Axos Financial Inc (AX) 2010 Q2 法說會逐字稿

Good afternoon and welcome to BofI Holding's conference call for the second quarter ended December 31, 2009. With us today are BofI's CEO, Gregory Garrabrants; and CFO, Andrew Micheletti.

Today's call will have the following format. Mr. Garrabrants will provide an overview of the highlights for the quarter. He'll then turn the call over to Mr. Micheletti who will provide a more detailed discussion of BofI's financial results. Finally, Mr. Garrabrants will make some closing remarks and open the call up to any questions you may have.

Now before I turn the call over to them, please remember that in this call, management's remarks contain forward-looking statements which are subject to risks and uncertainties and that management may make additional forward-looking statements in response to your questions. Therefore the Company claims the protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995.

These statements are subject to risks and uncertainties that may cause actual results to differ materially from those discussed today, including risks and uncertainties related to the economic environment, particularly in the market areas in which the BofI operates, competitive products and pricing, fiscal and monetary policies of the US government, changes in government regulations affecting financial institutions including regulatory fees and capital requirements, changes in prevailing interest rates, risks associated with the conduct of the Company's business over the Internet, credit risk management, asset liability management, the financial and securities markets and the availability of and costs associated with sources of liquidity. Examples of forward-looking statements include statements related to BofI's anticipated or projected asset size, net interest income, net interest margin, projections of future delinquencies and impairment charges, loan originations, deposits and performance ratios like efficiency and return on equity.

We would like to encourage all of our listeners to review a more detailed discussion of the risks and uncertainties related to these forward-looking statements that is contained in the Company's filings with the Securities and Exchange Commission. Any forward-looking statement as to the Company's future financial performance represents management's estimates as of February 4, 2010. BofI assumes no obligation to update these forward-looking statements in the future due to changing market conditions or otherwise. And with those cautionary statements, it is my pleasure to turn the call over to BofI's CEO, Gregory Garrabrants.

Thank you, I would like to welcome everyone to BofI Holding's conference call and I thank you for your interest in Bank of Internet USA. I would like to start this afternoon by reviewing our second-quarter performance.

BofI reported record earnings of $5,548,000 for its second quarter ended December 31, 2009; up $2,787,000 compared to earnings for the three months ended December 31, 2008. Earnings attributable to the Company's common stockholders were $5,375,000 or $0.61 per diluted share for the current quarter compared to $2,588,000 or $0.30 per diluted share for the quarter ended December 31, 2008.

BofI's quarterly net income of $5,548,000 and its quarterly diluted net earnings per share of $0.61 were new historic highs for the Company. Net income for the second quarter ended December 31, 2009 increased 100.9% compared to net income from last year's second quarter ended December 31, 2008.

This quarter's net income includes an after-tax increase of $1,426,000 of realized gains net of unrealized losses on certain mortgage-backed securities. Excluding the net gain, net income would have been $4,122,000 for the quarter ended December 31, 2009; an increase of 49% compared to last year.

For the six months ended December 31, 2009 net income totaled $9,256,000 compared to $944,000 for the six months ended December 31, 2008. Diluted earnings per share were $1.02 compared to $0.09 for the six months ended December 31, 2009 and 2008 respectively.

Net income for the six months ended December 31, 2008 was reduced by $4,710,000 after-tax loss associated with the Company's decision in September 2008 to sell all of its Fannie Mae preferred stock immediately after the US government put Fannie Mae into conservatorship.

Our improved earnings this quarter was driven primarily by significant improvements in our net interest margin which grew to 4.02%, up 104 basis points year over year and up 14 basis points from 3.88 at the end of the second quarter of fiscal 2009. Our improved margin and strong cost control enabled us to reduce our efficiency ratio to 28.6% from 34.2% last year.

We improved our capital ratios [but the] Bank's tier one leverage ratio rising on a quarter over quarter basis from 7.2% to 7.91% and on a year on year increase of 105 basis points from 6.86% to 7.91%. Although increases in capital level always come at the expense of earning assets, our ability to have strong earnings and organically increased capital levels is a very positive development.

If expectations of higher required capital levels ultimately come to pass, either through legislation or less formal means, our current capital levels will allow us to continue to increase our earning assets without having to utilize our earnings to increase our capital ratios. Our current quality continues to remain strong.

Our nonperforming loans were approximately $6 million at the end of the quarter, equal to 90 basis points of total loans. Our nonperforming assets were approximately $12.5 million, equal to 93 basis points of total assets at the end of the quarter.

We have over $2.5 million of these REO assets under contract for sale at their current book prices. The remaining nonperforming mortgage assets are marked to current appraisal or broker price estimates of value adjusted for selling cost.

The current book value of these assets is approximately 52% of their original appraised values. Our loan portfolio is held at a discount of approximately $7.5 million with a loan loss provision of $5.5 million, the sum of which is greater than all of our nonperforming assets.

We continue to be highly optimistic about our business opportunities going forward. Our wholesale banking effort which focuses on purchasing high credit quality loans [is a] strong pipeline of transactions. While there's always a potential that agreements will not be reached or that credit quality of these opportunities will not meet our standards, indicators are that our success in this area will continue.

We recently hired a seasoned commission sales representative that although on board for only a few weeks has significantly increased the pipeline of potential transactions. We continue to make strong progress on the growth of our multi-family and single-family origination groups.

As those of you who have followed us for some time know, we have been slow to reengage as an originator on any product that we must keep on our balance sheet. While this was the right thing to do over the last several years with asset prices highly inflated and credit standards lose, we are now of the belief that what with industry credit standards tightening and asset prices falling to more reasonable levels, we can make safe competitive loans at good spreads and take advantage of reduced competition.

About nine months ago, we reentered the single-family origination business by focusing on agency eligible gain on sale mortgage banking business. We grew that business cautiously with very high-quality origination.

That business has continued to grow, is profitable and the operations developed for the agency product can now be utilized as a platform to launch our proprietary first mortgage jumbo portfolio product. We recently hired a vice president with strong experience in online mortgage originations and call center operations, specifically focused on purchase money volume. We also have an Executive from Thornburg Mortgage has been on board to spearhead the launch of the jumbo mortgage product.

On the multifamily side, we hired several seasoned underwriters and added another processor. We have begun to make a push on the marketing side of the house and as an example, we will be on the cover of the Scotsman's Guide in April, advertising apartmentbank.com.

We have have several high quality loan officers in the pipeline that we are likely to bring aboard in the coming quarter. Although this business will need several quarters to develop, it is off to a solid start.

We had about $60 million of loan requests since the beginning of this calendar year. That's January 1 of this year. We have letters of intent out equal to about $9 million of loans right now on the multifamily side. We also have made several additions to our management team and have hired a new chief marketing Officer and chief information officer who will be a strong addition to our team.

Let me talk a little bit about our capital structure. As many of you know, we have approximately $5 million of Series B preferred outstanding that pays an 8% coupon. The Series B preferred allows the bank to convert the preferred stock if our share price reaches greater than $11 for a sustained period of time.

The condition of [best to write] for the bank to exercise the mandatory conversion feature has been satisfied. We have had early feedback from the Series B holders and other investors that there'd be an interest in another preferred offering, obviously on terms that would be less generous than the prior offering which was completed in the heights of the financial crisis.

We're evaluating whether or not another preferred offering makes sense. But if there are individuals on this call that would have an interest in potentially participating, please feel free to call us to discuss your interest.

With our shelf offering effective, we have the ability to raise up to $15 million of common equity. But despite our recent share price increases, our share prices failed to keep pace with our per-share accretion and our book value.

Since we're still trading at a discount to our book value, we view our shares to be undervalued. That being said, there are tremendous economies of scale in our business and coupled with attractive business opportunities presented to us, we will continue to evaluate our opportunities to raise capital on terms attractive to our existing shareholders.

Now I'll turn the call over to Andy who will provide additional detail on our financial results.

Thanks, Greg. First I wanted to note that in addition to our press release, we just filed our 10-Q on Edgar. So if you have excess access to Edgar, you could potentially follow along in our 10-Q. I'm going to discuss first our quarterly results on a year-over-year basis this quarter ended December 31, 2009 versus the first quarter of our fiscal year ended September 30, 2009.

For the quarter ended December 31, 2009 net income totaled $5,548,000 up 100.9% year over year and up 49.6% from the last quarter. Diluted earnings per share were $0.61 this quarter, an increase of 103.3% year over year compared to the $0.30 in adjusted diluted earnings per share for the second quarter last year.

As Greg mentioned, this quarter's net income included an after-tax increase of $1,426,000 for realized gains from security sales net of unrealized other than temporary impairment charges on certain mortgage backed securities. Excluding the net gain, net income would have been $4,122,000 for the quarter ended December 31, 2009; a year-over-year increase of 49.3%.

Net interest income increased year over year by $4.2 million or 47.7% and increased 3.2% compared to our last quarter ended September 30, 2009. The increases in net interest income are due to both a higher net interest margin resulting primarily from decreases in deposit rates and increases in loans and investment security rates and due to a higher level of interest earning assets.

The net interest margin increased to 4.02%, up 104 basis points year-over-year and up 14 basis points compared to last quarter. Provisions for loan loss were $1.6 million this quarter, up year over year by 42.2% compared to the $1,125,000 charge last year and down 20% compared to the first quarter.

Year over year the increase in our loan loss provision was due to the nationwide decline in housing values and higher unemployment which has negatively impacted consumer credit. Changes in our portfolio mix and other higher estimated losses from our recreational vehicle and real estate loan portfolios also influenced that change.

Since December 31, 2008 the bank has increased its allowance for loan loss on RV loans by 155.7% and increased its overall allowance for loan loss on all loans by 61.5%. The decrease in loan loss provisions compared to last quarter is generally due to lower RV write-downs.

Non-interest income for the second quarter of fiscal 2010 was $2,751,000 compared to $14,000 for the second quarter last year and compared to a loss of $1,009,000 last quarter. The gain this quarter was due to sales of mortgage backed securities discussed earlier and increased mortgage banking income, partially offset by the impairment and the fair value declines in certain securities. The loss last quarter was primarily due to an unrealized loss of $1.4 million associated with OTI charge on mortgage-backed securities. There was also a fair value reduction of $142,000 and that was offset in part by $332,000 in mortgage banking income.

Moving now to operating costs, non-interest expense for the second quarter was $4,492,000, 49% higher year-over-year than the $3,008,000 in operating costs for the quarter ended December 31, 2008 and higher than the $3.3 million in operating costs for the first quarter of fiscal 2010. The increase in operating expense year-over-year and compared to last quarter was primarily the result of increased FDIC premiums, additional REO expenses and increased salary and benefits related to staffing changes in our lending businesses.

Our efficiency ratio was 28.6% this quarter compared to 34.2% for the second quarter last year and compared to 28.4% for the first quarter ended September 30, 2009. The efficiency ratio is calculated by dividing our operating expenses by the sum of our net interest income and our non-interest income. This quarter's efficiency ratio improved year-over-year due to higher net interest income.

Shifting to the balance sheet, our total assets increased $43.1 million or 3.3% to $1,345,000,000 as of December 31, 2009; up from $1,302,000,000 as of our last fiscal year-end June 30, 2009. The increase in total assets was primarily due to an increase of $41.7 million in loans held for investment offset by a decrease of $8.3 million in investment securities.

Total liabilities increased $29.4 million primarily due to an increase in deposits of $229.3 million offset by a decrease in borrowings of $160 million from the Federal Reserve discount window and a decrease of $39 million in borrowings from the Federal Home Loan Bank of San Francisco.

Stockholders equity increased $13.7 million to $102.6 million at December 31, 2009 compared to $88.9 million at the end of our last fiscal year June 30, 2009. The increase was primarily the result of our net income for the six months of $9.3 million and $4 million increase in other comprehensive income.

During the quarter, we contributed $6 million in capital to the bank, boosting the tier one core capital ratio to 7.91%, up 7.2% last quarter and up from 6.98% at June 30, 2009. At December 31, 2009 the bank had capital in excess of the well-capitalized limit of $38.9 million. With that, I'll turn the call back over to Greg.

Thanks, Andy. This concludes our prepared remarks. If anyone has questions, we'd be happy to take them. Operator, please open the line for questions.

(Operator Instructions) [Mitchell Saks, Grand Slam].

Congratulations on a fabulous quarter. I wanted to ask about the operating expenses. So when I look at your business going forward, with respect to the REO expenses and staffing expenses, do we expect those numbers to sort of be the trend for the time being or is the REO going to be kind of lumpy?

I think the REO will be kind of lumpy. It obviously depends on your ability to sell assets at the appraised values and as marked. So they're kind of lumpy.

I think -- we have been adding a little bit of staff in the lending groups and we probably aren't completely done there. But on the other hand, we have done some hiring and then there is clearly an ability to ramp origination volume with the existing staff.

I do think that you'll see more expenses there but I think that will be swamped by the economies of scale we have as we grow. So I think that our efficiency ratio, if it stays in the low to mid 30s, I think it's probably fairly normalized version. Could it stay below 30? I think that's possible but it may hop up a little bit above that as we develop these businesses and ramp them up.

You mentioned that there was opportunities for you to make acquisitions, I assumed of operating businesses [the size of] loans. What is your thinking in that area?

Well with regard to acquisitions of operating businesses, I think I'd separate those into two primary areas. The first would be FDIC assisted transactions of banks or other components of banks and the other would be sort of lending businesses that exist either outside in a non-regulated institution like a mortgage banking operation or something like that.

I think it's interesting. There's been opportunities presented to us in both places. I will take the FDIC assisted deals first.

We have been formulating a strategy to look at these deals and we've taken a look at some of them. It's a little bit difficult to find one that fits perfectly given our unique business model but we do think that there is opportunity there and it's just about finding the right opportunity.

But as you know, there's a lot of value that could potentially be created there because when you acquire those assets, you are obviously putting them on at fair value and you're also putting on as the receivable the fair value of the loss sharing agreement and those -- the combination of those two things from the analytics that we've been doing often creates substantial capital.

Now, in most cases, you need to have capital on your books prior to doing that acquisition. So if we were going to look at that, that would be one of the opportunities that I was discussing that might prompt us to raise some capital. And if we did that, then we would be able to potentially acquire a bank and then have additional capital to grow based on the impact of the accounting for acquiring that bank.

On the side of the nonregulated kind of acquisition of lending businesses and that sort of thing, we continue to look at those and we obviously had some choices to make about whether or not we would build our mortgage banking business organically ourselves or we would go outside to the many institutions and mortgage banks that are having warehouse buying problems and are looking to join the bank. And we do look at those and I get those calls regularly.

We haven't found the right one. I think largely it's -- it's probably a cultural issue. I think one of the things to remember about how we're building our bank is we're building it in a different manner. And what I mean by that is that loan officers used to take way too much money out of mortgage banks.

They frankly just weren't worth what they were paid and they had terrible incentives. So, we are correcting those things. And as we do that, it's easier to build out organically than sometimes come in and break a lot of china with a group of folks who often because they're selling have an unsustainable business model for a variety of reasons.

So our mortgage bank and the businesses that we build are focused on very specific value propositions that really relate to looking at the value chain and breaking it down in unique and different ways. So just as a simple example, the salesperson does two things.

They are -- they actually do a roll of actually finding people who want mortgages. That could be done for example through Internet advertising and other mechanisms that we may be able to do more efficiently -- direct mail, marketing, those sort of things.

And then they also obviously provide a partial sale fulfillment [role]. That sale fulfillment [role] is something that requires knowledge of the mortgage process but isn't a [role] that requires a $200,000 person.

So by attempting to disaggregate these various tasks, we're attempting to create a competitive business advantage there. So it's possible that we can find that with an acquisition. It just has to be somebody who's very flexible and willing to understand that the way of doing business is not going to be the way of doing business going forward.

One more question and I'll get back in queue. With respect to the mortgage banking business, with you starting to originate multifamily transactions, is that an area where we will see a pickup also? Or is it really for your own book?

There's really very -- there is an opportunity to some extent to go through Fannie to do gain on sale banking on the multifamily side but it's much more limited. Obviously there's a very well-developed single-family infrastructure that's in place to sell loans to Fannie and we recently moved from our best efforts to a mandatory delivery platform where we're delivering and hedging, those sort of things.

On the multifamily side, it really doesn't exist. Fanning does buy pools. They tend to have rules that don't always necessarily make the most sense. I'll give you an example.

We had some pools that were incredibly high credit quality we talked with them about. They didn't like the fact that there was arbitration provision in the loan agreement. So the credit quality was more than exceeded. They didn't like the arbitration provision in the loan agreement.

And so there's ways to sell to them through [dust] licenses and things like that but that's not really the business model. I think we are really looking at the multifamily group as a core part of our portfolio business.

And so it will be one of the assets that we're continuing to grow our portfolio with and if there's opportunities to sell assets, it would likely be bulk sales to one of the agencies. But that really isn't part of our plan that we are counting on. We're counting on growing that group and putting the assets on our balance sheet.

Great quarter, I will get back in queue.

Greg Hillman, First Wilshire.

Just a couple questions. One about the gain on sale that slowed your net income to whatever it was, $4 million. Can you go into that a little bit more than what you talked about, exactly what was it?

The securities gain, right, Greg?

Yes.

During the height of the crisis, we were able to pick up some very attractive subordinate pieces of mortgage securities that were just mispriced incredibly to an incredible degree. So we hold many of those pieces that basically $0.005 on the dollar roughly and we were able to sell a number of those to hedge funds at about $0.20.

So the return on that investment was in the like $20,000s or something like that based on that trade and that was a component of that gain. We didn't have to sell any senior pieces that we have which we think are incredible, yield and carry instruments, but just simply the subordinate pieces were enough to get that gain. And it just goes to show you how things have changed. These are pieces that often are protective of higher [A] pieces and don't trade and won't cash flow for many years. So, that was nice and pleasant opportunity to be able to take advantage of.

You were carrying them on your books at $0.005?

Yes.

And how much more of that do you have, undervalued assets on your balance sheet relative to current market prices?

We have a face value on the books of those particular types of assets. So we allow -- our fair value value models show them at 5. But the face value is significantly greater and obviously it just depends on who has an appetite for them.

But there is a significant amount of face value. I think we sold -- there's probably like another maybe $50 million of face value there, something like that. But look, that's not -- there's no way at all of that would ever be realized because clearly some of that is going to get -- some of that's going to get hit with credit charges and so -- and some of them are floating rate and so they're less desirable.

So we didn't sell any of the floating rate ones because we think that they're a nice hedge and if you get a significant repricing of short-term interest rates, then those will become a lot more valuable. So we're kind of holding onto those.

But I think the good thing about it is we're very conservative about where we place them on the books. And that way, by neither leveraging them, holding them at the holding company, and just waiting opportunistically to sell them, we just have a little bit of extra opportunity there.

Or more value. Okay, that's a wide range of values in terms of differentiation between 5 and 50.

Hold on, I mean look. Remember, when I say $50 million of face, I'm not saying that's $50 million of value. Remember (multiple speakers) these are pieces that they may have the backing of that kind of number of mortgages, but they are subordinate pieces to another piece and they don't get paid until that piece gets paid entirely upfront.

So they might not cash flow for six years. So obviously, that's not -- so, yes, I would just add my treasure [branders], there is $66 million of current face value. We are holding those on the books at $798,000.

We have a market value gain of $4.5 million. We have market value of $4.5 million for an unrealized gain of about $4 million. So obviously -- and we're discounting those at incredibly high discount margins in the thousands.

So if there were -- if things turned around and they were obviously better, than there's significant upside from that. It was just sort of something unique that really never will happen in the market again. So it's just too good to pass up.

Okay and moving onto another question about the repricing of CDs. Can you just talk about that or maybe, Andy, you can point me to them on the 10-Q right now; once you get a handle on that, where the CDs -- what the magnitude of the amount of CDs you have that are going to reprice and how much of your net income did you experience in the most recent quarter was a result of CDs repricing?

It's hard to put an exact number (inaudible) we can discuss it in terms of a rate decline. I think that's probably the best way to discuss that change. But as it relates to your first question of how much in CDs are out there that mature within the next year, and that total is 265 million. So 265 million matures in the next 12 months from 12-31-09.

Do you have an average rate on those?

Yes, in looking at the change quarter over quarter on these things, our current CD rate for the quarter is approximately on a blended basis about 3.66% on a comparative. For September 30, our last quarter, that rate was 4.10. So we went from 4.10 to 3.66 and these are averages for the quarter.

Where would it be today, that same rate if you took that paper or whatever, if it was renewed, all those CDs?

I think if what you are saying is how do you factor in the income value to that, I would take the change in the basis points over the average balance. This information is on page 28 of the Q.

But you can see the average balance for 12-31 was $405 million. So if you want to take that rate change and apply it to the $405 million, that would give you -- and of course divide it by four to give you the quarterly effect -- but That would give you a good approximation.

And remember, obviously there's a couple of significant benefits to having a bunch of high yield CDs mature. One of those is that obviously they're not providing you a lot of interest rate risk protection when they're maturing within a year and of course, you're also paying a lot of money to your CD customers.

So by having those mature, what we replace them with largely is dependent upon what we feel the amount of interest rate risk we can take is. We've been very conservative with our interest rate risk profile. So obviously if we extend those rates, it will be more expensive but if we keep them short, they'll be cheaper. But regardless of whether we extend or keep them short, things will be cheaper because the CD rates are just lower across the board.

Okay and then maybe you could just review how are you going to match your duration going forward or what strategy are you going to use?

We have a variety of strategies we utilize. We clearly are careful from a modeling perspective. One of the strategies is that we originate or acquire assets that are repricing in a relatively short period of time.

To the extent that we can't do that, we will match with consumer deposits with borrowing or with -- frankly we have been able to -- we think one of the best bargains in the market right now, though I'm even reluctant to say it to anybody else, is brokered CDs that are -- ten-year brokered CDs are under 4%. So we have been selectively going out and doing that.

And even though brokered CDs are generally not in great favor, when you have them for 10 years, they actually are much safer because a significant upshock will cause all your consumers to run the early withdrawal penalty door. But that's not something that's available to brokered CD holders.

So there's all sorts of ways to do it. We have a full treasury management that looks at FHLB advances and all those other things and then make sure that we have an appropriate level of interest-rate risk.

One interesting thing for example is we really have been taking a hit to earnings because we've positioned our agency products into a significant portion of it and to short-term debt. So we're making some pitiful return on it of 30, 40 basis -- not even, more like 20 or something and we have been waiting for the Fed to stop purchasing agency securities. And at that point, we will see where the market goes to see if we decide to extend our duration of our agencies. So we've been very cautious and in fact given up income to try to ensure that we're not caught short on the interest-rate risk side.

Edward Hemmelgarn, Shaker Investments.

A couple of questions. You mentioned your thoughts about acquiring a bank. Would that just be the assets or -- you wouldn't actually go out and buy a bank that had branch locations, would you?

Yes, we might. It obviously would depend on a whole variety of things. But that's not beyond the realm of possibility. I don't want to make you think that anything like this is at all eminent or we've truly thought through everything that we would have to do to ensure that the business models were compatible.

But it simply is the case that the value that can be created from FDIC transactions right now is very significant. So we obviously have to make sure that we can take advantage of those opportunities as they come to us.

But the different integration models and mechanisms that will be available to us for different banks, it just depends on what they look like. You could imagine a couple of different strategies and we still have to kind of really think through these.

But let's just say for example that there's some banks that let's say they had decent assets in one area, poor assets in another, let's say a relatively good lending business and let's say a construction lending business. This happens all the time.

They really were funded much more either on a brokered basis or through FHLB borrowing and things like that. If we could get those assets at an appropriate price, that might be relatively easy integration.

On the other hand if you had a business bank that had a core deposit franchise that was very valuable and you were able to acquire that entire operation and run it independently, then that might be desirable as well. I mean this is not a -- far from it, this is not a repudiation of our business model but it's just simply recognizing that what's happening in the market is that assets are being kept in the banking system by the FDIC and they are ensuring that basically nobody gets to play unless they are a bank.

And there's a lot of value that's going to be had from being able to participate in those and the question is how you do it in the right way. So I think we've thought a lot about it and obviously the right thing is has to occur. But there's nothing imminent in any respect. I'm just saying that I think it's an interesting opportunity.

Is it possible to just acquire assets?

It is possible to acquire assets, but generally it's disfavored. There's a variety of mechanisms by which the FDIC disposes of banks. There's rumors that they are going to be moving to some more asset disposition models and moving away from the from the whole-on bank with loss sharing model which has been the predominant model that they been utilizing.

So at least it's theoretically possible. The fact of the matter is though that so many of the assets that are on (inaudible) these other FDIC auction disposals have been the assets that have been rejected by the acquiring banks that got the bank on a wholesale basis.

So they often are just not suitable for us. And then if you're bidding for all the assets, could you win if you paid more? I think you could probably but the fact is if the FDIC wants problems off their hands, so you need to be a problem solver.

But those are the sort of things that you kind of get a feel of as you go and bid and there's some element of creativity and negotiation associated with this. So the true answer to that is it remains to be seen, it just hasn't been done a whole lot lately.

Okay, I guess I just have -- I mean in a deleveraging environment that we're going to get or that we are in that could last for years, I suspect that as opposed to everybody wanting to buy deposits, it's going to be the other way around, the assets will be more valuable than the deposits.

I think that's generally right. I mean it's certainly our philosophy is that for banks, there clearly is increased pressure from a deposit perspective. People are having to pay more, they're having a hard time getting value out of their branches.

Obviously when overdraft -- it's not even a component worth mentioning as part of our business but many small branch banks literally live off of the free checking in that area. So you see a lot of interesting pressures on that core business.

I mean Citibank was saying just recently that they wanted to do away with their free checking and they had -- the consumers in New York had the good fortune of having Mr. Cuomo take a stand on that and they evidently backed off, although I haven't fully been following exactly what happened with that story.

What you do see is you do see a lot of pressure on that, that consumer low-cost deposit, high service model. And so I think there's a lot of pressure on that but you have to look at all these things as a package.

You have to keep the branches around for a year, you at least have to serve that community. What does that mean subsequent to the timeframe that that occurs? Is that branch profitable or not?

Certainly you're not forced by the FDIC to keep an unprofitable branch over an extended period of time, even if you're forced to keep it for a certain period of time. There's a lot of things you've got to think about there. But obviously a discount on the assets is the primary driver that pushes you towards these sort of deals.

Okay, just a couple of other questions. In your deposit blend of new CDC that you're issuing now; what is your -- let's say over the last quarter, what was your CD maturity or blend of -- or average maturities in new deposits that you're taking in?

I think we continue to be significant in the one year zone. But our one-year maturities grew a little bit when you look at quarter over quarter. I think we were a little bit less at September 30. But our growth really when you line it up has been in areas outside of CDs as well.

Yes, so our growth in checking and savings, particularly savings, has been a bigger component and our asset additions have continued to be the assets that reprice relatively quickly.

What about on savings? What kind of rates are you paying on just strictly savings deposits?

Right now we have on the money market savings, an APY of 1.55%; and on the advantage savings, 1.50% and our high yield savings is 1.60%. Those are all APYs but those are obviously very attractive rates compared to the typical brick-and-mortar large-scale bank.

On the growth of the balance sheet, you've kind of slowed that down lately. It's been growing at a slower rate than your equity has been growing. Is that just to give you more flexibility in case a better opportunity comes along?

That's partly it. I think the other issue is that although nobody has sort of rapped us on the knuckles, I think that everywhere you look, you hear the number eight floating around and I just think that it's better to be -- to have forethought about where you think you need to be rather than to be caught behind.

So, I think having core capital that's closer to eight than seven is a good thing. And so there has been a conscious movement in that direction but I think that where we are now will allow us to focus most of our organic earnings power on asset growth. Now, I think clearly as we go, the main thing that will drive asset growth is can we find assets that we believe in from a quality perspective and I think we can.

Does that always mean you'll have exactly smooth growth across the board? It probably doesn't. Maybe that capital ratio will move up and down a little bit, but it will probably end up staying closer to eight than the seven at least for a while until we see some clarity around what's going to happen regulatorily and whatnot.

Okay and have your chief information officer and your chief marketing officer, have they started already?

They have, yes. The chief marketing officer has a great background particularly in development of a multifamily origination platform. She has direct experience in that and already has just brought a wealth of different unique ways of doing things and frankly just some deals where we're going to be on the Scotman's Guide for a very -- I don't want to throw them under a bus -- but for a very attractive rate and things like that.

So it's really kind of expanding a lot of the different marketing efforts on the multifamily side and we've seen big pickups there. The chief information officer is obviously -- our chief technology officer stayed. We had a gentleman -- there really isn't any extra cost to having -- the chief marketing officer was a replacement for a prior chief marketing officer.

The chief information officer was a replacement for a consultant that we had come on and who was serving as an interim chief information officer for a while to help us in some specific areas. Although those are not net additions from a cost perspective, they're clearly net additions from an experience perspective.

So obviously our business is highly technology driven. We need to continue to focus in an endless and relentless way on beating out inefficiencies in our core operations. And so he's there to help with that and he's making an impact already. So we are excited about that.

Well, I congratulate you for expanding your management team.

Joe Gladue, B. Riley.

Wanted to I guess touch a little bit further on the asset side of the balance sheet. You did have some good amount of shifting in the mix of assets during the quarter from securities and more into loans. Just wondering if that is something we can expect to continue and if you might see some -- a little bit of boost to average asset yields from that progression.

I think you will continue to see that shift from securities to loans. I think frankly right now the securities and the opportunities we saw in the market on the securities side are just not there in the way that we feel are the most attractive.

We also think that the way lending has shaken out and the way asset prices have declined and the way underwriting criteria has tightened up that it is really more going to be about increasing our loan book in the future. So I think you will see that shift.

I think you'll continue to see good yields come out of that loan book obviously. Whether or not I'm going to commit to saying that that will increase our net interest margin, I don't know. It depends. I think the net interest margin will continue to be good.

Will increasing the loan portfolio increase it? It depends. Whenever you go out for example on a multifamily type product, we give some discounts for low LTVs, things like that. We are attempting to obviously get good rates but our most important requirement is that we're not chasing yield at the sacrifice of credit quality.

So frankly the people who get loans from us could get loans from a lot of different places. So that being said -- at least in a normal environment. So that being said, we obviously have to remain competitive on loan rates. Now I think in this market, that still means that there's plenty of good credit spread available.

So I think it's going to continue to allow us to leverage our infrastructure. I think that one of the biggest drivers of earnings growth is that we obviously have a fixed cost base associated with a lot of the things required to run the bank. That's leverageable over a much larger platform. So that's one of the key drivers that you'll see as we get bigger, the ability to leverage that.

Okay, just wondering if you could I guess update us on the progress on the [advisor] program, how that -- where did that go during the quarter and I guess the independent financial group affiliation?

Sure, sure. There's two sides to that. On the mortgage side, we've continued to see origination volume get bigger on that side. We have more of their financial planners who have signed up as certified mortgage advisors which requires them to do certain things related to allow us to market to their mortgage book. So that has continued to develop.

It looks like about an $8 million run rate right now on mortgage originations which is still obviously just beginning to take off. That obviously -- that whole relationship is one of many relationships that we're looking to establish. So there's a number of other broker-dealers that we have been talking with, I'm not at liberty to talk about who they are right now, that are excited about the relationship and we're continuing to market it.

And so as we've gotten publicity on it, we've had continuing calls in for people who are enthusiastic about it. So it's an ongoing effort. We could probably if we put some more salespeople against it, grow it even faster.

But we're also developing the infrastructure behind it and making sure that we're servicing the clients that IFG has well. It's going well and we expect it will continue. We just have to get -- continue to get more partnerships through that and I think it will continue to work.

I guess I'll ask a couple of housekeeping items. And just in a quick glance at the 10-Q during the call, I didn't see the numbers, but wondering if you could tell me where I guess delinquencies are, 30 to 89 days as well as 90 day past dues (multiple speakers) in?

Our 90 days past due on our loan book was at $8.2 million combined. That was 1.22% of all of our loans as of December. On a comparative basis, our 90 days past due at September 30, 2009 was $7.8 million which was 1.29% of our loan book. So actually on a percentage basis, our 90 day has come down. On a dollar terms, it's actually grown a little bit.

Do you have the 30 to 89 days?

30 is a total of roughly $8.0 million, that would be 30 to 89.

Hugh Miller, Sidoti & Co.

I guess a lot of questions certainly have been asked, one of which -- just wanted to get your thoughts on with the government potentially no longer supporting the mortgage-backed securities market at some point in the coming months, I was just wondering how you thought about that in relation to your securities portfolio and whether or not you view that as a potential risk.

We have viewed it as a potential risk. We've largely taken action to mitigate against it. So frankly we have been pushing out our higher coupon securities and positioning them into floating rate securities.

So we actually have really isolated -- or I should say mitigated the risk that you have -- the substantial spread widening or also you just have a backup in long rates. So, I think to some extent, we would actually like to see at least from a bond perspective those rates back back up and the spreads get back up because we are holding a lot of very short agency securities which are quite detrimental to yield right now.

But we think that's the right thing to do. We're just waiting to see exactly how the market digests one of the largest buyers or the largest buyer by far as saying that they're going to back away.

Obviously you guys were in there buying I think a lot of residential mortgage-backed securities while there was a lot of fear in the market at obviously exceptional yields. Was wondering, do you have a figure on the average duration of those? Just trying to get a sense of how long those should kind of probably stay on the balance sheet for.

We have them spread. When you look at it, we've got a group of about 200 million of actually LIBOR floaters. So from a duration risk perspective, these are great securities to have and to hold and the risk there is minimal if really what you're trying to do is get it at interest rate.

It's probably significantly greater than $200 million, closer to $240 million or more. So we're actually glad to have those and they are an integral part of our interest rate risk strategy going forward because we do know that rates will rise and we want to be protected.

We have shied away from buying 30 year fixed, 15 year fixed during this real crazy [106] kind of pricing zone for agencies. We do have a group, some fixed rate but they're not near as much as the floating rate. So all blended in, we probably have an effective duration of less than a 1% kind of 2% duration.

Okay and I guess looking at the deposit side, a couple of questions there. We have seen kind of an increase in the average checking and savings balances. I think as of the first fiscal quarter, it was just under like $25,000 on the average checking and savings account size.

Was wondering kind of -- I didn't know if maybe you don't have that right off the top of your head there. But do you have a sense of where that's kind of trending now in the second quarter? Is that something we continue to see rising?

I don't think so. I have some numbers that I've been looking at on that. I don't really think that that would be rising that much.

Most of that rise was the result of some very specific product attributes that we changed in an attempt to do that and so it was very successful. Obviously it reduces our cost of service and since we don't make a lot of money on fees anyway, lower balances were more of a headache to us than anything else.

So I don't think you'll see that move that much. But obviously these are transaction accounts for folks that are relatively well off and so it may rise or fall a little bit but I wouldn't expect any appreciable change there.

Okay, and I guess -- I think we've talked a little bit about kind of the churn rate in some of the deposit accounts you have and obviously as an Internet-based bank, it's a little bit harder for you guys to maintain a stickier type of account. But you guys have talked about how auto bill pay and other services like that have kind of helped to cause these deposits to be a little bit stickier. Can you talk about any other products or services that are kind of out there that you might be able to implement that would make that relationship even stickier and less price sensitive?

There's a number of things that we have been looking at. One of them is all the personal financial management account aggregation, software that's out there and making that work, we have been looking at a variety of products there that would allow people to aggregate accounts and get access to spending reports and those sort of things.

If you want to just sort of talk about Blue Sky for right now and talk about -- we've got plenty of things to do that are intermediate, real impactful type of initiatives. The things that you're talking about and I'm going to talk about now are things that are a little bit longer term.

But you could imagine for example that if people were willing to do online document storage of the significant documents required to do a variety of different things that you could eventually append and understand enough about their finances to have a recommendation engine that would actually provide some optimization across their basic products and provide recommendations to them and then allow them to fulfill those product recommendations with relative ease based on a set of documentation they had, things like that. I think that when you get right down to what's the blocking and tackling that needs to occur for the next six to 12 months, it's the following.

It's remote deposit capture via many different devices, so convenience. It's taking away the inconvenience factor of Internet banking. Finding a way to increase the ability to use ACH features without increasing the risk associated with having money flow in and out, so make it more convenient for the customers.

It's providing a set of videos to customers that allow them to understand how to use the bill pay feature, how to open a transaction account when they have a CD or savings account, so it's the cross-selling. It's creating a certain sense that our customers are intelligent by the fact that they're not letting themselves get ripped off by a bank that's not paying them any interest, so it's that education process.

So all those things I think can be done through online video, through improving customer service, through making our call center more of a sales culture call center rather than just a fulfillment call center, taking the fulfillment or the sort of -- the mechanical calls that we have and using more automation to allow people to do more self-service on those calls; so literally breaking them down, analyzing what they are.

Somebody's calling for passwords, somebody's calling for balances, how do we make sure they're using interactive voice response more? All those sort of things, so there's a lot of blocking and tackling that always is available as just immediate improvement opportunities.

Then the sort of -- the personal financial management usage is the next step. The key is you've got to get people who are actually willing to engage you on that level. I think that's certainly possible but it's not always the easiest. If you can though, that's great because then it allows you to literally have that recommendation engine within that contextual framework.

As part of that personal financial management system, one of the things we talked about doing which we are working on but it's been a little bit more challenging than we expected is the ability to have one of our customers link to an account that they wanted to keep at a branch-based institution and decide how much money they wanted to have in a low-interest account and how much money they wanted to have in a higher-interest account.

But I think you've got to remember, you've got to step back and say you're paying a little more interest but your costs are so much lower. And what's happening to these other banks is that their branch-based model particularly on the consumer side particularly with smaller banks isn't working to keep costs down. So these banks that have 18, 20 branches; three to five branches, if you look at their cost of funds with good management were often right around where they are and yet they have all this cost.

I think one of our value propositions, I would love to tell everyone it's not going to continue to be strong rates. It's always going to be strong rates but there's ways to mitigate that around the edges and to execute better in customer service and all these other areas to continue to get our customers to like us better.

Because customers aren't leaving us for an extra 20 basis points. The feedback we get is they're leaving us because they don't like all the security features we put around accounts to make sure that we have absolutely no loss, no fraud ever. And that's an important thing to maintain, we just have to think about how our customers view that.

We run a low-cost operation on the customer service side, but some people like to be sold to. And if our customer service reps feel like we're rushing them off the phone, that's going to lose a customer. Those are the things that our analysis shows are far more prevalent than some issue of 10 basis points here or there and so the good thing about that is that's stuff we can fix.

That's excellent color. I really appreciate that, Greg. It's great insight. Just I guess two little housekeeping questions. First I guess on the salary and benefits, roughly about $1.8 million in the December quarter. So that's likely to be a pretty good run rate going forward with the new hires or roughly thereabouts with some appreciation?

I think that's right, I think that's right. Is there a potential at different times for that move up or down a little bit? But I think that's not a bad run rate.

And then the other last one is just on the other expense which was I think roughly about $1.7 million in the quarter, obviously has I think some of those REO expenses in there. So that's the part that should probably be lumpy on a go forward basis?

Yes.

Edward Hemmelgarn.

Quick -- and this is Randy. What's the -- what do you expect the tax rate to be for the rest of the year?

We've been running at an effective tax rate in the neighborhood of around 40, 41% or thereabouts.

It jumped up a little bit this quarter.

It's up just a little bit. There isn't -- the primary key issue is under federal tax code, corporations once you bust through $10 million of taxable income, your effective rate pops up to -- incrementally to 38% so that you can bring all of your taxes up to 35%. So one of the penalties of making more money is that we will migrate to a federal rate which will be 35%. It's going to be up a little bit.

[We have a Russian] information technology officer's informed me that in the former Soviet Union, actually corporate tax rates are 15%. So he's been pushing for a relocation but his wife wants to stay in San Diego. But in any event, I guess it's living with high corporate tax rates are what we have to deal with.

So you expect it to trend up a little bit in the future?

Just a little bit. It's only the federal side. The state side is still roughly the same and it pops up a little bit higher due to the incremental catch-up to bring the prior amount up to 35%.

Gentlemen, at this point there are no other questions in the roster.

Very good. Thanks, everybody. Have a good quarter. We will talk to you next quarter.

Ladies and gentlemen, that concludes today's call. Again thanks very much for joining us, have a good day.