a new building, but when you get into multiple weaknesses, that's where the credit risk starts to really balloon, and we were starting to see that. We saw a lot of deals that were coming through that we were either declining to pursue, and we had deals in our portfolio refinancing out for terms that we would never have matched. So, we saw that heating up end of last year and the first couple of quarters this year. That slowed reasonably in the, probably, tail end of second quarter now into the third quarter. So, while we haven't seen this pendulum swing where everything is great, we're seeing more rational competition. That's not easy, but it's something you can at least compete with. We can't say whether that trend is going to continue, but it looks like it will hold. So in incremental deals, we may see two or three bidders that had been in every deal prior to that may not be bidding, and maybe that's - I don't know why, but maybe that's because they've reached certain internal limits over concentration. And then as a result of that, if you’ve only got two or three or four banks under consideration, instead of five, six, or seven, you're tending to get structures that make more sense. So, we're cautiously optimistic. As I said, the pendulum is not swung back, but it's firmer, and we're seeing more deals that we think we can execute on within our risk parameters. So, you combine that with the potential rate increase in the fourth quarter, and we look at 2017 as having the opportunity to return to the kind of loan growth we've been posting, let's say, in 2015.

Okay. That's great. And then just one final question on operating expenses, given the ebb and flow of the cost saves, given some of the cost maybe still around this re-risking process, how should we think about maybe kind of a run rate or just an expense level in the fourth quarter, and then once - I know once we fold into Ocean Shore, but putting Ocean Shore aside, just the core with you guys and Cape, and how those expenses probably are going to run here in the near term?

Yes, Collyn, it's Mike. In the fourth quarter, we have some anticipated cost saves from the Cape Legacy system. I'll tell you that in the third quarter, the Cape Legacy costs were $7.1 million in total, about $4.7 million in compensation, so that's got to trend down a little bit. Also, service bureau was about $700,000. There'll be some reductions there, and there'll be some reductions elsewhere. So, the OceanFirst run rate, Legacy bank will probably trend at a stable level and there will be reductions in the Cape Legacy system, in that $7.1 million expense base and those will be layered in throughout the quarter. So there will be some benefit in the fourth quarter, and they'll be fully realized in the first quarter. So, I can't say what the exact number is, but there will be some expense saved realized in the fourth quarter and then more fully realized into the first quarter.

Okay. Okay, that's helpful. Thanks, guys.

Thanks, Collyn.

[Operator Instructions] Our next question comes from David Bishop of FIG Partners. Please go ahead.

Hey, good morning gentlemen.

Good morning, Dave.

Hey, Chris, you spoke about the inflow deposits exceeding your expectation in terms of the retention, has that caused you to maybe go back and look at the Ocean's City acquisition in terms of okay, what happens post-acquisition there, just in terms of the potential impact, post-liquidity upon completion of that merger? Is that - are you guys revamping the estimates there in terms of what happened in the post-merger?

Yes, we're thinking about that very carefully because you don't want to take one quarter's worth of trend and rely too heavily on it. You like to see this stuff persist. But the deposit trends came in a number of different areas; some of it our northern markets as well. I think one of the things that we learned is that the single biggest, I think, threat to deposit runoff from Cape was probably Ocean City Home because they were big players in the market. So I think the opportunity which some of the benefit is, you're seeing the benefit of combining both those franchises where you have two of the top players in the market. Not to say there are plenty of other competitors in the market, good competitors, so it's not an empty market by any stretch, but the two largest players were Cape and Ocean City Home. So, if you wind up on both sides of that, I think you've got fewer customers kind of going out and taking a look. So, I think that was a benefit that will also affect in our expectations around the Ocean City Home portfolio. So, we've always been a company that really valued core deposits both in growing them and having a high-quality base, 25 basis point cost of deposits. So, we're going to continue to push that as fast as we can, and we're comfortable. If that means we lag our loan growth a couple quarters and have a little bit of extra liquidity, at this cost, those deposits are worth holding on to, and then catching up the loan growth a couple quarters down the road.

Got it. Was there any sort of seasonality that impacted this quarter that maybe inflated that end-of-period cash that might flow back out in the fourth quarter to alleviate some of that short-term liquidity pressure?

There was certainly a little bit of seasonality, but actually, it wasn't as seasonal as you might think. Certainly, now having a little bit more concentration to depositors along the shore, I will say that the summer season was very good. Although we're not a big hospitality participant, we do have a lot of customers that have tangential connections into the hospitality business. And the summer was very good for all of our markets, so you would expect that receipts for all the local retailers and hospitality businesses were up and that transits to everybody else having a little more cash, but I would say that it's less than half of the deposit gain. This far into the quarter, we're not seeing that reverse. I would say we were also pretty conservative; whenever you're going through a data conversion, you're always very careful about maintaining liquidity and not having any issues arise. I will say that we had an extraordinary team of professionals within the bank; 70 or so people working on that conversion. They pulled it off flawlessly about a week and a half ago, and just a hat's off to everybody who's spent a lot of time and effort making sure that that worked as well as it could.

Got it. And I think in previous calls and just discussing with you, the cautiousness regarding investor's theories, saw a little bit of growth this quarter. Did that reflect just maybe some signs of life on just specific deals where you were able to get good risk-adjusted pricing and structure? I was just somewhat surprised to see growth in that category just given some of the overall cautiousness heading into the quarter. I'm just curious what sort of drove that growth.

Well Dave, I think you hit it on the head. It's Joe Lebel. We saw and closed a couple transactions that met both our pricing and more importantly, our credit standards. And as we’ve talked a little bit about it, we're cautiously optimistic that we're going to see and continue to see more of those. The pipeline is up with some additional transactions that we anticipate fourth-quarter, first-quarter close, and we're having better conversations in the market place around those types of transactions that meet our hurdles.

Got it, and then just one final question. I think, Chris, in the preamble, you noted maybe some departure of some lending officers that just had different views of credit risk underwriting there. Do you get the sense that that sort of departure from a staffing perspective was greater in line with expectations? Just curious in terms of just the overall trends of relationship managers there; did that leave you with a hole to plug? Are there opportunities to backfill those areas and really get more on the offensive from a loan generation standpoint moving forward?

I think yes, that's a very good question, Dave. The departures of a few loan officers and credit staff, whenever you go into an acquisition like this, and you do as much diligence as you can, and you talk to people and meet people, and all that, what you'll find is that in the months following the actual acquisition, you get to know them better. And you guys decide whether it's a good fit or not a good fit. By and large, these were all very good people. They just had a focus in areas of credit that might not have been for us. For example, maybe a lot of participations in larger bank credits, which are good credits, but we're not focused on lending $10 million as part of a $50 million deal and being a minority participant to that degree. So that's an example where you could make a very good loan, but it's not the relationship blending that we have been focused on. The second thing is that we have a pretty rigorous pricing model. I don't think any pricing model is perfect, but every time we make a new commercial lending decision, it goes through our pricing model and that's a challenge. It's a challenge for our experienced lenders in every market we're in, and it requires a certain discipline around structures and interest rates and deposits and fees. If you're a relationship lender, I think you can work very well within our format. If you're a transactional lender, and there are a lot of very good transactional lenders out there, it's going to be much harder to get the deal through that pricing formula. And I think for good reason, because you don't have the deposits compensating and the other costs. So, it wasn't a…

I got it. I appreciate the color; it's much appreciated.

Thank you.

[Operator Instructions] It appears that we have no further questions at this time. This concludes our question and answer session. I would like to turn the conference back over to Mr. Christopher Maher for any closing remarks.

All right, once again, thank you for joining us this morning for the call. We will look forward to presenting additional updates as the year progresses. Thank you.

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