Banc of California Inc (BANC) 2021 Q4 法說會逐字稿

Hello, and welcome to Banc of California's fourth quarter earnings conference call. (Operator Instructions) Today's call is being recorded, and a copy of the recording will be available later today on the company's Investor Relations website.

Today's presentation will also include non-GAAP measures. The reconciliation for these and additional required information is available in the earnings press release. The reference presentation is available on the company's Investor Relations website.

Before we begin, we would like to direct everyone to the company's safe harbor statement on forward-looking statements, included in both the earnings release and the earnings presentation.

I would like to now turn the conference call over to Mr. Jared Wolff, Banc of California's President and Chief Executive Officer. Please go ahead.

Good morning, and welcome to Banc of California's Fourth Quarter Earnings Call. Joining me on today's call is Lynn Hopkins, our Chief Financial Officer, who will talk in more detail about our quarterly results.

We had a very strong fourth quarter that capped a tremendous year for Banc of California. We substantially grew core earnings, while also making investments that have strengthened our franchise and positioned us very well for continued growth in the years ahead. We are quite proud of what we accomplished in 2021.

We exceeded our growth targets, as our new business development efforts produced high-quality loan and deposit relationships that enabled us to grow our balance sheet, realize more operating leverage and improve our level of returns. We continue to reduce our deposit costs and build the type of deposit franchise that we believe is the foundation of high-performing banks.

We attracted substantial new talent to the company, which has not only strengthened our business development capabilities but also increased the breadth and depth of our presence across the State of California. We laid the groundwork for our verticals in payments and tech, while bolstering our capabilities in real estate, healthcare, media and entertainment, treasury management and other core verticals.

And we continued to optimize our use of capital to increase earnings and enhance franchise value, first, with the redemption of our Series D preferred stock and then with the acquisition of Pacific Mercantile Bancorp.

We were able to do all of these things while managing through the continuing impact of the pandemic. I want to thank all of our colleagues at Banc of California for their extraordinary efforts that enabled us to achieve all of these goals that we set for 2021. During the fourth quarter, we completed our acquisition of Pacific Mercantile, and integration has proceeded in line with our expectations.

The system conversion was completed in mid-November and by the end of the year, we had put in place all measures necessary to achieve our target of 40% cost savings, which should be fully realized by the end of Q1, 2022. Of course, we will continue to look for other opportunities, where we can enhance efficiencies and realize additional cost savings.

It is worth noting that the tangible book value dilution we expected from the transaction, has come in much better than previously announced and accordingly, our earn-back will also occur much faster than originally anticipated. Our fourth quarter earnings were impacted by the merger-related costs and day 2 provision expense for the Pacific Mercantile portfolio, which Lynn will discuss later in the call.

But the core performance of the business was very strong, as our adjusted pretax pre-provision income increased by 18% from the third quarter due to our continued organic growth and the partial quarter revenue contribution of Pacific Mercantile, with the impact of the cost savings to be realized in a more meaningful way in 2022.

We ended the year with our largest quarter of new loan fundings and total loan fundings, which reflects our revenue growth engine, the strength of our commercial banking team we have built over the past few years and the initial impact of the bankers we added from the PMB deal.

Our production continues to be broad-based with good contributions across markets, asset classes and industries. We had total loan fundings of $906 million in the fourth quarter, including $583 million of new fundings and $323 million of line advances, of which only $80 million related to net warehouse line advances. This represents an increase of 16% in new fundings and 19% in total loan fundings, compared to the third quarter.

However, we also saw a substantial increase in loan payoffs and paydowns, which were up by approximately $300 million from the prior quarter and impacted our level of organic net loan growth, this quarter. Our loan production engine remains strong, and accordingly we anticipate meaningful loan growth in 2022.

We also had another solid quarter, in terms of bringing in new, low-cost deposit relationships. During the fourth quarter, we opened more than $200 million in new noninterest-bearing and low-cost checking accounts. We used a portion of the excess liquidity we added from Pacific Mercantile to reduce approximately $300 million of higher cost deposits, which further improved our mix of deposits.

With the continued improvement in our deposit base, resulting from our business development efforts and the acquisition of Pacific Mercantile, we finished the year with a spot rate cost of deposits of 7 basis points.

A key driver of the improvement in our cost of deposits, is our increasing mix of noninterest-bearing deposits, which represented 37% of total deposits at year-end, up from 32% at the end of the third quarter.

Let me hand it over to Lynn, who will provide more color on our financial performance. Then I'll have some closing remarks before opening up the line for questions.

Thanks, Jared. First, as mentioned, please refer to our investor deck, which can be found on our Investor Relations website, as I review our fourth quarter performance.

I'll start by reviewing some of the highlights of our income statement and then we'll move on to our balance sheet trends. Unless otherwise indicated, all prior-period comparisons are with the third quarter of 2021.

With the impact of closing the Pacific Mercantile acquisition during the quarter, net income available to common stockholders for the fourth quarter was $4 million or $0.07 per diluted share, down from $21.4 million or $0.42 per diluted share for the third quarter of 2021.

The fourth quarter results included, on a pretax basis, $13.5 million of merger-related costs and $11.3 million of provision for credit losses related to the non-purchased credit-deteriorated loans and unfunded commitments acquired from PMB.

Given the noise created from the Pacific Mercantile acquisition, we'll focus on our adjusted pretax, pre-provision numbers this quarter, which are more reflective of our core performance. Our adjusted pretax, pre-provision net income totaled $32.6 million, an 18% increase, compared to $27.6 million for the prior quarter.

This $5 million increase was due to higher net interest income of $10.1 million, driven by higher average loans from both organic growth and acquired loans, offset by lower noninterest income of $659,000 and higher operating costs of $4.5 million, as we included PMB's operations since the date of acquisition.

Our annualized, adjusted pretax, pre-provision return on average assets increased 4%, to 139 basis points, from the 134 basis points achieved in the third quarter. Our net interest margin remained steady at 3.28% during the quarter, as our overall asset yield decreased by 7 basis points, and our total cost of funds decreased by 8 basis points.

Our earning asset yield decreased to 3.66% due mostly to an increase in lower-yielding, other interest-earning assets, as a result of the level of cash balances acquired from Pacific Mercantile and then subsequently deployed in the quarter.

Our average loan yield increased 2 basis points, to 4.2% during the fourth quarter, due in part to higher prepayment fees and a greater mix of commercial real estate, multifamily and construction loans. Our average cost of funds decreased 8 basis points, to 41 basis points due mostly to lowering our average cost of deposits by 4 basis points, to 11 basis points for the fourth quarter and a reduction in other borrowings.

The decrease in our average cost of deposits reflected an increase in our mix of noninterest-bearing deposits, which averaged 35% of total average deposits during the fourth quarter, compared to 30% during the third quarter.

During the fourth quarter, $330 million of high-cost deposits, with a weighted average rate of 53 basis points, repriced or matured, including deposits acquired from Pacific Mercantile. This is reflected in our lower period-end deposit spot rate, and we expect to receive a full quarter's benefit in the first quarter.

Our adjusted expenses increased $4.5 million from the prior quarter, due mostly to higher salary and benefits, occupancy equipment, data processing and other expenses associated with adding Pacific Mercantile's operations since the October 18 acquisition date, followed by the system conversion in mid-November.

In addition, we incurred $13.5 million in merger-related costs and had $642,000 in indemnified professional fees during the quarter. The effective tax rate for the fourth quarter was 32.4%, compared to 27.2% for the third quarter.

The increase in the effective tax rate during the fourth quarter, was due mostly to the impact the Pacific Mercantile acquisition had on our annual effective tax rate and other permanent items. Our annual effective tax rate is approximately 25%.

Turning to our balance sheet. Our total assets increased by $1.1 billion in the fourth quarter, to $9.4 billion, and total equity increased by approximately $220 million. In the Pacific Mercantile acquisition, we issued approximately 11.9 million shares, increasing equity $222 million, and we recorded goodwill and other intangible assets of $62 million. At December 31, our tangible book value per common share was $13.88, down from $13.99 at the end of the third quarter.

The PMB acquisition reduced our tangible book value per share by $0.10, which was less than we had previously estimated. Our gross loans held for investment increased by $1 billion or 16.4% during the fourth quarter, with growth across all lending categories attributable to the impact of the acquired Pacific Mercantile loans and organic production.

Excluding the $905 million of loans added in the Pacific Mercantile acquisition and outstanding at year end, loans increased by $117 million. This growth included $696 million in production and $210 million in SFR loan purchases, offset by $789 million in payoffs, paydowns and other reductions.

The overall activity increased the mix of commercial-related loans to 79% of total loans, up from 77% at the end of the third quarter. As of December 31, we had $123 million in PPP loans, consisting of $27 million from Round 1 and $96 million from Round 2.

Deposits increased $896 million during the fourth quarter, due mostly to approximately $1.1 billion of deposits added from the Pacific Mercantile acquisition and outstanding at year-end, offset by utilizing excess liquidity to fund outflows of higher-cost deposits.

We acquired $479 million in cash and cash equivalents, which gave us the flexibility to exit higher-costing deposits during the quarter. Demand deposits, noninterest-bearing plus low-cost interest checking, increased by 20% from the prior quarter. This represents our 10th consecutive quarter of demand deposit growth, a goal we remain very focused on to drive franchise value.

We expect this favorable shift in our deposit mix to further support our net interest margin in the first quarter. Over the past year, demand deposits increased to 70% of total deposits, up from 60%, reflecting the improvement we have made in our deposit base.

This increase, combined with our proactive efforts to reduce deposit costs and bring in new relationships, drove our all-in average cost of deposits down from 36 basis points in the fourth quarter of 2020 to be 11 basis points achieved in the fourth quarter of 2021.

We believe we are very well positioned to benefit from the coming cycle of rising interest rates. Due to the transformation of the franchise to our relationship-based banking model with higher percentages of noninterest-bearing deposits and variable-rate commercial loans, our 1-year GAAP ratio, which compares the percentage of earning assets that are scheduled to mature or reprice within 1 year to the percentage of rate-sensitive term liabilities that are scheduled to reprice or mature within 1 year, has steadily increased.

At the end of 2021, our 1-year GAAP ratio stood at 38%, up from 7% at the end of 2019. This is one measure of asset sensitivity and with a significant increase in this ratio, we expect to see some expansion in our net interest margin, as short-term rates increase.

Our credit quality remained strong in the fourth quarter, and we saw positive trends in most categories, excluding the impact of the loans added from Pacific Mercantile. Nonperforming loans increased $6.9 million, to $52.6 million in the fourth quarter, including the addition of $21.6 million of loans acquired in the Pacific Mercantile acquisition that was largely offset by payoffs, paydowns, charge-offs and sales.

The nonperforming loans acquired in the Pacific Mercantile acquisition, included a $12.8 million C&I loan and $5.5 million in PPP loans, which were all known to us through our acquisition due diligence.

At December 31, 55% of nonperforming loans are either in a current payment status but are classified nonperforming for other reasons or our SBA loans guaranteed through the PPP or 7(a) programs. Let me turn to our provision for the quarter. The provision for credit losses was $11.3 million in the fourth quarter, compared to a reversal of $1.1 million for the third quarter.

The fourth quarter provision for credit losses included an $11.3 million charge related to non-purchased credit-deteriorated loans and unfunded commitments added as of the Pacific Mercantile acquisition date. In addition, we recorded no provision expense related to other loan portfolio and unfunded commitment activity during the quarter.

We determined that the impact of the quarter's net loan growth was offset by improving economic forecast, utilized in our model, improved credit quality in our loan portfolio and lower unfunded commitments. Our allowance for credit losses at the end of the fourth quarter totaled $98.2 million, and our allowance to total loans coverage ratio stood at 1.35%.

The increase in the coverage ratio from 1.26% at the end of the third quarter, is due to the general and specific reserves established for the acquired Pacific Mercantile loan portfolio.

Excluding our PPP loans and warehouse loans, both of which have lower relative risk levels in our reserve methodology, the ACL coverage ratio stood at 1.7% at December 31. Our ACL coverage to nonperforming loan ratio remained healthy at 187%.

Our capital position remains strong and has benefited from the strategic actions completed over the past several quarters. We continue to be prudent and strategic with the use of our capital to maximize benefits to shareholders and to build franchise value.

At this time, I will turn the presentation back over to Jared.

Thank you, Lynn. I'll wrap up with a few comments about our outlook for 2022.

With the banking talent we have added and continue to add, the impact of the PMB acquisition and the way our entire organization is executing at a very high level, we believe we are extremely well positioned to deliver another strong year in 2022, particularly given the strength of the attractive California markets in which we operate. We have positioned this company to continue generating topline growth and the benefit from rising rates.

With interest rates expected to rise in 2022, we think we'll be in a good position to benefit from the improvements we've made and the composition of our balance sheet, over the past few years, that have made us more asset sensitive. Building a superior deposit franchise has been our top priority, and the robust deposit-gathering engine we have developed consistently brings in low-cost deposits to fund our growth in earning assets.

We've seen the benefit of lower deposit costs over the past 2 years. And as rates rise, the value of the deposit base we have built, will become even more apparent. At the end of 2021, noninterest-bearing deposits increased to 37% of total deposits, up from 15%, when I joined the company in early 2019.

And with the addition of Pac Merc's loan portfolio, our percentage of variable-rate loans has also increased, making us even more asset sensitive. This should provide yet another catalyst for earnings growth and improve returns, as our net interest margin benefits from the higher level of asset sensitivity, we expect in a rising-rate environment.

As we enter 2022, we are focused on fully realizing the synergies from the PMB acquisition, including opportunities to expand relationships with our new clients that have larger financing needs to support their growing businesses. Additionally, in 2022 we will be accelerating investment in technology, as the greater scale we have, following the PMB deal, enables us to increase our investment, while still realizing improved operating leverage.

Our goal is to be the hub of the financial services ecosystem for our clients, and we want to be able to make innovative solutions available to them, either directly through our own platform or through partnerships with fintech companies like our recent investment in Finexio, a B2B payments platform.

The technology roadmap that we are developing, is designed to elevate the client experience and ensure that we meet all of our clients' banking needs in a rapidly-evolving marketplace.

Finally, we will continue to be very focused on optimizing our use of capital. As we've previously indicated, subject to regulatory approval, we would like to redeem our Series E preferred stock that is a 7% after-tax coupon, sometime during the first half of this year, which would increase our net income available to common stockholders.

Following that redemption, we will continue to be opportunistic in evaluating other ways to optimize our return on capital for shareholders.

In closing, we believe we have significant levers to pull in 2022 and anticipate topline growth, expanding operating leverage, growth in our verticals, investment in our core systems and technology and continued optimization of our capital. As always, our North Star remains creating a true franchise value for shareholders in 2022 as well as the years ahead.

As always, thank you for listening. I look forward to sharing more about Banc of California's progress in the coming quarters.

With that, operator, let's go ahead now and open up the line for questions.

(Operator Instructions) Our first question will come from Timur Braziler of Wells Fargo.

Maybe starting, Jared, on your last point there about technology investments. If you could talk us through some of the types of projects you're looking or capabilities you're looking to add on here, beginning in '22 or I guess building on in '22?

And then, as we look at the 40% expected cost saves from PMB, how should we be thinking about how much of that flows through to the bottom line versus gets reinvested back into the business?

Sure. Well, really pleased with the quarter, and as we said before, we continue to move the ball down the field, and that's our goal, our progress. Sometimes, it's firing on all cylinders, sometimes it's just a few objectives, but this quarter felt like we did a lot.

The ability to acquire -- close an acquisition and integrate it in the same quarter and close it all towards the end of the quarter, was pretty remarkable, and I'm really particularly proud of our team for doing that. So I wanted to lead off and say thanks to all the Banc of California colleagues, who helped us do that.

There's a couple of areas, where we think investment is critical to remain. And as I said in my comments, be the hub of our clients' financial services ecosystem. We know that we can't do everything, but we think we can give them access to a lot of things.

And so we'll be making decisions on what we want to own or invest in, like Finexio, or what we think we might just find -- need to find a partner to bolt on to provide that solution for our clients.

The first thing that's critical for us to be able to do this and stay ahead of our clients, is to make sure that we can perform digitally, and so we're looking at optimizing and improving our end-to-end loan origination system, right now. We're in the final stages of selecting a partner, and we expect that, that's something that we're going to be rolling out by mid this year, to be able to provide a digital end-to-end solution for our clients.

It also has to do with how we think about our view of the clients. What can we see, in terms of the -- do our colleagues here, Banc of California, have a view of our client that's optimal to allow them to serve our clients. And so we want to make sure that we can give them all the tools necessary to make sure that we understand what our relationships look like and how we can serve them better.

It's a very holistic strategy that we're looking at. We're looking at it from the beginning of a client life cycle through how we serve our clients, going forward, and it also has to do with what services we offer to our clients.

We talked about Finexio, which is a -- it's a B2B payments platform, but it's also an optimization program for receivables and payables for clients and how they optimize their cash flow. And so we're in the middle of white labeling this product and rolling it out for our clients.

And so these are a number of things that we're thinking about. There's, kind of, more to come here, and we'll be talking about it more, as we roll it out. I don't like giving too much ahead of the curve here because these things take time, but I'm optimistic that in 2022, we'll be doing a lot, in terms of this, and we'll be disclosing more, as we hit our benchmarks.

Lynn, do you want to address how much of the 40% you think will be reinvesting in technology, if there's a way to think about that?

Sure. Timur, I would say that we do expect to receive a full 40% cost benefit or saves, when I kind of reflect on PMB's historical expense base. I think that there is an opportunity for, maybe, that 40% plus that we would look at reinvesting. I think, there's also an opportunity to invest some of our own cost efficiencies that we've continued to identify and rationalize and then repurpose those dollars as investment in client experience, technology.

And so to that end, I think, we're looking at our run rates, including our investments in technology and client experience in the 2022 to be, I think, fairly reflective of 2021 and what we were able to accomplish plus, I would say, 55% to 60% of PMB's historical expenses. So that's where we are, right now.

I mean one -- another point there is -- we're wrapping all of these changes and kind of our theme for 2022, internally, is the client experience. And so all of our colleagues are very focused on how we're optimizing and delivering the client experience for our clients.

And as we bring in new relationships, showing them the difference that Banc of California can really make for their financial services delivery.

Okay. That's great color. And then, maybe, switching to the client experience to some of the growth you saw this quarter, total fundings, very impressive, as for the payoff activity. Maybe just talk through, kind of, where you're seeing the growth on the funding side, if there's any particular verticals that are seeing incremental strength?

And then similarly on the payoffs, was that kind of abnormality just given, maybe, a fallout from third quarter getting pushed into the fourth quarter and then similarly, first quarter being pulled forward into the fourth quarter?

Yes. The payoffs were high, and it's unfortunate, but I don't get too worried about it because I really focus on what we can control, which is -- which -- as long as our production engine is strong, I know that, that's -- those things like that will revert to the mean and will show net growth.

I was really pleased with the quality of our production and the balance of it. As I look at fourth quarter versus the third quarter, CRE was up relative to the third quarter, multifamily was up relative to the third quarter, construction was down, warehouse was up a little bit, but it was really in balance, as we said, we weren't going to grow it at an outsized level. And C&I was -- pure C&I was almost flat.

So overall, it was really well balanced. We made -- we announced yesterday that we made a hire -- brought in someone to lead media and entertainment for us, who comes with a tremendous resume to balance our already exceptional team. So we expect our media and entertainment vertical to continue to grow.

We have a new hire that we'll be announcing soon, in the nonprofit and education space to continue to grow that vertical, which has been very strong for us. And so we see core C&I continuing to grow this year. And obviously, we have a strong vertical in real estate, and that's going to continue to be strong.

It was on a pipeline call yesterday, and I'm very, very pleased with what I've heard, and I don't see anything that looks like a headwind for us, right now.

The next question comes from David Feaster of Raymond James.

I just wanted to follow up on that last discussion. It's great to see the new hire, and I believe, as you call it in the presentation that you have created a talent magnet. Just curious, how you think about the hiring market, your hiring pipeline, near term.

It seems like there could be a real opportunity for you all, just in light of the disruption around you. Just any commentary on hiring, and where you're most interested in adding talent?

So we're getting hires, we're getting new talent. First of all, we have exceptional people here at Banc of California. And our desire to add people is really to support our growth. We need to do that both in the back office and on the front lines to deliver the Banc of California experience and the difference that we make here to as many people as possible. We do think that the market for us is very positive.

So we're finding new colleagues from all of our competitors. I will say, it is a very, very, very competitive market. And we're finding that the cost to bring in talent is higher than we've seen in the past. But for the right people, we're willing to make those adjustments and bring them in, and we're trying to make sure that our existing team is supported as well.

And they're working hard, and they deserve to get the benefits of our growth. And so we're looking to share that with them as well.

We haven't really had a problem finding the people that we've been looking for, but we've been very selective on the people that we've been looking for. And these are surgical and very targeted hires, as opposed to opening the floodgates and just grabbing whoever walks in the door.

We're very careful in who we hire, and I'm grateful to our -- we have a tremendous talent-recruiting team, who has really supported us these last several years, and they really understand our bank and what it takes to be successful here.

We'd like to say that everybody here carries a shovel and maybe a toolkit as well, maybe a hammer and some nails. There are very few people, who get to walk around and basically move traffic without driving a vehicle, too.

And so everybody here plays a role. And so it's not the right bank for everybody, but I think our team has done a great job of finding the right people.

Okay. That's helpful. And then just, maybe touching on the loan pipeline. Could you just talk about how that stands, as we head into '22, and how that compares quarter-over-quarter? And just, any expectations for growth, as we look into next year, and just how new loan yields are trending? It looks like the new rate on production declined a bit. I'm just curious, if that was a mix issue or whether you're ...

That was a mix issue. As I look at production yield, CRE, quarter-over-quarter, was flat, multifamily was actually up a little bit, construction was down and we had some large construction come on in the quarter. C&I was flat.

And so I think it was just a mix issue, I think, overall, if anything, loan yields -- one of the things that's going to happen, when rates rise, in my experience, is there's going to be a little bit of a pause.

So -- and it will be interesting to see how long that lasts. Generally, when rates rise, deposit costs are obviously going to lag. But on the loan side, there's kind of a hold in the market because buyers are -- want to pay less for properties, when it's going to cost them more to finance it, for example, or in C&I, people that are buying equipment, if it's going to cost them more to finance it, they might wait and see if that's permanent.

And then sellers of properties or equipment might -- in negotiating the price, might not be fully prepared to expect the change in terms that new interest rates will indicate.

And so oftentimes, there's a little bit of a lag in new activity, the moment that rates rise. We'll see, if that happens here or not. Our expectations, overall, for 2022 is that we're going to have robust loan growth. In terms of what that predicts for net loan growth, we want to target high single digits, low double digits for sure. I'm hesitant to say that, that will happen because I don't know what payoffs are going to be.

But one thing that I'm confident of, is how well we're positioned, from an asset sensitive -- asset sensitivity standpoint. And a new page of our presentation, which I want to make sure people see, is on Page 17 that has a sensitivity around deposit betas and shows the full extent -- Lynn talked about our GAAP ratio and the full extent to which we expect to participate in the benefit from rising rates.

So I expect our loan growth and our loan production to be very robust. How it nets out, I don't know. I'd like to see us be in the high single digits and or lower double digits. I know that from an earnings perspective, we are going to figure out a way to get to where we need to be, to make this a very productive year.

And whether it comes because we benefit from net loan growth is high, and we get the benefit of interest rate upticks in our asset sensitivity, that's great. That's going to be the home run scenario. If we get the benefit of the interest rate uptick and -- but net loan growth is a little bit lower, it's in the mid- to upper single digits but doesn't hit double digits, we're still going to figure out a way to make earnings really, really strong.

And Lynn has shown a tremendous ability with her team to optimize our use of cash and to create operating leverage quarter-over-quarter. And I'm sure that we're going to continue to do that, even as we reinvest in technology.

So David, I'm not trying to dodge your question. I just don't know the answer. I mean I'm telling you where I'd like to be, but I don't know that -- we'll see, if we can get there.

Yes. That's helpful. I know that slide on the rate sensitivity, using the different betas was extremely helpful. But just circling back, maybe, to the expense side. It sounds like you got a decent amount of Pac Merc savings in there.

Just curious, what might be a good core expense run rate, as we come out of the first quarter, once everything is integrated. And then just how you think about expense growth, just in light of the inflationary pressures, the new hires that you're talking about and some of the tech initiatives that you got going on?

Lynn, do you want to take that?

Sure. Sure. I can start. I think, just kind of following on from my comments earlier, that reflect back, and you're able to probably see these as well, looking back at Pacific Mercantile, their expenses, I'm going to say, we're running maybe around just over [$8 million] a quarter.

So we are looking at our expense savings, we've said 40 plus. So based on what we've been able to achieve, plus our desire to continue investments in our initiatives, including those expense saves.

And I will say that in the fourth quarter, given the system conversion was in November, we will get the full benefit of a full quarter of the combined operations, starting in the first quarter. So save you all a little bit of math there. I think, we would target our operating expenses to be in the range of, I'm going to say, about $45.5 million to $47 million a quarter.

First quarter tends to be a little bit higher, as you kick off the year. And definitely, appreciate your comment about inflation, the competitive landscape for recruiting talent. We're trying to take a hard look at that and incorporate all that into our expenses and how we continue to leverage our investments in those resources. So I think, that's what we're looking at. I think, there's still opportunity to create operating efficiencies.

Yes. I mean we see ourselves expanding our operating leverage, even as we make these reinvestments in technology and see our ROA going up and our EPS going up. I mean all -- the topline growth gives us a lot of flexibility, and we see a lot of topline growth ahead.

The next question comes from Andrew Terrell of Stephens.

Jared or Lynn, I was maybe hoping to start on the, I think, $5.5 million in net charge-offs this quarter. I think, some of it was related to Pac Merc, but was the remainder just, kind of, year-end cleanup, if you will? Or just any kind of color you can provide on the charge-offs this quarter.

Sure. I'll start and then Lynn, if you want to jump in. I mean we looked at a whole bunch of loans that we took the opportunity to sell, that were nonperforming, that we got a premium on several of them. And our team did a superb job of getting that done through the end of the quarter. And we just thought it was a great quarter to take that opportunity.

You don't often see premiums on loans like that, and so we wanted to do that and keep our -- we knew what we were bringing over with Pac Merc, and we did it with our eyes open, with the ability to take the appropriate reserves. And so we wanted to make sure that these levels remained appropriate. And so we -- there was a little bit of that going on.

Yes. Let me just...

One other comment, Lynn, one other comment before -- I just remember, I should point out that on our delinquencies, we had about $30 million of delinquent loans return to non-delinquent status, after the end of the quarter. And that tends to happen with the SFRs. It's just -- they're really, really lumpy, and they're delinquent temporarily because it's just the way that people live, and then they pay their fee and then they bring them back to normal status.

And so our delinquencies, as long as we got this SFR portfolio, we are going to run a little bit red at the end of the quarter and then they normalize after the end of the quarter. It's been the same trend for many, many quarters. And as we've built up our SFR portfolio, that -- that's happened. So I just wanted to point that out. Sorry, Lynn.

No, no, it's fine. So when I look at the loans charged off and the recoveries in the quarter, through both acquisition accounting, plus our own activity, that's what comprised the numbers. Jared is absolutely correct with our few nonperforming loans that we decided to exit, we were able to yield some gains on some, and then we did take some charge-offs on the -- I'm going to say the smaller piece.

Also included in charge-offs for the quarter, was a loan that we had specifically reserved for in prior quarters and took the -- and wrote that off or charged that off in the fourth quarter.

I'd say, the other large numbers in there relate to loans that were acquired in the Pacific Mercantile acquisition. They were fully reserved through purchase accounting. And then they were offset also by a known recovery and the timing of when we received the cash, relative to the acquisition date. So that's the majority of the charge-offs and the recovery numbers.

Okay. Great. That's really helpful color, and I appreciate it. Maybe, Jared, just moving back over to some of the loan growth. I saw the announcement for the Head of Media and Entertainment business. I think, that portfolio represents a relatively, kind of, smaller portion of the overall balance sheet today.

Can you maybe just give us some color on how this new hire expands that business line and, kind of, what it adds for you? And then, what kind of market opportunity you see in that segment?

Sure. Well, pleased to add [Yiam] to our team. He's got a great background, and I know he's going to make great contributions. He's joining an already very talented team with -- led by Adrian and others that have been on the team for many years and Randy and others, who have done just a superb job for us. We expect us to -- we've primarily been playing in the streaming space.

So we've been -- as we've talked about before, we finance streaming production, so -- in content. So when a producer has the idea for a show, they might go to Netflix or Hallmark or Hulu and run the idea up the flag pole.

And then if they like it, the streaming service, the production company would be -- will buy the content. They'll buy the script, and they'll basically sign a contract and say, "If you make it, we'll buy it." And so then they come to us. And then with the contract, and we then help them finance the production of the show.

That's primarily what we've been doing. But there's opportunities in the whole ecosystem, to do more financing without taking -- we're not taking any box office or distribution risk with streaming, right? We're not getting repaid, based on how many people show up at the theater. We have a contract from Netflix, which we know is good money, or from Amazon or whomever. And so how do you play in this ecosystem and without expanding your risk profile?

Well there are a lot of supportive services that are in the same ecosystem that we're not currently serving, that we can continue to serve. And a lot of the different players that are there, we think, are people that we can reach out to for similar financing.

There's the ability to finance distribution that's already -- the content that's already been made, where people have already signed a distribution deal and a whole host of other things that are in that ecosystem as well as in the related areas of television and music. And so without going into too much detail about specifically what we're going to do, I hope that gives you some color for what we could do.

Yes. No, that's very helpful. I appreciate it. And maybe just a housekeeping question for Lynn. I think I heard you on the $45.5 million to $47 million kind of per quarter of expenses in 2022.

Just curious, does that contemplate any kind of step down in some of the legacy litigation expenses, or is the potential for that kind of -- would it kind of benefit the run rate in 2022?

Sure. So for the legacy litigation expenses, which have primarily been resolved or well identified, and we refer to them as the indemnified professional fees. That's outside of that -- it's outside of that number.

Next question comes from Kelly Motta of KBW.

Thank you so much for the question. I really appreciate all the additional color in the slides on your asset sensitivity, post PMBC. I was hoping, if you could just give us a sense of how you expect -- given all the changes you've made on the funding side, how you expect the funding to react to the first couple rate hikes? Do you expect it to be relatively resistant now, given the nice shift you've had?

Kelly. Good afternoon, I guess, to you. So with all the liquidity in the market. We don't know what the deposit betas are going to be, but my expectation is that the early rate hikes are going to show no appreciable change in -- on the deposit side. We're not going to see any sort of movement of money. We've moved really, really hard out of money market.

And so when you look at our deposit breakdowns, the detail of it. We have -- money market has been shrunk dramatically, and that was very, very intentional. So we wouldn't expect -- obviously, noninterest-bearing deposits aren't going to react. You wouldn't see low-cost checking expected to react, and so then it's just about, kind of -- money market would be the one that would react, and then you'd expect CDs to obviously react at maturity, which you can control.

Even there though, I just -- with so much liquidity in the market, we don't see rates influencing depositors. We don't see us participating in providing higher rates to depositors anytime soon. We don't see the need. And so hard to know, but that's why we want to provide the sensitivity chart on the bottom of Page 17, about what could happen in an [up-rate] environment, based on historical betas or 0 betas?

Maybe just a quick one on capital. I appreciate the additional update on the preferred redemption. Just wondering, if there's any changes on -- how you're thinking about maybe deploying the buyback, given where the stock is trading?

Look, obviously, we don't like where our stock is trading today. And hopefully, it rebounds and hopefully, this communication helps in some way to let people know about our story. We think, the first thing we need to do with our capital, is redeem our preferred stock, and we want to give ourselves the benefit of -- and the regulators the benefit of giving enough time to do that because we do need approval, but we're optimistic that it will be done in the first half of this year.

And if we can get it done in the first quarter, that would be fantastic. From there, then it's always a question of where are we trading. And we think our investors would prefer a return on capital versus return of capital. But that's not to say that we wouldn't put in place a buyback program, if it made sense, so that we can be opportunistic about where our stock is trading. We just got to look at that versus all the other uses of our capital, including reinvestment in our company for growth.

And we have some -- we see robust growth, and we know we need to reinvest in technology. It's not to say, we couldn't do all of those things, but I think it's probably -- that's kind of how we stack them.

Lynn, do you have any other thoughts there?

No, I think you summed it up well. Thanks.

The next question comes from Gary Tenner of D.A. Davidson.

My questions have largely been answered. I just wanted to ask the loan yield adjustments, I think, that were called out either the press release or in the deck, added 12 bps this quarter versus 11 last quarter. I'm assuming lower PPP fees this quarter and presumably, some increased discount accretion benefit.

Can you kind of break out the relative impacts of both of those items, third quarter versus fourth quarter, for us?

Sure. Gary, this is Lynn. So I think, as we step back, especially as the PPP program -- for all intents and purposes, is kind of winding down. So there's less of that in the numbers and rightfully so. So that's a smaller portion of it, this quarter, relative to last quarter.

I think the variation is mostly related to prepayment fees that we see coming through, given the elevated levels of prepayment activity.

So while I didn't, to your point, create much variance between the loan yield between quarters, there is a small component that's always associated, maybe, with prepayment fees, based on that activity.

So as you look at the numbers for the fourth quarter, the majority of the 11 basis points is the prepayment fees and less to do with PPP amortization or accelerated accretion. And then I would say, the same is true for last quarter. So less prepayment fees and a little bit more PPP acceleration. So those are the pieces.

I think my general comment is, there is always some piece of either now that we have an acquired-portfolio discount accretion, as we bring that through and prepayments and maybe a little bit of PPP. So that's a couple of million dollars every quarter, which is what that 12 basis points represents.

Next question comes from Tim Coffey of Janney.

I got on the call a little late, so I apologize, if you already covered this. But if you look at, kind of, your legacy deposits, it looks like there was some churn in the quarter, perhaps a bit of a decline. I wonder, is that seasonal or targeted?

I think, it was -- Lynn, is that the -- you want to discuss what you moved out?

Sure, yes. Tim, I would say, it was by design. We recognized, as we were working together towards the Pacific Mercantile close date, the high levels of cash, and we started to look at what opportunities we had within our own deposit mix, and we were able to identify -- I'm going to say, it gave us the flexibility to go ahead and exit.

Some of that were maybe less relationship, a little bit higher costs, typically available in the market, if you want to go bring those in. So I would say, less seasonal and more strategic reduction.

Okay. And in relation to kind of the excess liquidity you brought on balance sheet from the transaction, do you feel comfortable or confident with the deposits you have right now, to invest that excess liquidity, or you still have more to do working on the mix of deposits?

I can start -- the -- based on our liquidity profile at the end of the year and the deployment of the cash, I think we feel very comfortable being able to invest our liquidity. I think the -- we talked about how much excess liquidity is in the marketplace. I think, we view our funding base is stable. We've had real growth. I think it's well understood.

Appreciate that some liquidity may be put to work, but we're also growing our deposit base. We think, the mix is reflective of where we're headed in the future, even if some liquidity comes out. So I think, we're comfortable in investing our liquidity, at this point.

Okay. And then, Jared, just a follow-up on the hiring questions. Are any of the -- are you opposed to hiring outside your geographical footprint, at this time?

No. We -- so we have a couple of hires up in the Bay Area that Amit ran that market for Wells. And so was a couple of people he had good relationships with her that he knew, either that worked for him or that he knew well, ended up coming to work for us.

So we have a team up there that's doing a superb job. And we don't have any branches up there. And then in terms of more broadly, we are open to hiring people, based on their skill set and what we think would be a good fit with our company. It matters the job, not every position in this company is ripe for, kind of, a remote hire. But we're absolutely open to it for the right people.

Is opening branches in the Bay Area in the cards?

I think, it's possible. We want to look at what sort of, what I would call, footings, which is loans and deposits, that we have in the market. We have deposits from all the clients that we lend to. So the folks that are up there, have their deposits and branches that are down here.

We will look at what the scale was and make sure that it was appropriate. I wouldn't build something, hoping that people would come to it. I would build it, if I knew I had enough base to have a profitable branch from day one.

The next question comes from Matthew Clark of Piper Sandler.

Do you happen to know how much in the way of cost saves you've realized to date with PMBC, after the conversion in November, maybe on an annualized basis, in dollars? And what might be left?

It's at the top of my head, I don't know that I have that number, but I could probably answer it a different way. I think that given that we effectively operated both organizations through -- from the October 18 close date through the middle of November and then needed to rely on the teams to finish up with the integration.

There's probably, I'm going to say, 0.5 million to 1 million that may be included, as we kind of worked through that last portion of the year. I don't know, if that's helpful.

It is. It is. Okay. And then, Jared, maybe strategically thinking about your, kind of, financial goals that you're striving for, maybe in another year or so. What's your sense for what you're trying to achieve on an ROA and maybe return on tangible perspective, even though ...

Yes. I mean without putting -- without putting, kind of, lines in the sand about when and where. We said that we were going to get to a 1, then we're going to get to 110, then we're going to get to 125, and then we're going to get to 140 ROA. Lynn and I were just going over some numbers yesterday, about where we think we're going to be on a standalone basis, after Pac Merc, it definitely accelerated us a year.

I mean I think that -- we think that we're going to move past that first that -- certainly, we're past the 1. So then, are we -- are we between a 110 and 125 for this year, on a full year basis? I think, that's probably reasonable. And how do we get there? And what are the levers that we pull, and we try to think about it in an interest-rate-neutral environment. And then if interest rates help us, that's even better.

Got it. Okay. And then ...

We're obviously not happy with that. And look, it's tremendous from where we were, but we have high aspirations for where we're going. And I think, we've shown that we have quite a bit of urgency about it. And so on the return on tangible common, it's obviously a super important number. It might even be more important than ROA, at some point.

And so I think, the question is, do we have too much stock outstanding and is that holding us back? And so all those things play in, but we want to be -- we don't want to be in the low double digits. We want to be in mid to upper.

Okay. Great. And then, I'm not sure, if you discussed this in your prepared remarks, but just switching gears to the loan pipeline, where does that stand at year-end?

How does it compare to the prior quarter? And whether or not you still feel good about, kind of, mid- to high single-digit organic loan growth, going forward this year?

So you might not have heard my comments earlier. I -- our pipeline is as strong as it's been. And so I feel very, very good about it. I don't know what the payoff situation is going to be. But let's assume that, that kind of normalizes, there's -- I don't see any reason why we shouldn't be in the mid to upper single digits, but we would aspire to be higher than that.

As I mentioned, I think, sometimes, when rates rise, the market takes a pause because there's a delta between the bid and the ask for the buyers and sellers, for whatever services they're looking for or whatever properties or products, and that definitely happens. I've seen it every time. And so I think, that might disrupt, kind of, the pace of lending activity, but it might not. The economy is very strong. It's holding up really, really well.

I mean nobody seems to recognize that like war is about to break out on the tip of Ukraine and hopefully, it doesn't. But -- and hopefully, that doesn't happen, and it doesn't revert back to our economy.

But everything locally seems very, very strong. And notwithstanding the variant, which kind of slowed things down at the beginning of the year and the end of last year. With Omicron, everybody seems to be pushing through now, and things seem pretty robust.

So in terms of the level of pipeline, it's high. And our teams have a high degree of confidence, and I do as well. What the net loan growth number ends up being, I don't know, but we would like to -- we're going to aspire for it to be in the upper single digits, and hopefully, it will get into the double digits.

And as I mentioned earlier, if that doesn't happen for some reason, we have a whole bunch of ways to pivot to get our earnings to where we need them to be. And -- but we believe that this year, for us, is a -- our topline growth is going to be pretty strong.

Okay. Great. And then just last one for me, on the media, entertainment hirer. Can you give us a sense for how large his book of business was and whether or not there's an opportunity to cherry-pick some of that? Or is he going to be starting ...

We hire people based on their experience and their industry relationships. And so it was less about a book and more about helping us design our strategy, going forward, and then rolling out that strategy. And I don't see -- if we have $100 million booked today, I don't see any reason why over the next 2 to 3 years, we couldn't double or triple that portfolio.

I see no reason why we couldn't do that, if not more than that. We have -- I think, this is going to be an important sector for us, and we want to continue to capitalize on the market position that we have.

Thank you. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time, and we thank you for your participation.