First Foundation Inc. (NASDAQ:FFWM) Q4 2022 Earnings Call Transcript

First Foundation Inc. (NASDAQ:FFWM) Q4 2022 Earnings Call Transcript January 26, 2023

Operator: Greetings, and welcome to First Foundation’s Fourth Quarter and Full Year 2022 Earnings Conference Call. Today’s call is being recorded. At this time, all participants have been placed in a listen-only mode and the floor will be open for your questions following the presentation. Speaking today will be Scott Kavanaugh, First Foundation’s President and Chief Executive Officer and Chris Naghibi, Chief Operating Officer. Before I hand the call over to Scott, please note that management will make certain predictive statements during today’s call that reflect their current views and expectations about the company’s performance and financial results. These forward-looking statements are made subject to the safe harbor statement included in today’s earnings release.

In addition, some of the discussion may include non-GAAP financial measures. For a more complete discussion of the risks and uncertainties that could cause actual results to differ materially from any forward-looking statements and reconciliations of non-GAAP financial measures. See the company’s filings with the Securities and Exchange Commission. Additionally, I’d like to inform you that the First Foundation in terms of the filing a proxy statement and related proxy materials with the Securities and Exchange in connection with the company’s 2023 annual meeting of stockholders and in connection there within extracted in terms of its executive officers are participants in the solicitation are proxies from our stockholders in connection with the annual meeting.

Stockholders are First Foundation strongly encourage to read such proxy statement and all other related materials filed with the Securities and Exchange Commission. Carefully and in their entirety, when they become available as they will contain important information about the 2023 annual meeting and we’ll not be making any comment on this call about the recent nominations made. And now, I’d like to turn the call over to Scott Kavanaugh.

Scott Kavanaugh: Good morning, and welcome. Thank you for joining today’s earnings conference call. First, I’ll discuss the highlights of our fourth quarter and full year 2022 results, followed by Chris Naghibi, our newly appointed Chief Operating Officer, who will discuss our loan and deposit business. Then we’ll open it up for questions. The earnings that we reported this morning reflect the resilience of our core businesses and our commitment to managing expenses strategically slowing loan growth, identifying greater operational efficiencies while growing the meaningful relationships we have built with our new and existing clients. As you know, we also made some key management changes in organizational realignment over the last quarter that are reflective of our commitment to optimize our workforce, identify the right talent for critical positions and realign First Foundation to best execute on behalf of our clients and shareholders.

I can truly say that everyone has done a tremendous job and I am so proud of how our deep bench of talent has stepped up. Our diverse business model and service focus culture, continue to perform well and this is particularly true during this market cycle. There is no question we continue to face the pressures placed on the banking industry due to the Fed’s actions over the last nine months. In the last quarter, the Fed raised rates an additional 125 basis points. This has occurred while the tenure year also has decreased by 50 basis points. This interest rate inversion has put pressure on both margin and income for the entire banking sector, and we fully realize those factors remain a challenge for 2023 and beyond. It is against that backdrop that I am pleased to report our earnings per share was $0.31 or $0.35 when accounting for the valuation adjustment on the NYDIG equity investment, recent executive departures and professional service fees.

We generated $81.9 million in revenue and $17.4 million in earnings for the quarter and $366.9 million in revenue and $110.5 million in earnings for the full year, while our adjusted return on average assets ended the quarter at 0.63% and 1% for the full year. We continue to actively position ourselves for long-term success. We are focused on optimizing our operation to reflect the current environment and we have taken steps to create additional operational efficiencies. We have always run a lean operation compared to our peers and we continue to manage with this in mind. That said, we will prioritize our spending on client service, risk management and security. We will not sacrifice our strong reputation in these key areas. This means that projects such as optimizing our data warehouse in cross-promoting our services will be a priority.

Our Bitcoin project to our banking clients will be on hold indefinitely as we continue to seek regulatory guidance. Our tangible book value per share ended the quarter at $16.20, which represents a $0.24 increase for the quarter and a $1.28 increase for the full year. We also declared and paid our fourth quarter cash dividend of $0.11 per share. We experienced an 11.5% year-over-year growth in tangible book value per share, including cash dividends paid. We believe this will continue as we deliver strong returns to our shareholders. As we mentioned in the last quarter, we began strategically managing our loan growth while focusing on keeping and adding deposits and our fundamentals remained strong with excellent credit quality. Notably, our credit quality remains pristine and our NPA ratio declined to 13 basis points, which is even low for us, considering we started the quarter at 14 basis points.

This reflects our continued underwriting discipline and standards. Our loan-to-deposit ratio decreased to 103.5% as of December 31, 2022 down from the 108.4% at the end of the quarter. This is a testament to the incredible strides we have made and this important metric continues to already improve as we head into 2023. Although it is still early in the quarter of 2023, we have seen further improvements on our loan-to-deposit ratio. Our plan to slow funding while actively raising deposits is working. Given the successful strategic management of our balance sheet that has resulted in bringing the loan origination numbers down, we do not see the need for utilizing a loan sale as we have done in the past. Our bank is defined by maintaining exceptional credit quality standards while delivering growth in value for stakeholders.

And while this is a challenging macroeconomic cycle, we were executing on a very solid business plan and expect the results to follow once we experience a more normalized rate environment. Our NIM for the quarter was 2.45%, which obviously is a reflection of the interest rate environment and the continued pressure by the fed’s action. And we expect this to normalize to historic levels as soon as the fed eases and the market conditions settle. We are focused on making more adjustable rate loans, which should offset some of those pressures of the current rate environment, but we are limited by a variety of factors including funding constraints as the deposit market remains extremely competitive and liquidity continues to drain from the financial system along with limiting our exposure to higher cost wholesale funding.

Looking at our wealth management and trust business, we continue to experience meaningful contributions to the firm as evidenced by combined business unit revenue of $40 million for the year. 2022, this diversified revenue source in the form of recurring non-interest income accounted for 14% of the company’s total revenue. We have also been successful in retaining existing clients and attracting new loans. Assets under management increase by $359 million in the quarter and ended the year at $5 billion and trust under advisement ended the year at $1.3 billion. The increases in ARM and AUA were the result of both new client inflows and positive market performance. When there is a market volatility and uncertainty, we typically experience an inflow of assets from existing clients and new clients.

New clients are attracted to the independent RIAA model where they know they’re working with a fiduciary, which is even more important than ever during market conditions like these. We have been proactively communicating with existing clients and strategically managing their portfolios as needed. We have been successful in engaging with them from an educational standpoint through our written market commentaries, our blog, our webinars, and our in-person events, as well as through our robust suite, our products and services such as an advanced wealth planning and tax aware investing. As a result, we are seeing strong client retention across the entire wealth management platform. Our investment performance has also been another bright spot. While the S&P 500 and another major indices were down more than 19% for the year, our moderate balanced portfolios were only down 14% on average and our total return fund received a three year and five year, five star rating from Morningstar.

As we reflect in the quarter, I confidently say that we have an incredible client base and extremely attractive markets. I also want to say how proud I am of our entire management team. They are more aligned than ever and we have been working hard to accomplish our strategic objectives. Our entire team is working towards a common goal and I am so pleased that our executive management and the board have responded to all the events that have unfolded last quarter. We have a board that is well positioned, well represented across various industries with deep domain experience in financial services and banking, and I am pleased with their support of our go-forward approach. Let me touch on a few final data points. As a financial institution, we remain well capitalized with a tier one risk-based capital ratio at 9.18% at quarter end.

Our tangible book value ended higher at $16.20 a $1.28 increase for the full year. Liquidity remained strong with no net charge offs and our provision for credit losses reflects the strength of our multi-family lending portfolio, which continues to be the strongest performing asset class across all real estate loans. We believe it is worth noting that we have never taken a charge off or a loss in multi-family in the history of this firm. As mentioned in previous calls, we are focused on managing our tax rate. We have tax rate substantially downward, and we have successfully gotten it to a run rate of 26%, which is largely attributable to our municipal loans and LIHTC deals and an increase of loans in Florida and Texas. We believe we can continue to experience favorable tax treatment as part of our growth strategy.

Heading into 2023, our balance sheet remained strong with total assets of $13 billion. Between the strength of our existing management team and board, our relentless focus on client service and our ability to offer solutions to clients wherever they are in their financial lives, I continue to be very excited about our future. Once again, I want to thank everyone at First Foundation for the contributions through a difficult year and the continued support I have received. Now, before I hand the call over to Chris, let me first introduce him to you all. Chris Naghibi was appointed as our Chief Operating Officer in November and has seamlessly stepped into the role and has already started making a very positive impact. Chris sits in Irvine where our banking operations are headquartered.

As some of you know, Chris was one of the original members of the First Foundation Bank team when we started the bank 15 years ago. He has continued to progress through various departments of the bank, most recently having served as our Chief Credit Officer. Among the many areas of focus and his role as the Chief Operating Officer, he has dedicated his first 90 days to building a stronger alignment among our business units, including the bank, wealth management interest department. These are the cornerstones of our business model and I am so thrilled to have Chris working to help optimize them. With that, I’ll turn it over to our newly appointed Chief Operating Officer, Chris Naghibi.

Chris Naghibi: Thank you for the kind words, Scott, and let me be the first say that I’m honored to have been appointed Chief Operating Officer Loan originations were $849 million for the quarter and $5.8 billion for the full year. Looking at the breakdown of loans that we originated in the quarter, the percentages are as follows. Commercial, including owner-occupied commercial real estate, 51%; multi-family, 35%; single family 7%; land and construction is now at 3% and CRE investment at 4%. It is always important to note that we accomplish this without changing our high underwriting standards and our MPAs fell to a low of 13 basis points for the quarter, which as Scott mentioned, is low even for First Foundation Bank. This is also reflected is low even for First Foundation Bank.

This is also reflected in our conservative underwriting standards as evidenced by our LTVs of 54% for multifamily loans and 49% for single-family loans. While it is true that we have followed the plan to slow our growth, we still reached peak levels of loan originations in 2022. As we look ahead, we anticipate that growth will continue to be strategically slowed in 2023 as we wait for the market to catch up to the actions of the Fed. Speaking more specifically about our loan yields, we achieved a weighted average rate of 5.72% on originations, which increased substantially from the third quarter. This quarter, we continue to see the impact of higher origination rates due to increases in the long end of the yield curve and as prior lower yielding rate lock loans have largely funded out our pipelines.

As of December 31, 2022, our loan portfolio is comprised of: 50% multifamily loans; 32% commercial business loans; 7% nonowner-occupied commercial real estate; 9% consumer and single-family residence loans; and 2% of land and construction loans, which are selectively and carefully considered for our most valued clients. Before we look at our deposit business, I want to touch on our multifamily portfolio. As you may have seen, we added a few slides to our investor presentation about our multifamily lending business. The updated section in the presentation highlighted three things that I will speak to here: First, the markets we serve; second, the profile of our borrowers; and third, the assets that we lend on. Let me try to help paint a picture of the markets we serve.

90% plus of where we lend is in the State of California. In many of these areas within the state, rent control applies, which serves as both a ceiling when prices go up, but also as a floor when prices go down. In addition to this in almost all of our regions, the cost to buy is far greater than the cost to rent. There’s a limited supply of units in land, which serves to keep the barrier for entry into the markets quite high. And even though we have referenced it on these calls, we have limited exposure to the Sunbelt region having never actively pursued lending there. The second point is our borrowers. We largely lend to what we consider real estate professionals, typically too big to take standard terms from a bank, typically too small to be part of a fund or large syndicate, although we do some syndicated deals.

This all boils down to the fact we are working with knowledgeable and oftentimes repeat clients. And finally, let me touch on the properties or assets we lend on. These are what we consider essential or workforce housing in prize of 15 units to 20 units on average. A large portion were built between 1950 and 1980. And so these are classified as C&B grade buildings with higher quality, generally newer construction A-grade buildings mixed in. It has been our experience that Class A properties like this have greater downside risk given they are often leased up at top of market rents in our markets. It is this profile, which gives us confidence that the multifamily asset class will hold up like it historically has, as being one of the top-performing real estate loan products that banks can offer.

This data goes back to before the financial crisis. Okay. Shifting gears and looking at our deposit business. Deposits increased by $802 million for the quarter and $1.6 billion for the year to end the year at $10.4 billion. As Scott referenced last quarter, it is a dogfight out there, and there is increased competition across all deposit channels. Our deposit costs came in at 1.47%, which is on par with our expectations. Before I wrap up, I just want to recap some of the successful projects we completed last year. During 2022, we successfully opened a retail banking location in Plano, Texas. We also completed the integration of our Florida acquisition. While we still maintain our banking headquarters in California, we have successfully expanded into new growth markets.

To assist in that endeavor, we also launched our redesigned mobile app. This has allowed us to virtually connect with thousands of clients nationwide as they now can conduct banking via any mobile device. The app is very valuable as we continue to see client base expand into markets where we do not have a physical retail presence. Before I hand it back over to the operator for Q&A, I want to reiterate Scott’s comments. I am very grateful for our team’s dedication to delivering excellent client service when it matters most. This is a challenging time in banking, but I am confident we have the right team in place. At this time, we are ready to take questions, and I will hand it back to the operator.

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Q&A Session

Operator: Our first question is coming from David Feaster from Raymond James.

Scott Kavanaugh: Hey David, before you begin, I’d just like to say that I have two other people here with us — with Chris and I that are here to assist answering questions. So Amy Djou is here our Interim CFO and also Dave DePillo, our Deputy CFO, is here. So I just wanted to kind of formally say they’re here as well to help assist with questions.

David Feaster: And Chris, congrats on the promotion, very well deserved. I guess maybe at a high level, could we just talk about the organic growth trajectory going forward? We’ve strategically decelerated. Maybe just how do you think about the composition of production going forward? Would you expect to see more commercial business? Maybe that becomes a larger proportion of production? Or just curious kind of how you think about the growth trajectory as we head into 2023?

Scott Kavanaugh: So first and foremost, we have to get our loan-to-deposit ratio under control. We made significant improvements, lowering it from 108.4 down to 103.5. And we’ve made additional improvements since that time, and we’re not even at the end of January. But we’re hyper focused right now I think I said at the end of the third quarter, deposits just evaporated. And I think we made an amazing turnaround to be able to get our loan-to-deposit ratio down to that 103.5 and continue to improve. But that being said, David, and I appreciate your question because we’re not looking to shrink the balance sheet. We really do hope to continue to modestly grow the loan portfolio throughout the year. Joe can touch on the modeling in terms of loan activity that we are projecting this year.

But I will tell you, just to start with, multifamily is in a very weird spot right now. That’s a technical term. The John Ecopia and FFA, our advisor, told us that some of his clients are funding stuff through Freddie and Fannie right now in the 4.60, 4.70 range, which, clearly we can’t follow. I know that there are a few banks that are still modestly doing apartment lending, especially in the state of California, and those rates seem to be in the 5.50 range, which again, given where funding costs are, don’t seem to make a lot of sense to me. And so there’s not a lot of activity in the multifamily space. And I think I believe it to be prudent that we should not be lending on more fixed rate assets until we get greater clarity from the Fed on what their intentions are.

So to answer, this is long ended way of saying, yes, we’re going to focus more on C&I, it will help us more from an asset liability perspective on a go-forward basis. The great thing is that I want to mention before Joe and Chris step in here the duration of multifamily is pretty short. And it’s like 2.3 years, 2.4 years. And part of that is the seasoning of some of our older years of books, the newer stuff is probably more like 2.8 years. But you’re going to start to see a real turnover of some of those low coupons. Right now, it’s not real advantageous for a borrower to want to pay those off. But this year, we’ve got quite a few that roll into the adjustable rate phase, which obviously will help our NIM, and bring the average coupon of our portfolio higher.

But Joe, you want to talk about what you think are projections for this year.

Chris Naghibi: Yes. Just at a high level in terms of loan production, we’re forecasting in a range of, call it, $1.5 billion to $2 billion, excluding draws, potentially higher. We normally report with drugs. So it could be a $500 million on that. Multifamily, as Scott alluded to, is certainly less as a percent. So of what we have modeled in C&I is definitely over 50% of the forecasted growth on the production side.

Amy Djou: So I think that covers essentially what the market looks like, but I’ll also add one other — a little bit of color, much like the single-family market, which was a bit of a stalemate towards the end of the year. the life cycle of the multifamily market has been a bit of a stalemate as well. Some of the seasoned investors are choosing not to sell and to hold off and see what the actions by the Fed are taking. So some of it is market di in and of itself in addition to the pricing that we’re seeing out there. So the renewed focus on relationships and the additional detail as it relates to the C&I book, I think, is important for where we’re going and what we’re doing, and it really dovetails into the value proposition of the brand. So historically, we’ve grown those channels prior to the Fed’s decision-making in the last year. And I think that growth has served us well, and we’ll continue to see the benefits of that moving forward.

David Feaster: Okay. That’s great color. And maybe along the same lines, I mean, you talked about some of the repricing dynamics. Could you help us think about the yield pickup that you would expect from that just — and given the shorter duration of those assets? And ultimately, like how should we think about the margin trajectory going forward once the Fed does stop and funding pressures start subsiding a bit and assets continue to reprice higher?

Scott Kavanaugh: Well, I believe the books of business this year that are to reprice is around $1 billion. Is that right, Djou?

Amy Djou: Yes. And in terms of the over forecasting for across, I’d say, all at costs. And of course, we actually have about $1.5 billion of adjustable C&I between both the term and the revolver as well. So a combination of those. What we’re forecasting for loan yields going forward is kind of hitting a height somewhere in the high I’d say, high 4s for 2023 as those books continue to reprice.

Scott Kavanaugh: So I think as I indicated on the call, NIM is definitely going to continue to shrink a little bit until the Fed stops their actions. But I truly believe that the trough that we are experiencing is — we’re about to be at the trough. And I believe by the time we get to the second quarter, that will be the trough of NIM, and we will start to see an improvement of NIM shortly thereafter. So I think — and that’s going to be a combination of repricing of some of the multifamily and largely an increase in C&I.

David Feaster: Okay. All right. That makes sense. And I wanted to maybe shift gears. You talked about some of the focus of Chris and better aligning the business units. I mean, the trust business has been phenomenal. And you talked about some of the strength there. Just curious if you could talk about some of the initiatives that you’re working on? And just give us maybe some more details on the outlook for trust and some of the integration that you’re talking about.

Scott Kavanaugh: Well, I’ll answer this, and Chris can step in. But Trust is, in my opinion, one of the most important aspects. As you know, most trust companies are not on the West Coast. They’re on the East Coast and banking sectors. And when it comes to First Foundation Advisors probably about 90% of our assets are held at Charles Schwab, which is an extremely strong institution. I’ve said in the past, we’re part of their SAN program and the SAN program is a program that you’re basically allowed as a registered investment adviser to go into select offices of Charles Schwab. It’s prenegotiated with Charles Schwab, which branches you’re allowed to go into. There’s off matrix and other types of things. But when you look at across the universe of RIAs, every RIA is all pretty much the same, with the exception of what I feel is a very select offering for us.

We’re one of only a few trust companies, solutions for the Charles Schwab, and we’re really trying to exploit that as well as continuing to get out to professionals. As you know, a trust department that starts, which our trust department is 15 years old, same as the bank, has grown tremendously because of First Foundation Advisors having a strong presence with CPAs and attorneys in the Orange County marketplace. We’ve now expanded that across all of California. We’re getting into Florida and Texas. And I believe as we — some of our referrals have been coming from Charles Schwab, and we’ve noticed that the activity is picking up as a solution. And we believe that, that’s probably the best ringed for both First Foundation Advisors and the trust department.

Joe DePillo: So I’ll speak more a little bit on that and provide a little additional color. Having grown up in this platform, I can tell you that we have 55,000 bank clients that, frankly, have deep pockets and a deep relationship in Nexus to our brand. The stickier they are, the better it is for the brand. That means that trust clients and FFA existing clients take advantage of the wealth planning services and that wealth planning services creates new business banking opportunities for the bank. And it’s an ecosystem that I think in some ways we can continue to still expand and exploit particularly as it relates to our data warehouse and the vast capabilities of the information that we have with every single one of our clients.

One of the key initiatives that I’m really looking at doing is being a better partner with the advisor side, on the bank side to work more collaboratively as we push forward. And I think that those conversations could actually be very, very fruitful, not say that they haven’t been historically. But certainly, with the amount of information and the amount of product offerings that we have, it’s an exceptionally broad brand that frankly has things that larger banks can’t compete with, certainly from the value proposition of service.

Scott Kavanaugh: One of the things, I think, David, that we have not done well is penetrate ourselves, especially through the branch network. And recently, Rick Keller, our Chairman of the Board, in conjunction with our bank employees reached out to the 20 largest clients in our Irvine branch. And as a result of that, just by Rick speaking to these 20 individuals, and it was really about what the economy is doing his typical what he would do with any client or a group of people talking about what the Fed is doing, what’s happening in the economic cycle, etcetera, etcetera, generated something like $8 million to $10 million of new deposits, which is not even what you would expect to happen and he got additional dollars for First Foundation Advisors. So we’re going to — I think one of the things that Chris just touched on is we need to do a better job of working our own brand, and that’s what you’re going to see on a go-forward basis.

Joe DePillo: And I’ll leave it with one last thought on that topic. Overall, $68 trillion is set to exchange hands. We are well positioned to facilitate that with not only our existing clients, but with new ones. So there’s a lot to grab for there, both inside and outside the company.

Operator: Our next question comes from Gary Tenner from D.A. Davidson.

Gary Tenner: I wanted to shift over a little bit on the deposit side of things. Scott, can you tell us what the what the spot rate was on deposits at the end of the quarter. I don’t know if I saw that in your deck at all anywhere.

Amy Djou: Including noninterest-bearing, it was 147.

Scott Kavanaugh: Including noninterest-bearing, it was 147.

Gary Tenner: That was as of 12/31?

Scott Kavanaugh: Yes.

Gary Tenner: Okay. Okay. So in terms of customer service fees, they didn’t go up quite as much as we would have thought given the rate hikes in the fourth quarter. So — is part of that related — was there a decline in the bearing deposits that are ECR deposits in the fourth quarter? Was that part of the decline in overall noninterest-bearing deposits in the quarter?

Scott Kavanaugh: Well, we’ve stated in the past that MSR deposits, in particular, are always on a low around the December time frame, and that’s due to tax and insurance payments going out with our MSR clients. And it’s also in the April time frame. So right now, you should see deposits picking back up with those MSR clients. I will also add that 10/31 exchange has probably decreased a little bit due to the activity of transactions slowing. But right now, the next probably 4 months, you should see a pickup in deposits. But yes, it’s considered a low point in the fourth quarter.

Gary Tenner: Okay. And then in terms of the brokered deposits that you added in the quarter, can you talk about kind of — tell us what the yield or the rate on those and kind of a in terms of maturity?

Scott Kavanaugh: We’ve kept all our maturities under — majority, let me say, 90% under 2 years. So we’re funding really more on the short side. It’s really our belief that the Fed is way more towards slowing increases on the Fed cycle. And we don’t want to, at the wrong moment, go extremely long term on CDs or other types of broker deposits. So they’re all really more, I would say, probably 90% of them are 2 years and under.

Gary Tenner: Okay. Great. And then last question. Just in terms of — you talked about the expense or some last quarter, I think, some expense focus. Obviously, the reversal of some incentive comp in the fourth quarter related to the departures. Separate from customer service deposit or customer service go up a bit more as the Fed raises more in the first quarter, any opportunities to offset that NIM compression and NII with lower expenses or anything else to be there beyond what you’ve done?

Scott Kavanaugh: Well, it really pains me to say this, as a person, it’s not something that anybody wants to do, but we did just go through a pretty significant round of layoffs. I’m not happy that that’s the case. But as the CEO of a publicly traded company, that’s would also forces us to consider all alternatives. And we will continue to look operationally to see where we can continue to provide call saves. I was trying desperately not to have to go there, but we, like I think many other institutions, have had to go through that.

Gary Tenner: Was that — so was there any impact there in the fourth quarter from whether it be severance or otherwise? Or is that going to be reflected in the first quarter, Scott?

Joe DePillo: Yes. Dan, the severance are included in the fourth quarter. And so we — I mean, it’s not much. Basically, it’s a severance is offset with what the other accruals that we reversed due to the exit of executive management.

Scott Kavanaugh: Yes, that breakdowns in the non-GAAP tables.

Joe DePillo: Did you hear that, Gary? The breakdown…

Gary Tenner: The largest of the bonus accrual reversal was in the non-GAAP. But in terms of what Amy described as the severance.

Amy Djou: It was offsetting. It was minimal now.

Operator: Our next question comes from Andrew Terrell from Stephens.

Andrew Terrell: Scott, maybe just to go back to some of the competitive dynamics in the multifamily space right now. It obviously sounds pretty tough right now. And I guess I’m just curious how you see the competitive landscape shaping. And specifically, are you seeing competitors kind of reducing capacity across the board in multifamily? And do you think that could have a positive, I guess, eventual impact as you think about the spreads in the business moving forward?

Scott Kavanaugh: Yes. I think as long as the Fed, it provides a lot of uncertainty in the marketplace. You’re going to see people all over the map. I do know that our traditional competitors, I have seen people put out entire departments in the multifamily sector. completely or dramatically slowed down their production. But that being said, there’s almost no volume. I think as Chris was trying to say earlier, a lot of our borrowers, and we’ve talked to a lot of our larger borrowers, they’re not buying. They’re not selling. They’re just kind of sitting back at this particular point, trying to understand what the Fed is going to do and what that might do to cap rates, other types of things.

Joe DePillo: Yes. To your point, I think the competitive landscape in the future is obviously changing somewhat dynamically as these people choose to pull out of the market. Their time to re-up and rehire people should they choose to dip their toe back in or prepare themselves for volume, will make them slow to act relative to how fast we can move to position ourselves back in. But it does take a little bit of, I guess, end client, end customer appreciation for the new rate environment in markets, like California, where I would say the underlying land value is very high. They’re used to a low loan to value versus the debt service that they’re going to get to ultimately get the loan. So I don’t think there’s a huge impact to their willingness and ableness to refinance whereas in other markets, that might be a challenge. But for our primary lending areas, it should not be impactful, and we should be well positioned should rates support the NIM.

Andrew Terrell: Yes. Okay. And just going back to the, I think, $1.5 billion to $2 billion origination target. Can you just help us think about what you’re targeting for the year from an incremental spread standpoint? So just the incremental kind of loan yield less the cost of funding, just understanding the funding costs will probably be elevated. I know it’s probably not great in multifamily, it sounds like right now, but just what’s the incremental spread you’re targeting? And how does that compare to the margin today?

Scott Kavanaugh: Well, the — to the extent that we put more C&I on, currently, those yields are in the 8.5-ish — 8 to 8.5-ish range. Is that right? .

Joe DePillo: Yes.

Scott Kavanaugh: It is. It’s in the 8%, 8.5% range. Incrementally, I would tell you that if we were to put on a borrowing at the Federal Home Loan Bank, that’s somewhere between 4.60, 4.65 currently today. So to the extent that we are successful on rolling over some of those multifamilies, I see those probably going from handles up to 5.5. So by the time you blend some of that stuff, you’re talking mid- to high 6s, I think.

Andrew Terrell: Yes, okay. Got it. That’s helpful. And then if I could just take a stab again at the year-end, either year-end total interest-bearing deposit costs. I think the 1.47 was the full quarter average.

Joe DePillo: Yes, I wanted to…

Scott Kavanaugh: Yes. He was — Joe has been doing giving since Gary you asked that.

Joe DePillo: And I just want to clarify that. So December, the — I misunderstood the question, the spot rate was closer to 2% for December.

Andrew Terrell: And that was the spot rate at the end of December?

Joe DePillo: Yes.

Operator: Our last question comes from Matthew Clark from Piper Sandler.

Matthew Clark: First one for me, just on the lending side of things, the $1.5 billion to $2 billion of production with the potential maybe for an additional $500 million. So let’s just call it, $2 billion I think I recall after pulling kind of your prepay and payoff activity recently, it kind of implies net loan growth of about 10%, call it, 10, 11, 12. Is that kind of in the ballpark in terms of your expectations? Or should we be able to lower that? .

Scott Kavanaugh: Yes. No, you’re correct.

Matthew Clark: Okay. And then in terms of the margin, do you happen to have it for the average margin for the month of December? I feel like we’re in the ballpark, but I just wanted to kind of reaffirm, it kind of looks like your margin might shake on the low 2s this coming quarter.

Scott Kavanaugh: Yes. It’s going to continue to decline. And I think you would be accurate in saying. I think we’re projecting right now 2.15% range to 2.20% range.

Matthew Clark: Okay. Great. And then just on the borrowings, I think you have about $1.5 billion of borrowings at the end of the year. How should we think about those balances throughout the year? I mean, do we kind of just hold at that level based on your actions on the deposit side or not?

Scott Kavanaugh: Yes, it should hold pretty steady there. To the extent that we continue to be successful even if it’s a broker deposit, we will, obviously, pay down the home loan bank, but I don’t really see it expanding much.

Matthew Clark: Okay. And then last one for me, just on the expense — the noninterest expense run rate probably, can exclude the customer service costs just to isolate or not up to deal that variable? Can you maybe quantify the savings from the recent layoffs and probably your thoughts are around kind of a core expense run rate going forward with any other initiatives you might have?

Scott Kavanaugh: I was hoping to avoid that answer, but the savings on this latest round, including some of the management is somewhere between $11.5 million and $12 million.

Matthew Clark: Okay. So that’s on — that’s kind of on an annualized basis out of the run rate this coming quarter, I assume? We haven’t seen any of those savings yet. .

Scott Kavanaugh: No — yes, you’re right. And no, we have not seen any — it would — all of this transpired this month. except for that you read about.

Operator: And we have another question from Gary Tenner from D.A. Davidson.

Gary Tenner: Just had a follow-up part of which was just answered in terms of the savings annually. But that annual savings number, so the fourth quarter kind of comp line of $23 million included the $4 million of reversals. So those savings should work off of more of a $27 million kind of gross up top line. Is that accurate? .

Scott Kavanaugh: Yes, yes. And by the way, nobody has brought up and I did that was a pretty significant reduction. That brings our total investment in that category I think, down to around $2.8 million. So there’s not much left in that space. And as you guys are aware, with the recent things that have been going on in the crypto industry, I believe we’re going to sit back and take a pause. That being said, our regulators, along with every other bank’s regulators, has put a letter out basically indicating that they want to put structure in place. What that means? I don’t know. But what I would tell you is that any initiative that we may have had on that front will not come to the forefront anytime soon until we clearly understand what the regulators will expect once they put those guidelines in place.

Gary Tenner: If I could just ask one more clarifying question in terms of the expense numbers. Joe, I think you mentioned — you kind of pointed us towards that non-GAAP table in your press release. So the $4.2 million reversal of incentive comp, that was net of severance? Or was that severance somewhere else?

Amy Djou: I would say those are debt of severance.

Gary Tenner: That was net of severance. So what was the almost $1 million of the professional service costs in the quarter that you called out there?

Scott Kavanaugh: We have been in discussions on a merger-related item. And it’s a charge-off related to those discussions.

Operator: This concludes our allotted time for today’s question-and-answer session. I will now turn the call back over to Mr. Scott Kavanaugh for closing remarks.

Scott Kavanaugh: Thank you again for participating in today’s call. I’m very proud of the results we reported, and I am pleased with the path that we are currently on in spite of difficult economic times. As a reminder, our earnings report and investor presentation can be found on the Investor Relations section of our website. Thank you, and have a great day.

Operator: This does conclude today’s program. Thank you for your participation. You may now disconnect.