Zions Bancorporation, National Association (ZION) Q1 2018 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and thank you for your patience. You joined Zions Bancorporation's First Quarter 2018 Earnings Results Conference Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, this conference may be recorded. I would now like to turn the call over to your host, Director of Investor Relations, Mr. James Abbott. Sir, you may begin.

Thanks, Latif, and good evening everyone. We welcome you to this conference call to discuss our 2017 first quarter earnings. For our agenda today, Harris Simmons, Chairman and Chief Executive Officer, will provide a brief overview of key strategic and financial objectives; after which Paul Burdiss, our Chief Financial Officer, will provide an update on Zions' financial condition, wrapping up with our financial outlook for the next four quarters. Additional executives with us in the room today include Scott McLean, President and Chief Operating Officer; Ed Schreiber, Chief Risk Officer; and Michael Morris, Chief Credit Officer. Referencing Slide 2, I would like to remind you that during this call, we will be making forward-looking statements, although actual results may differ materially. We encourage you to review the disclaimer in the press release or the slide deck dealing with forward-looking information, which applies equally to statements made in this call. A copy of the full earnings release as well as a supplemental slide deck are available at zionsbancorporation.com. We will be referring to the slides during this call. The earnings release, the related slide presentation and the earnings call contains several references to non-GAAP measures, including pre-provision net revenue and the efficiency ratio, which are common industry terms used by investors and financial services analysts. The use of such non-GAAP measures are believed by management to be of substantial interest to the consumers of these financial disclosures and are used prominently throughout the disclosures. A full reconciliation of the differences between such measures and GAAP financials is provided within the published documents, and participants are encouraged to carefully review this reconciliation. We intend to limit the length of this call to 1 hour. During the question-and-answer session of this call, we ask you to limit your questions to one primary and one related follow-up question to enable other participants to ask questions. With that, I will now turn the time over to Harris.

Thanks very much, James, and welcome to all of you to our call today to discuss the first quarter results. The results for the quarter were strong relative to year-ago results. On Slide 3, we summarize a few of the key financial accomplishments that we've made over the past year. Many of the results of our simple, easy, fast initiative have helped to produce the strong earnings per share growth and profitability improvement shown on this slide. And the efforts of the past several years to bolster risk management, together with improved conditions in the energy sector, have resulted in greatly improved credit quality metrics. Slide 4 highlights our earnings per share growth over the past year and also refers back to the fourth quarter of 2014 to show a longer-terms perspective. The GAAP diluted earnings per share of $1.09 includes a couple of items that are operating in nature but are generally infrequent in their occurrence, so we're calling those out there. Should one elect to adjust for those, the diluted earnings per share would have been approximately $0.88 per share that compares to a year ago period of $0.61 per share, about a 44% increase. While that pace of earnings growth will obviously subside, we do feel confident that we’re in a position to continue to deliver solid core earnings per share growth in the foreseeable future. One of the real highlights of the first quarter 2018 is the continued strong improvement to credit quality. On Slide 5, you'll see the strong trends depicted on the chart on the right, classified loans declining a very strong 30% from the year ago period. Oil and gas loans were meaningful driver of the improvement, accounting for 81% of the year-over-year improvement in classified loans. Net charge-offs of the quarter were only 5 basis points and we expect that credit recoveries which were $21 million will remain a beneficial factor in the remaining months of 2018 and will contribute to what we expect will be a low overall rate of net charge-offs. On a related topic, a major reason for the particularly strong GAAP diluted EPS result was a reduction in the allowance for credit losses, which declined $52 million from the prior quarter and resulted in a negative provision for credit losses of $47 million, driven primarily by improvements in our oil and gas portfolio as well as much greater clarity around the minimal effect of Hurricane Harvey's impact on our loan portfolio. Importantly, the problem loan coverage of the allowance for credit losses did not deteriorate and in fact, strengthened somewhat. The allowance was about 1.3x our non-performing asset balance and about 0.5x our classified loan balance, both of which ratios are moderately stronger than the year-ago period. The other major theme that has developed over the past three years is strong and consistent growth in pre-provision net revenue as depicted on Slide 6. Adjusted for the items mentioned previously, our adjusted pre-provision net revenue increased 19% from the year-ago quarter. We expect to continue to experience growth of pre-provision net revenue in the high single digit range without giving consideration to additional interest rate increases by the Federal Open Market Committee. We have good momentum in the key areas of revenue growth. The macroeconomic environment is certainly helping. Tax reform will be a major boost through the remainder of the year, and noninterest expense should remain well controlled growing only slightly in 2018. Slide 7 highlights two key profitability metrics return on assets and return on tangible common equity. We’re encouraged by the continued improvement in these balance sheet profitability ratios and remain focused on achieving competitive returns on our assets relative to peers. Moving to Slide 8, we experienced 5.4% year-over-year growth in average loans held for investment despite continued attrition in several portfolios as Paul will highlight. Achieving deposit growth has been a greater challenge, although that might be expected given the fact that the Fed is drawing liquidity from the system and because we've remained very disciplined on deposit pricing. We expect to remain disciplined with deposit pricing. We've experienced some pressure on larger dollar deposits, but we generally have a very granular deposit base, including a strong concentration of operating accounts for businesses and households. Additionally, we have a highly liquid balance sheet. These factors should help to mitigate deposit price sensitivity. Slide 9 is a list of our key objectives for 2018-2019 and our commitment to shareholders. We remain focused on simplification as well as growth, which include balance sheet, revenue, pre-provision net revenue and earnings per share growth. We’re committed to continuing to achieve positive operating leverage. We have momentum in most areas of revenue generation. We have an economic tailwind with rising interest rates and strong customer sentiment. We’re targeting high single-digit growth of pre-provision net revenue without the assistance of benchmark interest rate increases. We believe we've built a very strong risk management infrastructure, and as such, we expect to reduce level of volatility in credit quality during the next downturn, whenever that maybe. And we noted at our recent Investor Day that we expect to be in the best quartile among our peers for net charge-offs when that next credit cycle has run its course. We continue to invest significantly in technology improvements, which includes a substantial overhaul to our core operating systems, which we expect will deliver benefits for years to come. We remain committed to further improvement and simplification of our operational processes. Although we've already accomplished a great deal of operational and financial simplification, we believe there's still much we can accomplish, which we believe will result in further improvements in the efficiency ratio, balance sheet profitability measures and better satisfaction for customers and employees. Because of simplification efforts taken in 2015 and subsequent to our announcement in mid-2015 of some earnings measures that we are determined to hit because of our quest to simplify operations further, we announced in November that we expect to demerge the bank holding company into the bank, which would streamline our regulatory requirements. We filed our merger application, and this week, we expect to submit our appeal to the Financial Stability Oversight Council, requesting that we be de-designated as a systemically important financial institution. We expect we'll have a preliminary answer from the FSOC within about three months and a final answer sometime this fall. Back in 2015, we indicated that we are going to be targeting much more substantial returns on capital than what we could be seen then. As I just mentioned, there's still room for improvement, some of which should be achieved as we continue to rightsize our capital structure. Regarding returns of capital, we have increased that amount to a level slightly above the peer median, and we view a moderate increase of balance sheet leverage is appropriate, particularly given the reduction of the risk profile of the company. And we remain committed to the community bank approach that we've had for long time, maintaining separate brands that we believe help the company win awards such as the Best Bank in Orange County, California, San Diego County, state of Nevada and others and that result in a customer profile that is particularly attractive. With that overview, I am going to turn the time over to Paul Burdiss to go through the financial statements in a little more detail. Paul?

Thank you, Harris, and good evening everyone and thank you for joining our call. I will begin on Slide 10. For the first quarter of 2018, Zions reported net earnings applicable to common shareholders of $231 million, or $1.09 per diluted share. We have highlighted a handful of rows on this page that experienced particularly notable improvements over the prior year. It's worth highlighting the change in the effect of tax rate, which is much lower than in the prior quarter. As you may recall, in the prior quarter, we experienced a revaluation of our deferred tax asset due to passage of the Tax Cuts and Jobs Act and the related change in the statutory corporate federal tax rate. In addition to the DTA revaluation, we had a higher statutory tax rate in the prior year than we had in the first quarter of 2018, also because of the passage of the Act. In the first quarter of 2017, however, we experienced a relatively low effective tax rate due to a one-time adjustment related to state tax returns, which did not occur again in the first quarter of 2018. Earlier, Harris highlighted our strong pre-provision net revenue growth. Turning to Slide 11, I'll add some additional color about the components behind that strong growth. Nearly 80% of our revenue comes from net interest income, which continued to demonstrate substantial growth in the fourth quarter relative to the prior year period.

First quarter.

Sorry, in the first quarter relative to the prior year period. Net interest income increased $53 million or 11%, which included $11 million of interest recoveries from four loans, similar to our experience in the second quarter of 2017. Interest income increased approximately $74 million or 14% from the year-ago period, of which 86% is attributable to growth in interest income on loans with the remaining attributable to the investment portfolio. With respect to revenue drivers, I'll discuss earning asset volume first then transition to rates. Slide 12 is a graphical representation of our loan growth by type relative to the year-ago period. The size of the circles represents the relative size of the loan portfolios, and the circles are ordered by size left to right from smallest to largest portfolios. Total period-end loan growth was 5.5%. I would note the relatively balanced growth across most components of the loan portfolio. Commercial and industrial, owner-occupied and home equity loans all increased in the mid- to high single-digit range, a trend that has been fairly consistent for several quarters. Municipal loan growth has been strong during the past year. The credit quality of the production is very strong with very low probabilities of default. Commercial real estate, including the construction and the term portfolios, increased slightly. Although from a risk management perspective, we are comfortable growing that portfolio, the pricing of deals in the commercial real estate space has become more competitive during the past three months, much more than for commercial and industrial loans, and therefore, the commercial real estate growth may be a bit less than previously anticipated. Putting it all together, we remain comfortable with our loan growth outlook for moderate growth, which is interpreted – which is to be interpreted as a mid-single-digit annual rate of growth. Slide 13 breaks down key rate and cost components of our net interest margin. Top line is loan yield, which increased to 4.51%, of which about nine basis points are related to interest recoveries on four larger loans. Such recoveries may be somewhat episodic in frequency. New loan production for the first quarter was moderately higher than the yield of the portfolio. Without future rate hikes and excluding the nine basis points of interest recoveries in the first quarter, we expect the yield on the loan portfolio to increase slightly from the current level. The yield on securities is likely to increase modestly over time as the yield on new securities is higher than the current portfolio yield. However, we do have more than $500 million of premium on the securities portfolio, and as such, swings of prepayment speeds can create a bit of yield volatility from quarter-to-quarter. The duration of the securities portfolio was 3.4 years at March 31, 2018. After shocking the portfolio by increasing the yield curve by 200 basis points, there is a minimal 0.2-year increase in duration. Touching on deposit costs, the average cost of total deposits increased to 15 basis points from 10 basis points a year ago, and the cost of interest-bearing deposits increased to 20 basis points from 19 basis points a year ago. With the daily average federal funds target rate of 73 basis points during the same period, the total deposit beta was about 7% and the interest-bearing deposit beta was about 12%. As a reminder, beta refers to the incremental cost of deposits relative to an increase in the benchmark federal funds rate. We still see a fair amount of stability in almost all of our products and regions, although certain geographies and products have experienced higher deposit betas. I’ll also note that on Page 15 of the earnings release, the average balance – in the average balance sheet section, about three quarters the way down the page, we've added a line that sums the cost of total deposits and other interest-bearing liabilities, which had a total cost of 33 basis points, up from 18 basis points a year ago. One might refer to this as the total funding beta, and for Zions, this was about 20% over the prior year. We highlight this because this is how we think about balance sheet management, a holistic view of assets and liabilities. With that, let's move to a brief review of noninterest income on Slide 14. Customer-related fees increased 7% over the prior year to $123 million. Several line items experienced a favorable improvement relative to the year-ago period, including loan fees from our syndication efforts, Wealth Management fees, corporate card and business and consumer credit card and interest rate swaps sold to customers to help them hedge their interest rate risk. Noninterest expense on Slide 15 decreased to $412 million from $414 million in the year-ago period. However, using our calculated adjusted noninterest expense, which adjusts for items such as severance, provision for unfunded lending commitments and other items, noninterest expense increased to $419 million from $411 million in the year-ago period or about 2%. A portion of the increase relates to additional compensation that we announced in conjunction with the Tax Cuts and Jobs Act, which will be paid to most employees making less than $100,000. The remainder is attributable to an increase in health care costs, higher profit sharing, normal cost of living adjustments for existing employees and a modest number of net new full-time employees. Turning to Slide 16. The efficiency ratio was approximately 62% if excluding the items I noted earlier. You may recall that the first quarter of each year typically reflects lower revenue because of fewer days of interest income and higher salary and benefit expense due to payroll taxes and stock-based compensation. Also, when comparing the results to the prior quarter, there was an additional adverse impact to the efficiency ratio in the first quarter of 2018 related to the tax rate used when grossing up income from municipal loans and securities in order to arrive at a fully taxable equivalent net interest income result. That change adversely affected the efficiency ratio by just over 30 basis points in the first quarter relative to the fourth quarter of 2017. We are reiterating our goal to achieve an efficiency ratio below 60% for the full year of 2019, excluding the possible benefits of rate increases. And finally, Slide 17 depicts our financial outlook for the next 12 months relative to the first quarter of 2018. In the interest of opening up the line for questions, I won't read the slide to you, but we'll be happy to take questions about it. This concludes our prepared remarks. Latif, would you please open the line for questions.

Absolutely sir. [Operator Instructions] Our first question comes from the line of Dave Rochester of Deutsche Bank. Your line is open.

Hey good afternoon guys.

Dave.

On the loan pipeline heading into 2Q, you guys had a nice pickup in loan growth last year in 2Q. Are you seeing similar strength versus what you saw this time last year ex this CRE pricing issue you mention?

Yes Dave this is Scott McLean. We wouldn't normally comment on sort of inter-quarter math, but we think this quarter will probably look like our traditional second quarter. So we're seeing really good progress across the loan portfolio as we have been over the last year.

Okay, great. Thanks. And then, just – go ahead.

Off to a stronger start in the second quarter than we were in the first, I think, is also fair to say. So three weeks doesn't a quarter make. We're off to a little better start than last quarter.

Great, I appreciate that. And then just one quick follow-up. In terms of that loan growth, what are the chances that you can fund loan growth with deposit growth this year?

Well, I'll start then Harris and Scott can chime in. As noted in our comments, deposits have been kind of chopping sideways over the course of the last year as the marketplace gets more competitive. That being said, we have a lot of client money that exists off our balance sheet, and we're looking for ways to create products and opportunities to waive that money back onto the balance sheet.

And really, the – this is Scott. The game is really involving wholesale deposits, the large deposit balances of our larger clients. And generally, these are $10 million, $20 million, $40 million, $50 million balances and as well as the sweep balances that are off our balance sheet as Paul related. And we are getting increasingly more agile at pricing those wholesale deposits. As you know, we're borrowing overnight from the Federal Home Loan Bank, and we still have quite a bit of competitive room to price deposits and still be at a significant advantage to that overnight borrowing rate. And we would like to think that as we go into the end of the year, second half of the year, we'll see improvement in that area.

So the goal is to effectively fund the loan growth with deposit growth completely this year?

That would be the goal, yes.

Okay, great. Thanks guys. Thank you.

We have room to do that in a financially beneficial way to the company.

Thank you.

Thank you. Our next question comes from the line of Ken Zerbe of Morgan Stanley. Your line is open.

Great, thanks. I guess, at one point, you guys had assumed a fairly large decline in your noninterest-bearing deposits in your rate sensitivity tables. Doesn't seem to be happening in terms of just looking at that Page 15 in the press release, like NIBD is pretty stable. Is that still a fair assumption? Do you think that we all should be making that, at some point, noninterest-bearing actually does start to decline in a more meaningful way as rates keep rising? Or is – or are things different? Thanks.

Well, I guess, I continue to believe that continued increase in interest rates that, that would be something that we would expect. I mean, we've been at about 45% of total deposits, in demand deposits. And in a more traditionally normal interest rate kind of environment, I have a hard time thinking that, that's what normal is. But happily, we haven't seen that so much so far, and I do think we have – I mean, we have a fabulous deposit base. And as we’ve noted, it’s a very – a lot of small business deposits, and we think they’re pretty sticky. A lot of them are supporting the operational needs and paying for services, treasury management, other services. And that helps put us – as rates rise, earning credit rates will rise and they’ll need less of that. So I continue to think you’ll probably see some runoff as – or not runoff but it’s switching into interest-bearing accounts as we get further into the rate normalization process here.

I’ll just add to that, that you look back over the last couple of decades, even longer. We’ve had a favorable mix of DDA. The total deposits compared to our peers, it’s not – if it’s not industry leading, it’s very close. And for all the reasons Harris just noted, I think we’ll maintain that strong relative position to peers for the reasons he indicated.

Got you, okay. And then just going back to the balance sheet growth this year. Does there come a point where growing your loan portfolio with deposits just doesn’t make sense, I mean, meaning that you’d actually choose to, whatever, not pay up for deposits but you’d actually use your securities portfolio instead by choice to fund loan growth?

Yes. Ken, this is Paul. That’s a possibility, although I – funds can come from a number of sources. As you said, they can come from deposits. They can come from other wholesale borrowings or they can come out of other assets such as securities portfolio. So all that being said, we don’t anticipate there being such a advantage to funding by decreasing securities relative to those other sources of funding. So I would say, of the three that I outlined, that would probably be our last choice. And as Scott and Harris have both mentioned, we’re pretty confident on balance sheet growth this year.

I’ll also just say, I mean, the – we really price the deposit base we have. We’re going to be careful to make sure that we hold onto them. We’re not going to put – if we start to see movement in smaller dollar accounts because of interest rate sets, that’s something we pay attention to so.

I think you also have to look at the kind of lending we do. The kind of lending we do, the portfolios we have on the page that Paul pointed out are generally very deposit friendly type portfolios. They come with deposits. If you saw us talking about really big increases in real estate lending, it generally doesn’t attract deposits with it. Really big corporate lending doesn’t attract deposits. And so again, the kind of lending that we do generally, deposits come along pretty nicely with it.

All right. Great, thank you.

Thank you.

Thank you. Our next question comes from the line of John Pancari of Evercore. Your line is open.

Good afternoon.

Hey, John.

Regarding the ROE, I know, Harris, you mentioned you’re looking to return a substantial amount of capital but also return on capital as you indicated on Slide 9 as well. You guys didn’t provide an actual outlook on your ROE at your Investor Day. Can you elaborate a little bit on your thinking on where you think that could head, if you can give us some idea of where the ROE could go? Some color there would be helpful.

Well, just generally, I think it can go up from where it’s been. I mean, obviously, this quarter had – because of the negative provision, this quarter’s ROE is a little unfair to compare anything in the near-term to. But we’ve done a lot to really change in a very positive way the risk profile of the company, and I don’t want to be going into a downturn ever behind the goal line. And I think we – and we kind of did that back in 2008. But at the same time, our common equity Tier 1 ratio is very strong. I think it can come down. Some of that, I expect, will come from growth, but there’s a lot of capital that needs to continue to be paid out to manage that appropriately. And as that happens and we continue to see a little better balance sheet profitability, better – continued operating leverage, I do expect it will continue to increase and ultimately, to be very competitive with what you see from many of our peers. My – when I say ultimately I don’t think that’s a long-term kind of project. It’s like – I think it goes out a couple of years.

Okay. All right. Thanks for that. And then on that point you made earlier that this quarter benefited from the lower loan loss provision or the negative provision, you put up a negative provision now I guess, a couple quarters in a row. And how do you think about – I know your guidance is for a modest LLP. Can you help define modest? I mean, is there likelihood that you bleed this reserve incrementally from the 1.05% level? Thanks.

Let me – I want to talk about how we think about it internally first. I think about the reserve and the provision as an accounting exercise and a little detached from the real operating results of the company. For example, all of our incentive compensation arrangements are built around pre-provision net revenue less actual net charge-offs because until something’s actually charged off, it’s – I mean, we have all kinds of bets around the tables as to what the losses are actually going to be. We have a very thorough process to – and we spent a lot of time trying to get to the right allowance number and a resulting provision number. But fundamentally, we’re focused on what are losses going to look like, net charge-offs. And now having said all that, we’re getting to a point, right? I don’t think there’s a lot of additional room to keep running down a reserve. This quarter was a little special because we’d set up in the third quarter of last year about a $34 million reserve for Hurricane Harvey, and we still had a very strong reserve for energy. And as we got to this point, we’re now three months into this year. We can look back to the end of August in Hurricane Harvey and we’ve – five months have passed, and we say it’s – or six months have passed, we say it’s – we’re at a point now where we can pretty well see that the impact of that is going to be negligible. And so we’ve really needed to release a lot of that reserve. And likewise with energy. I mean, we’ve got $68 oil. And we’ve been through the portfolio pretty carefully, and we think that, that story is pretty much over. So a lot of what you’re seeing this quarter is really because of those two pieces, but beyond that, there’s not a lot of – probably a lot of room to be doing much with the reserve.

Got it. Okay. Thanks, Harris.

Yes.

Thank you. Our next question comes from the line of Ken Usdin of Jefferies. Your question please.

Thanks. Good afternoon. Paul, can I come back to your question? On Slide 6, you talk about expecting a stable balance sheet and investment portfolio. So I just wanted to deepen the questioning about how strong you intend to go on this remixing of the deposit base. And so we’re talking about a flat earning asset base, but your loans grow and then you just remix the deposits away from that higher cost funding. Is that the goal in terms of that comment about stable balance sheet?

Yes. I think if I misspoke, I apologize. That’s certainly – I was not trying to convey that our earning assets are going to be flat. My expectation is that the investment portfolio probably won’t grow much, but we’re certainly expecting our loans to grow. And as discussed previously, we’re hopeful that, that loan growth will be supported by deposit growth. But I would not say that deposit growth is going to be a constraint to loan growth. So I apologize if I wasn’t clear, but my expectation is the earning assets will continue to grow. It’s just that the investment portfolio, I expect to be relatively stable.

Understood. That’s great. Great, thanks for clearing that up. My second question, on the premium amortization, you mentioned there’s $500 million less. Can you help us understand how much of it is in the run rate? And what drives the deltas of that going forward in terms of how ratably or episodic it is as it comes through the investment portfolio yield? Thanks.

Yes. It’s really predicated on prepayments. As you know, changes there – and there are – our portfolio is a little unique in that we’ve got a fairly large component of floating rate assets that’s in our SBA book. There’s about $2 billion, and those have about a 10% premium attached to them. So $200 million is related to – approximately $200 million is related to that $2 billion of SBA. So the remainder of it is associated with the $15 billion – the $13 billion of remainder kind of AFS. But it’s – prepayments generally are driving the amortization of that premium. And so when you look at the MBS, that’s generally going to be rate driven. That is to say lower rates will drive kind of faster prepayments, and therefore, faster premium amortization. And the opposite is true as rates go up on the MBS portion. And I would ask you to recall and as we’ve discussed on previous calls, on the SBA portion, we actually think that the prepayments on those react in an opposite way. That is if interest rates go up, in our experience, the prepayments actually accelerate occasionally on those. And so the two sort of offset each other, which is why you’re seeing limited extension risk in the portfolio as I mentioned on my comments. So those are the factors that get into premium amortization and fluctuation from quarter-to-quarter.

And can you help us establish a base of how much you’re having today? Like, do you give us a number for that?

Yes, I’ve got it right in front of me. Hold on a second. It was about – yes, so about $18 million – probably about $18 million this quarter.

Okay, thank you.

Okay.

Thank you. Our next question comes from the line of Brad Milsaps of Sandler O’Neill. Your line is open.

Hey, good afternoon.

Good afternoon.

Just wanted to follow up on the loan growth commentary. When we were there in February meeting with some of your regional folks, they seemed pretty bullish on loan growth overall. Just kind of curious on your thoughts on what would need to happen to come in at the high end of your guidance. And then looks like unfunded commitments are up quite a bit, whereas the mid-single digit’s something more you’re managing to. In other words, do you have the appetite to take that higher if the loan growth’s in fact there?

Brad, this is Scott. As we said at Investor Day, our – all of our planning is built around mid-single-digit loan growth. Naturally, in any given time period, we could be above or below that, but we are certainly seeing good strength right now. And if we saw 7%, 8%, 9% loan growth, we wouldn’t try to hold that back. That would be a very natural kind of – we can certainly maintain that kind of loan growth or management if we are able to achieve it. And I – just in terms of color, if you really look at loan, year-over-year growth in our various portfolios, you can see that in the slides and the appendix but really solid growth across almost all of our affiliates, Texas, California, Arizona, Colorado, Washington, really strong C&I growth. CRE actually contracted last year as you know. And so – and really strong consumer growth principally one to four family mortgage, but our HECL portfolio has done well. And as you know, in the last downturn, both our home equity HECL portfolio and one to four family did very well as did our C&I – non-energy-related C&I. And so what would have to change? A couple of things, where we haven’t seen any CRE growth, we probably will see CRE growth this year. That would be a factor that could push us into higher growth rates for the whole portfolio. Energy, you’ll notice for the first quarter year-over-year, energy is now flat and to up very slightly, and it would not be unusual for us to see energy growth again as we’ve said in various public settings, including the Investor Day. That could push our growth higher. Those would be two, I think, key factors in addition to just continued solid consumer growth and small business growth that is coming in very little pieces. But we’re getting those processes much more efficient than they’ve ever been before, and so our colleagues are seeing a much greater pull-through rate on small business lending.

Thank you. That’s helpful. And just quick follow-up for Paul. You addressed this a little bit with the funding, but the average borrowings in Fed Funds were, I don’t know, up maybe over – maybe like $1.2 billion for the quarter but then down at period-end. Would you expect that it would be closer to the period-end balance going forward? Or is that just really dependent upon the other factors you talked about related to deposits, et cetera?

Yes, I would characterize it in the latter category. That is highly dependent upon the interplay between loans and loan to deposits.

Thank you.

Thank you. Our next question comes from Geoffrey Elliott of Autonomous. Your line is open.

Good afternoon. Thanks for taking the question. You’ve touched a bit on competition on the commercial real estate side. Can you expand a bit on where that competition is coming from?

Life insurance companies, mid-sized banks. We’re not seeing – I think structure is remaining pretty good shape. It’s really just pricing. And pricing has come off 50 basis points, Michael, I think.

I would say, on the CRE side, off 50; money center banks, 2.

Yes. So this – over the last kind of six months, it’s – we really have seen a shift. I mean, we’ve actually seen some strength in pricing. I think if we were having this conversation a year ago, I think we’re probably talking about looking stronger, and that’s all gone away. So…

So it sounds pretty broad. I mean, just thinking more broadly, are you seeing any signs of tax reform, the benefits of that kind of starting to get competed away on strengths, what’s going on in CRE could be a manifestation of that or just more just kind product specific?

No. I think that could be certainly a factor in what we’re seeing there. And I – anecdotally, I’ve heard a couple of situations where we really believe that’s the case where – but it’s hard to know what motivates anybody in terms of their pricing.

Great. Thank you very much.

Thank you. Our next question comes from the line of Matthew Keating of Barclays. Your question please.

Yes, thank you. My question is on the efficiency ratio. I appreciate the reiteration of the less than 60% efficiency ratio in 2019. I guess, my question is we’ve already seen pretty good year-over-year improvement in the first quarter, and as you look out, I know you’ve been guiding to continuous improvement in the efficiency ratio. But could we get close to that 60% target in 2018 as well? Thanks.

Certainly, we could. Yes, it’s mathematically possible.

As you know…

I guess, my question is more like what’s slowing down that improvement here now. Is it simply just that the NII growth is slowing here with the securities book flat? Or is it just, again, some of the investments you’re making in technology that are leading to expenses in that – so that’s [indiscernible] improvement.

As we noted, I mean, about – there’s about 30 basis points of efficiency ratio that’s related just to the change in tax rate on our unique portfolio.

Headwind.

A headwind, yes. And I’d continue to note that we are – we continue to spend on the replacement of our core systems. I mean, we’re spending on technology, and we think that’s absolutely the right thing to be doing. But that probably elevates, and I mean, I – we’re spending on digital technology as well, but the core replacement is something that’s reasonably relatively unique to us, not totally. But we’re going to continue that – down that path. We think that’s something that we need to be doing for the long haul. And it will – we do think it will continue to improve. When it crosses 60% consistently is – we just – that kind of precision is beyond what we are in the business of trying to provide, so…

And I’ll just maybe make a qualitative comment. We embarked on this odyssey several years ago. We had a 74% efficiency ratio in the fourth quarter of 2014, and we’ve moved that down significantly. And I think, qualitatively, we would all agree that going from 74% to 64% was maybe a little easier than going from 64% to 54%. And so as Harris said, we can expect to continue to make progress. Although it’s easy to get used to the pace of improvement that we’ve observed over the last couple of years, I think we should all expect that to slow down just a little bit.

Thank you.

We’ve clearly guided to this sort of what we’ve referred to as slight increase in noninterest expense, which was sort of defined roughly as 2% to 3% last year. And you can see that in our numbers now. We’re sort of on track with that, and we’re very committed to that.

I mean, I find myself thinking a lot more about operating leverage than I do efficiency ratio per se. And we’re investing and we’re hiring producers and trying to make sure that we’re investing in growth. So that can come at the cost of short-term efficiency ratio. We’re just not going to be a slave to efficiency ratio. We needed to be when it was 74%, I think, than with 60% or 62% less so.

Thank you.

Thank you. Our next question comes from the line of line of Brock Vandervliet of UBS. Your line is open.

Thanks for taking my question. Yes. I wanted to come at runoff once again. The idea that energy is now flat, I think, is particularly encouraging. Could you talk about the National Real Estate portfolio and what you’re feeling about those dynamics and when we might see that bottom as well?

It’s still declining at about a 10%, 11% rate, which is roughly a $1.8 billion portfolio – $1.7 billion, $1.8 billion. And it – we anticipate it continuing to decline this year as it did last year. It should start to slow, but we could see that portfolio decline over the next 18 to 24 months. But it’s probably the only major portfolio in the company that is seeing that trend.

Okay. And that was $1.8 billion, you said?

$1.7 billion.

Let’s say $1.7-ish billion.

Okay. Great, thank you.

Thank you. At this time, I’d like to turn the call back over to Mr. Abbott for any closing remarks. Sir?

Thank you, everyone, for joining the call today. We appreciate your attendance and your interest in Zions. We will be able to meet with you throughout the quarter if you’re attending conferences. And if you have any follow-up questions, I’ll be around tonight for a little while to respond to those questions or anytime in the future. Thank you so much, and appreciate your attendance today.

Thank you, sir. Ladies and gentlemen, this concludes today’s conference. Thank you for your participation, and have a wonderful day.