Comerica Inc (CMA) 2016 Q2 法說會逐字稿

Good morning, my name is Regina and I will be your conference operator today.

At this time I would like to welcome everyone to the Comerica second-quarter 2016 earnings conference call.

(Operator Instructions).

I would now like to turn the conference over to Darlene Persons, Director of Investor Relations.

Ma'am, you may begin.

Thank you, Regina.

Good morning and welcome to Comerica's second-quarter 2016 earnings conference call.

Participating on this call will be our Chairman Ralph Babb, President Curt Farmer, Chief Financial Officer Dave Duprey, and Chief Credit Officer Pete Guilfoile.

Ralph will provide an overview of recently launched revenue and efficiency initiatives as well as a summary overview of the quarter.

Dave will then go through the quarter in more detail.

Finally Ralph will provide an outlook for full-year 2016 and then we will open up the call for questions.

Through this presentation we will be referring to slides which provide additional detail.

The presentation slides as well as our press release are available on the SEC's website as well as in the Investor Relations section of our website, comerica.com.

Before we get started I would like to remind you that this conference call contains forward-looking statements, and in that regard you should be mindful of the risks and uncertainties that can cause actual results to vary materially from expectations.

Forward-looking statements speak only as of the date of this presentation and we undertake no obligation to update any forward-looking statements.

I refer you to the Safe Harbor statement contained in the release issued today as well as slide 2 of this presentation which I incorporate into this call, as well as our filings with the SEC for factors that can cause actual results to differ.

Also this conference call will reference non-GAAP measures and in that regard I would direct you to the reconciliation of these measures within this presentation.

Now I will turn the call over to Ralph who will begin on slide 3.

Good morning and thank you for joining us.

To strengthen our competitive position and ensure that we remain a strong partner and trusted advisor to our customers for the ultimate benefit of our shareholders, we are fundamentally changing the way we operate in many areas of our business.

Today we are announcing actions we are undertaking through our transformational enterprise-wide initiative that we refer to as GEAR Up.

To date we have already identified efficiency and revenue opportunities that are expected to drive at least $230 million in additional pretax income.

Moreover, we are pursuing additional opportunities that will further enhance our profitability.

This slide highlights some of the key components of the initiative so far.

Through our comprehensive review and analysis over the past several months, we have identified more than 20 work streams focused on enhancing revenue and reducing expenses.

We are moving expeditiously and have already begun the implementation process.

We will measure our progress through tangible financial targets.

We expect to increase profitability with the end result being a meaningful improvement in our efficiency ratio and return on equity.

I will provide further details in a moment.

We currently estimate that through 2018 total pretax restructuring charges of $140 million to $160 million will be incurred.

In the second quarter of 2016 we recorded about one-third of these charges totaling $53 million primarily related to severance.

A significant portion of restructuring charges over the next two quarters is expected to be related to real estate consolidation.

Our review demonstrated that our strategy of being a relationship based commercial bank with a unique geographic footprint, strong industry expertise and superior risk culture positions Comerica for short- and long-term success.

Specifically our footprint is well situated as it provides diversity and significant growth opportunities with interdependencies that make each market valuable to our entire portfolio.

Finally, I, along with our executive team, own this initiative and we are committed to providing quarterly updates on our progress.

We will hold ourselves accountable to achieving our goal of improved profitability.

And as you know, our compensation is well aligned with our shareholders as it is tied to the Bank's financial results and the stock's performance.

Comerica, along with the industry, has been managing through a difficult environment with prolonged low interest rates, slow economic growth as well as rising technology and regulatory costs.

Over the last several years we have been diligently working to reduce cost by judiciously renegotiating vendor contracts, reducing our real estate exposure and rationalizing operations.

While these efforts were effective and meaningful in their own right we recognize that we need to do more to meet the mounting challenges, which is why we launched this transformation initiative.

As I have indicated previously, our Board and management team are committed to evaluating all opportunities to enhance shareholder value and doing what is in the best long-term interest of our shareholders.

If there are strategic alternatives that are realistic, achievable and will maximize shareholder value they will be fully considered.

We know we must earn our right to remain independent.

That said, we are doing what is within our control to proactively position ourselves as a stronger, more competitive and profitable organization.

Turning to slide 4 and a closer look at the financial targets.

Our initial analysis is identified that we can drive approximately $140 million in additional annual pretax income by the end of 2017 and $230 million in the run rate by the end of 2018.

Approximately 30% or $70 million is associated with revenue enhancements.

The expense savings of $160 million represents nearly 9% of fiscal year 2015 expenses.

Looking at our efficiency ratio, you may recall that our 2015 efficiency ratio of 67% was impacted by a change in accounting presentation for a card program that added over 2 percentage points but had no impact to our bottom line.

Without any increase in rates we believe the actions we are taking will drive our efficiency ratio to the low 60s by the end of 2017 and at or below 60% by year end 2018.

By adding an expected 200 basis points to our ROE, these revenue and expense actions take us a long way towards achieving a double-digit return on equity.

While we are focused on implementing these actions, management continues to identify further opportunities which will assist us in reaching a double-digit return on equity.

On a pro forma basis the initial actions are expected to drive our ROE well above the 2015 peer average.

I firmly believe that as we deliver on this plan we will increase shareholder value and achieve the level of returns that our shareholders deserve.

Turning to slide 5, we have we have outlined some of the key actions identified to date that we are undertaking.

Of note, this does not include business growth in the normal course and we expect the initiative to drive further run rate benefits beyond 2018.

Our planned revenue enhancements, which equal approximately $30 million through 2017 and $70 million by year end 2018, include increasing the customer penetration of our products and services and accelerating growth in Middle Market Banking.

To this end, on customer penetration we are expanding product offerings, enhancing sales tools and training as well as realigning employee incentives.

In addition, we recently began using improved customer analytics to identify opportunities which should increase cross sold products per customer relationship.

We also have simplified leadership in both Wealth Management and Treasury Management to support speed, simplicity and agility in taking action as well as bring renewed vigor and focus to both areas.

On the next slide I will discuss the Treasury Management initiatives in more detail.

As you know, Middle Market Banking is our largest business line but it has been slow-growing in this economic cycle.

In order to help drive growth in this segment we have formed a team to create a national standardized process for sales, training and performance management.

We expect this will leverage best practices across our geographies.

Of course our well-regarded approach to local relationship management will not change.

Turning to the expense reductions, we currently expect $110 million in annual run rate cost savings by year end 2017 and $160 million in total by year end 2018.

Over the next year we plan to reduce our total workforce by approximately 9%.

We are eliminating management layers in order to get closer to our customers and accelerate decision-making.

This includes consolidating functions and responsibilities while taking care to ensure we maintain our high standards for customer service and deep expertise and experience.

While many of these actions are difficult, particularly for our employees, we must be proactive to overcome the challenges of the continuing low rate environment.

This is not an easy process and we are being thoughtful and deliberate in our approach.

In addition, we will increase capacity by obtaining better productivity in core operations through automation.

Streamlining our credit process is a great example.

Through further centralization and digitalization of our credit process from application to approval to documentation, we will enhance data collection and analysis, shorten the duration of the process allowing for us -- for an improved customer experience.

That said, as we execute this process we will not compromise our strong credit culture.

We will enhance our technology capabilities while reducing our overall spend by optimizing our infrastructure and substantially reducing the number of IT applications across the Bank.

In doing so we will continue to make technology advances such as enhancing our fraud protection capabilities, expanding online and mobile capabilities for customers, elevating the quality of that data and information management and further modernizing our suite of customer focused technology.

Regarding our footprint with the advancement of technology and broader application of alternative work arrangements we need less real estate to operate our business.

Therefore we expect to reduce office and operation space as well as consolidate approximately 40 banking centers or about 8% of our total network over the next year or so.

These actions are in line with industry trends as an increasing number of customers prefer to utilize alternative delivery channels such as mobile banking.

Turning to slide 6 and additional detail on our opportunities and Treasury Management, which is a meaningful contributor to our revenue initiative.

While our Treasury Management product offering is robust and part of our high-caliber commercial banking franchise, we believe we can increase revenue through three opportunities.

First, within our existing customer base we intend to increase our share of wallet.

Naturally this has always been a goal for us, but through a focus on selling new products at higher margins and a new data driven assessment tool, we are aiming to make significant progress in identifying new opportunities.

We have already had success with a pilot program using this analytical tool in our California market and we begin rolling it out to all of our markets in June.

Secondly, we are realigning sales channels to increase efficiency and productivity.

This includes further utilizing mobile applications to deliver and document services even faster than we do today.

In addition, recalibrating our customer service coverage we are ensuring our most viable clients receive dedicated resources.

Finally, another major contributor is expected to be our merchant services offering.

Through our recent partnership with an industry leader we have expanded our product suite and have increased our client penetration by 5%.

This has resulted in tremendous growth with revenue more than doubling since second quarter of 2015.

We are gaining momentum and the prospects are vast with more than 20,000 of our clients currently processing with other vendors.

In summary, we are implementing meaningful changes that we expect will allow us to operate more efficiently and lower expenses as well as increase revenue.

And while rising rates can be a significant benefit to us, we are neither waiting nor relying on that to drive improved returns.

We believe this initiative will drive enhanced value for our shareholders through increased profitability.

Now turning to our second-quarter results on slide 7. Our overall results were solid and reflect the underlying resilience of our business model.

Second-quarter 2016 net income of $104 million or $0.58 per share included after-tax restructuring charges of $34 million or $0.19 per share.

Slide 8 provides further detail on our results.

Average loans increased $1.1 billion or 2% to $49.5 billion.

We saw growth in Commercial Real Estate, Mortgage Banker Finance and National Dealer Services partially offset by the expected decrease in Energy.

The increase in Commercial Real Estate is driven by well structured attractive opportunities with existing customers.

This includes a mix of drawdowns on construction commitments and term loans on stabilized properties.

Our average total deposits declined slightly to $56.5 billion, non-interest-bearing deposits grew over 1% but were offset by a decline in interest-bearing deposits as we continue to maintain our pricing discipline.

Net interest income declined $2 million to $445 million; the benefit from loan growth was offset by non-accrual loan activity and an adjustment to the residual value of a lease.

We had slightly higher funding costs due to an increase in wholesale debt to opportunistically pre-fund an upcoming debt maturity and support loan growth.

Overall credit quality was solid and reflects declines in criticized and non-accrual loans as well as net charge-offs.

This was a result of the improved credit performance of our energy portfolio.

Energy loans have declined $356 million or 11% and commitments have declined over $600 million or nearly 11% since the end of the first quarter as our customers continue to take the necessary actions to reduce their bank debt.

We have completed 88% of the spring redeterminations of our E&P customers and borrowing bases have come down about 22% on average.

Criticized energy loans have declined $281 million as of the end of second quarter.

Energy charge-offs remain manageable and declined from the first quarter.

While the performance of this portfolio has improved and oil and gas prices have increased since the first quarter, we remain cautious and believe we are adequately reserved with our reserve allocation at over 8% of energy loans as of June 30.

Noninterest income increased $23 million with growth in nearly all customer driven categories.

The largest increases were in card fees, fiduciary income, customer derivative income and commercial lending fees.

In addition, results benefited from a $10 million swing in deferred comp which is offset in expenses.

We continue to tightly manage expenses.

Noninterest expenses include the $53 million restructuring charge that I just discussed.

Excluding this expenses increased $6 million.

Our capital position remains solid.

As far as our second-quarter results compared to the same period a year ago, revenue is up over 5%.

This reflects the benefit from the increase in short-term rates as well as growth in fee income as we continue to drive for deeper customer relationships.

Expenses were impacted by the $53 million in restructuring charges we incurred this year as well as the net release of litigation reserves of $30 million in the second quarter of 2015.

Putting these two items aside you can see that expenses have been very well managed.

And now I will turn the call over to Dave who will go over the quarter in more detail.

Thanks, Ralph.

Good morning, everyone.

Turning to slide 9. As Ralph mentioned, second-quarter average loans increased $1.1 billion compared to the first quarter, including a $356 million decline in Energy loans.

We continue to see solid growth in our Commercial Real Estate business with construction draws and term loans primarily with existing customers.

The projects, predominantly multi-family in primary markets within California and Texas with proven developers, have favorable credit profiles that include significant equity content as we continue to be cautious and selective.

Also, auto inventories are seasonally high resulting in increased line utilization in our national dealer business.

Finally, summer home sales combined with the decline in mortgage rates made June a record month in our 50-year history in the Mortgage Banking business.

Likewise, quarter [end] loans were up $1 billion over the first quarter with all the same drivers.

As of June 30 increased commitments in Mortgage Banker, Commercial Real Estate and National Dealer were offset by the large decline in Energy.

Line utilization increased 1.5 percentage points to 53% mostly driven by the seasonal increases in Mortgage Banker and National Dealer, and our strong pipeline increased further.

Although interest earned on loans was unchanged quarter over quarter, our second-quarter loan yield decreased 7 basis points.

The benefit from loan growth was offset by a decline in interest recoveries on nonaccrual loans, a full quarter impact from the increase in nonaccrual loans in the first quarter and a lease residual valuation adjustment.

Turning to slide 10.

Average deposits were basically stable quarter over quarter.

We had typical seasonal growth in both interest-bearing and non-interest-bearing retail banking deposits.

This was offset by a decline in commercial deposits primarily due to seasonal weakness in municipalities and our relationship banking strategy, and purposeful pricing in large corporate.

Our deposit costs remained stable at 14 basis points as we continue to prudently manage pricing.

We are closely monitoring our deposit base as well as the market and we believe we are well-positioned with predominantly operational relationship oriented deposits.

Turning to slide 11.

We maintained our securities book at about $12.5 billion.

The estimated duration of our portfolio sits at about 3 years.

And the expected duration under a 200 basis point rate shock extends it modestly 3.9 years.

In the current environment we expect to see pre-pays increased moderately from $490 million in the second quarter to this $550 million to $650 million range in the third quarter.

The minor pressure we saw in our security portfolio yield may increase slightly due to reinvestment of larger monthly pre-pays at a lower rate.

To help combat this we are selectively purchasing securities with modestly longer duration.

For example, a couple weeks ago we were able to place a $100 million Ginnie Mae purchase at 1.68%, which had a duration of a about 18 months longer than the current portfolio average, but had similar extension risk.

As of quarter end our estimated LCR ratio continues to meet the fully phased in 2017 requirement plus a buffer.

Turning to slide 12, net interest income declined $2 million while the net interest margin decreased 7 basis points.

As I discussed earlier, all loan-related impacts netted to zero but had a 4 basis point negative effect on the margin.

The benefit from loan growth was offset by the previously mentioned nonaccrual activity, a lease residual valuation adjustment as well as slightly lower accretion.

Wholesale funding costs increased $3 million as we added $2.8 billion in FHLB loans at very attractive terms to pre-fund a $650 million November debt maturity as well support loan growth.

This was partly offset by income earned on higher balances at the Fed.

Turning to slide 13.

Our overall credit picture remains strong and performance of our energy portfolio improved in the second quarter.

Our allowance for credit losses increased $2 million to $772 million and our allowance to loan ratio was 1.45%.

Total criticized loans declined $377 million to $3.6 billion or only 7% of total loans at quarter end.

Nonaccrual loans decreased $76 million and net charge-offs declined to 38 basis points or $47 million.

Energy accounted for over two-thirds of the net charge-offs and total net charge-offs for all other business lines combined was only 13 basis points.

As far as our Energy portfolio, outstandings declined 11% to $2.7 billion at quarter end and now comprises 5.4% of our total loans.

E&P loans make up 70% of our energy portfolio and, as Ralph mentioned, the spring redetermination process is nearly complete.

So far borrowing bases have come down about 22% on average and the number of deficiencies has been relatively stable since last quarter.

Energy services has been significantly impacted this cycle yet loan outstandings declined 15% to $363 million and now comprise less than 1% of our total loan portfolio.

Total criticized energy loans decreased $281 million due to the decline in outstanding and a small number of risk rating upgrades as our customers have reduced expenses, sold assets and tapped the capital markets.

Also noteworthy is that 100% of these non-accrual loans are fully current on interest payments including the nine loans we have in bankruptcy.

The reserve for Energy loans is over 8% and remember those reserves may not turn into ultimate losses.

Further detail on our Energy portfolio can be found in the appendix.

Slide 14 outlines noninterest income.

We have broad based growth with total customer driven fees increasing 5% over the first quarter.

Our cross sell efforts have helped drive increases in card fees and fiduciary income.

Customer derivative incomes saw robust activity in conjunction with the Brexit vote and commercial lending fees grew with a pickup in syndication activity following a first-quarter lull.

Foreign-exchange and brokerage fees were also up.

In addition, we had a $10 million increase in deferred compensation, which is included in other non-interest income and is offset in noninterest expense.

Turning to slide 15.

Aside from the $53 million restructuring charge Ralph discussed, noninterest expenses increased $6 million.

This included the $10 million increase in deferred compensation which was partly offset by an $8 million gain on the sale of leased assets.

The remaining increase was due to higher outside processing and advertising expense, which is connected to our revenue growth, along with higher FDIC insurance premiums.

Salaries and benefits was down $1 million.

The increase in deferred compensation as well as annual merit, seasonal 401(k) contributions, as well as slightly higher incentive comp, which is related to revenue growth, were offset by decreases in share based comp and payroll taxes following seasonally high expense in the first quarter.

Moving to slide 16 and Capital Management.

We continue to return excess capital to our shareholders in a meaningful way.

We completed our 2015 capital plan, which included equity repurchases of $290 million under our equity repurchase program over the five quarters.

In the second quarter we repurchased 1.5 million shares and increased the dividend 5% to $0.22 per share.

Our 2016 capital plan includes share repurchases up to $440 million.

The pace of our buyback will be dependent on balance sheet movements and our financial performance which can be impacted by market factors, particularly interest rates.

The plan also includes a further increase in our quarterly dividend to $0.23 per share, which will be considered by the Board at the end of this month.

Our tangible book value per share increased to $40.52 and has been steadily increasing over the past several years as we continue to focus on creating long-term shareholder value.

Turning to slide 17.

While the outlook for a rate increase continues to fluctuate daily, I will remind you that our balance sheet is well positioned to benefit from an increase in rates.

The benefits of full-year 2016 net interest income from the rate rise that occurred in December is expected to be about $90 million, assuming deposit pricing continues to remain stable.

The table on this slide gives some estimated additional upside to net interest income over the annual period following a rate rise.

For example, if the Federal Reserve raises its rates 25 basis points and our deposit prices begin to move with that rate rise at a 25% beta we believe we would gain about $70 million more in annualized net interest income.

Of course deposit pricing is only one assumption in our interest rate sensitivity modeling.

Other key variables include loan deposit behavior and a rising rate environment.

Our standard modeling and the list of assumptions we use are included in the appendix.

Now I will turn the call back to Ralph.

Thank you, Dave.

Turning to slide 18 and our outlook for the full year 2016 relative to 2015, we have not changed our outlook for loans.

We expect our average loan growth to be in line with US GDP growth, we expect to see the typical third-quarter seasonal declines in Dealer, Mortgage Banker and general Middle Market to be followed by a rebound in the fourth quarter.

In addition, we anticipate the decline in Energy outstandings to continue, but perhaps at a more moderate pace than we saw in the second quarter.

Our expectations for net interest income also have not changed.

And as far as credit, we expect continued solid credit quality with metrics, absent Energy, to remain better than historical norms.

With the significant reserve build we established in the first quarter, if the Energy outlook remains stable we would expect the provision for the rest of the year to reflect net charge-offs between 35 and 45 basis points.

This is a modest reduction from the outlook we provided last quarter as a result of better than anticipated performance of our Energy portfolio including the spring redeterminations and decline in loan balances.

Movements in the energy reserve from here will depend on many factors, the biggest being oil and gas prices, as well as energy customers' continuing ability to cut costs, raise equity, sell assets and reduce debt.

Our expectations for non-interest income have not changed.

Of note, as I mentioned earlier, we have begun to implement initiatives to drive more fee income and we expect we will start to see results early next year.

We have also updated our noninterest expense outlook, which now includes total restructuring expenses of approximately $90 million to $110 million for the year.

Partially offsetting this will be savings derived from Europe of about $20 million to be achieved primarily in the fourth quarter.

Expenses in the second half of the year relative to the first half are impacted by two more days, the full impact of merit increases and an expected increase in the FDIC expense as a result of the surcharge.

Finally, outside processing expenses are expected to continue to grow with increased card revenue.

Our tax rate for full-year 2016 is now about 30%, which is a reduction from our prior guidance as a result of the impact from the restructuring charges.

In closing, Comerica is dedicated to providing high-quality financial services and building lasting client relationships.

We operate Comerica for the ultimate benefit of our shareholders and all of our actions are directed to maximize value while not compromising our commitment to our clients, the communities we serve, regulatory standing and strong risk management.

As I previously stated, through GEAR Up I am confident that we can enhance shareholder returns through improved financial performance.

And now we would be happy to take your questions.

(Operator Instructions).

Ken Usdin, Jefferies.

Just on the cost program, I just wanted to make sure we understand when you are talking about getting to some of these targets by the end of 2017/end of 2018, that is a fourth-quarter run rate type of comment as opposed to full year?

Just making sure everyone understands that the right way.

Yes, it is.

Okay, so the way to think of it is kind of a gradual build in?

Or will there be kind of lumpiness that you expect or these things kind of come in ratably over time?

It will be gradual over time.

Okay.

And Ralph, my follow-up is just -- there has been a lot of change in the management team over the last couple of quarters or so.

And I just wonder if you could just talk to culture in the executive suites, what this program means to that underneath and how that also just builds into your bigger picture strategic thinking.

The executive suite is, as I mentioned earlier, fully involved in this project and fully supportive in moving it along.

And we are very consistent in doing it along with the culture we have, which will not change, especially that relationship orientation to our customer base.

Okay, thanks, Ralph.

Bob Ramsey, FBR.

So, with the improvement in the net charge-off outlook in the back half of the year, is it really just Energy that has driven that reduction or are there other factors in there as well?

Well, it's continued strong performance of the whole portfolio and Energy has been what I would call a highlight here in that it has gotten better quicker than we expected.

Pricing is part of that that has gone up.

Pete, do you want to add anything to that?

Yes, Bob.

Obviously Energy is the big story this quarter with the big reduction that we had in the portfolio and a reduction in the criticize there.

But the rest of the portfolio is really performing well.

We only had 13 basis points of charge-offs ex Energy and our criticized ex Energy is down to about 4.2%.

So, if you look at those numbers, those are extraordinary strong numbers for this late in the cycle.

So the rest of the portfolio is performing very well.

Great.

Do you have handy the amount of provision related just to the Energy book in the first half of the year?

You may have given it but I don't have the number handy.

I'm sorry, Bob, say again?

Energy provision for the first half of year.

Yes.

The energy provision for the first half of the year?

Right.

You don't have that with you?

No.

Okay.

Okay, all right, not a worry.

Thank you very much, I appreciate the time.

Steven Alexopoulos, JPMorgan.

Ralph, I wanted to start looking at the timing of the $160 million of cost saves.

Can you give color on why it will take until 4Q 2018 to deliver on those, which is essentially about a year and a half?

It is part of the process and we always will be looking for appropriate opportunities to speed up.

But the key was to look at it from the standpoint that a reasonable, attainable time period is there.

In addition, I would underline that we are looking for other opportunities as well; the process hasn't stopped here.

And we are moving forward with that also.

Dave, do you want to add anything to that?

The only thing I would add, Steve, is that on the real estate that Ralph mentioned, clearly the banking centers, we have an excellent line of sight on that.

The operational and corporate real estate is under study.

Keep in mind this whole program is only 120 days since its launch.

While we have built in estimates, we have targeted certain facilities.

The amount of time it will take to plan and exit or downsize those facilities requires that additional runway as well as some of our information technology.

The applications consolidation process is extremely complex.

We are working through that and it will take time and we are going to do it correctly.

That is helpful.

Is reducing the level of asset sensitivity part of this plan?

Dave?

It is not.

I will make clear that we look at that on a weekly basis but it is not part of this GEAR Up strategy.

And we have not substantially changed it.

We have not.

Right.

Okay.

And just finally, Ralph, as you did this review, is it possible for this Company to get to a double digit ROE over time without help from rates?

Thanks.

We think we are going to get -- as we said earlier, this puts us close to double-digit.

And as I mentioned, we are still going down the road on the process and looking for other opportunities to help us go forward to our goal.

Okay.

Thanks for all the color.

Scott Siefers, Sandler O'Neil.

Ralph, I was hoping you could just perhaps expand a bit on your thoughts on what makes such a substantial reduction in costs appropriate for you guys?

And I guess the context in which I asked that is, one, I have never really perceived Comerica as having a cost program per se.

It has been more revenues have been depressed due to the low rate environment.

And then second other guys who have announced cost programs have really had a hard time seeing the gross amount fall to the bottom line without the need to reinvest a substantial portion of the savings into things like mobile offering, digital, etc.

So, as you guys went through the program, what in your mind made such a large cost reduction kind of the appropriate way to go?

As we go through the program and, as you mentioned, it has been a long time since we went through a comprehensive program like this, we didn't do it back in the mid-90s.

And a lot of our team had experience from that experience and understanding that over time things get built in that you need to stop and re-look at and challenge.

And that is one of the reasons that we did it.

And we had a partner helping us with laying things out as to what others were doing and we compared with that, but all decisions were made by our management team because the very important thing to us is our culture and our relationship approach to our customers in all the markets that we serve.

And the things that we found are things that over time tend to creep in and we are going at those with full support, as I mentioned earlier, of the management team and our people down in the various business lines.

Okay, that is perfect.

Thank you.

And maybe as a quick follow up, as you think about sort of the normal course of business, just given that there will presumably be a lot of disruption with the headcount reduction, for example.

Can you speak to sort of thoughts on what controls will be in place just to make sure there is not too much disruption in the normal course of business while you undergo the plan?

One of the most important things that we do and have already started to do is communicate very openly down through our organization and these changes are not taken lightly.

We have deeply committed to helping our employees through this transition and we will do so with the utmost dignity and respect.

And that communication and approaching it as a total team is what I believe will really bring the success of the total approach.

Okay, perfect.

Thank you very much for the color.

David Eads, UBS.

Maybe just following up on the last one.

Just to be clear, are you assuming any kind of headwinds to loan growth or other revenue items associated with implementing the cost plan?

We will do our forecast and budgets as was mentioned earlier as we always do.

This will be incremental to that approach.

And so, we will evaluate the plan as we do from a standpoint and, as Dave and I were talking earlier, as to where the economy is and what are appropriate expectations to drive that growth on top of the growth from the GEAR Up strategy.

Dave, do you want to (multiple speakers)?

Go ahead.

I was going to say, Dave, do you want to add anything?

As we looked out over the next two years we really looked at using very conservative assumptions.

We have the loan growth remaining very similar to this year in line with [GDP; we assume that GDP] (corrected by company after the call) would remain at 2% as an example.

We built in continued albeit declining NIM pressure from loans.

We know we are going to continue to have your pressure coming from that securities portfolio, as I mentioned earlier.

And quite frankly we know we have ongoing headwinds with expenses.

Ralph already mentioned the FDIC surcharge as an example, ongoing merit, the challenges of the technology implementation and building in the costs associated with that.

So, we have attempted to take a very realistic, very conservative approach in this walk in terms of our normal income over the next 2.5 year period.

And can you give us any color -- I mean, so is that basically a modest amount of core earnings growth and then layering in the $230 million of pretax improvements on top of that?

That is an appropriate way to look at it, yes.

Okay, that is very helpful.

And then can you give any color regarding CCAR and basically the threshold for the use of the approved buy back and kind of what kind of rate environment we needed to use the entire amount?

Or what kind of a good baseline assumption if we kind of see no more rate hike -- is there any way you can kind of frame the sensitivities of what we are likely to see there?

Dave?

It is very difficult to give you any kind of an accurate statement on that sitting here today.

Clearly, as we said, that the $440 million is going to be looking at financial performance.

I would submit to you that if we can continue to see the continuing stable if not yet improving prices in oil, that certainly takes a lot of pressure off the provision going forward over the course of the next four quarters.

That could in essence help offset the headwind if there is a complete lack of rise in interest rates.

So quite frankly, my view is we are going to continue to do this as expeditiously as possible, recognizing all the constituencies that are in play here, whether it is the shareholders or our regulators.

We need to make sure we are balanced in our approach.

All right, thanks.

John Pancari, Evercore.

I wanted to see if you could talk a little bit about the -- you indicated that you are reviewing further opportunities to improve returns further out, 2017 and after.

What is left to do beyond that in terms of -- does it include levering up the balance sheet ultimately?

Is that something you are considering that you are alluding to here?

Or exiting certain markets or what is left that will drive an incremental upside opportunity for you beyond what you have already announced?

Thanks.

We are not looking at leaving markets that we are in or changing the basic model that we use every day.

Dave, you want to talk about some of the --?

Yes, as I mentioned on the corporate real estate, our office space, we have built in very little in terms of savings assumptions.

We have built in the cost to exit.

But quite frankly we still do not yet have complete clarity on the reinvestment it is going to take to reposition office space to be much more I think in line with today's open office space environment.

We are still studying that.

We have also been extremely conservative on our assumptions in terms of the benefit, the savings from our information technology investment.

We are looking at that benefit to help drive the efficiency and credit, help drive efficiency in other operational areas, as Ralph spoke to, the whole digitalization efforts.

But what we haven't built in is any real significant amount of savings.

We do think they are there; we need more time to study.

I think we will have a clearer line of sight on a number of those as we get to the end of the third quarter and report out with Q3.

Okay, so based on that, none of this really incorporates any plan to lever up the balance sheet in anyway?

That is correct.

No.

Okay, all right.

And then lastly, Ralph, I know you mentioned early on in the call that you would weigh everything when it comes to looking at strategic alternatives.

And you indicated that if it is -- I believe you indicated meaningful and realistic importantly -- how do you define that?

How do you define what is realistic?

And in what situation, what economic and financial situation would you think that it would make sense to pursue a sale of the Bank?

Thanks.

What you have to look at is the long-term return to the shareholder.

And we evaluate that looking at current markets and what is happening, what is going on.

And that is a discussion topic that is looked at often including with the Board and that appropriate discussions are taking place.

We have a focus on doing the right thing for our shareholders.

Okay, thank you.

Jennifer Demba, SunTrust.

Could you talk about the economic dynamics you are seeing in Texas outside your Energy portfolio right now?

I guess your loans were flattish this quarter from the prior quarter and specifically what you are seeing in the Houston market versus Dallas?

Curt, do want to take that?

Yes, I would say that overall from a Texas perspective, as we said in some prior calls, it really is a scenario where you sort of draw a line down the middle of the state.

There are really two economic factors at play or two economies at play.

The Northern Texas market continues to be more diverse, more robust from a growth perspective with still net new jobs being added, much more diverse economy overall, less energy dependency.

And we are seeing still good opportunities really across all of our lines of business, Middle Market, Small Business, Commercial Real Estate, etc.

When you look at the Houston market, certainly more impact from Energy overall and Energy-related exposure.

We continue to be a little bit more cautious there in terms of new originations, but really have not seen a lot of deterioration outside of Energy in that portfolio.

We continue to watch CRE but have not seen a lot of deterioration there either.

And so, in balance the Texas economy much more diverse than it was during the last energy cycle, about 15% of the economy overall is energy dependent right now.

And I would say that we continue to see opportunities in Northern Texas, a little bit less so in Southern Texas.

You might comment on our economist and his view is slightly negative at the moment for this year, but he sees a rebound next year not completely back to the US number.

But just to underline what Curt said too, and Pete, you may want to chime in here.

We have seen good resiliency in real estate and all of the various areas where we lend and have business in Houston.

Yes, as Curt mentioned, we have seen just a little bit of migration in the Commercial Real Estate portfolio but nothing significant; rents are down about between 10% and 15%.

We have stressed that portfolio up to 40% decline in rents average, stress has been about 27% and we don't see any losses there.

And then the rest of the book outside of Commercial Real Estate, Middle Markets, Small Business holding up exceptionally well.

Zero charge-offs in Houston this quarter.

So, credit quality remains very strong.

The other thing I would point out on the economist side is when you look at where GDP is with -- and expected to be in California and Michigan, both are expected to exceed the US projection.

So, it is good from the footprint and how we have to counterbalance when there is ups and downs in various areas.

Thank you very much.

Ken Zerbe, Morgan Stanley.

Just in terms of the GEAR Up, like what is the constricting factor?

Like let's say you don't get the revenue growth you assume.

Are you target -- is the efficiency ratio kind of the end-all be-all, that by the end of 2018 no matter what happens we should expect a 60% efficiency ratio?

Or is getting to the expense savings revenue targets more important than the efficiency ratio on a net basis?

Dave?

They are both important.

Obviously one will drive the other.

Again, we continue to look for more opportunities.

We fully expect we can implement on both the revenue and the expense saves.

And quite frankly at this point we are comfortable with our trajectory.

Understood, I guess the reason I ask is we have seen in the past other companies announce big expense cut programs and they achieve it all and their efficiency ratio may or may not go down as much.

I am sure -- I am confident that you guys can achieve both, but I guess what I am asking if there was a number at the very end of the day that you would hold yourself to, which one would it be?

I guess in my opinion, I am more focused on achieving the revenue and expense.

The efficiency number is the efficiency number.

As I said, as we built the walk to get us to that approximate 60% or below 60% by the end of 2018, we were incredibly conservative we believe in building that walk.

And then, of course, the GEAR Up initiatives on top of that.

And again, let me emphasize we are not done yet with what we are looking to do with GEAR Up.

Okay, that is helpful.

And then just my other question.

On slide 9 you talked about the lower loan yields down 7 basis points.

Just want to be really clear, is that a sort of an unusually -- sort of a one-time negative in terms of the non-accruals and the other lease residual value adjustments, or is this sort of a more of a stable loan yield run rate?

Thanks.

Well, there is two pieces to it.

Certainly the non-accrual in terms of the loans that went into non-accrual at the end of the first quarter, which were fully current on interest when they were placed on non-accrual, that will remain in the run rate.

And by the way, those loans remain fully current on interest.

Obviously the interest is being applied to principal.

Having said that, we did also though have that lease residual adjustment of $2 million, and then on top of that we also had a surprisingly high amount of interest recovery in the first quarter on non-accrual loans.

This quarter is much more normal, much more average.

Got you, okay, thank you.

That helps.

Brett Rabatin, Piper Jaffray.

I wanted just to first go back to the expense reduction from the perspective of your reducing workforce 9%.

Can you talk about how you are going to make sure that (technical difficulty) those relationships and revenues are a function of that, and maybe how much of the workforce is front-facing versus back-office and that sort of thing?

Curt, why don't you give an example of how you (multiple speakers) through that?

Sure.

Yes, Brett, we are very focused on making sure that we are minimizing any impact to customers and certainly to employees who are directly involved in generating revenue.

One overall sort of arching theme for us is trying to make sure that we are getting the leadership even closer to clients.

And so over time, as most organizations do, we had a tendency to build up sort of our leadership ranks.

And we have been looking for opportunities to increase spans of control and look for some consolidation from a management standpoint while minimizing the impact to employees who are directly interfacing with customers sort of day in and day out.

I would also say that the second part of this, and part of the theme around revenue, is making sure we have got the right customer delivery mechanism and employees aligned to get to the greatest opportunities that we might have.

And so we have been looking at opportunities to centralize some lower value services that we provide for customers, centralize some smaller accounts that could be handled more on a call center format so that our highest valued customers and our most skilled employees are aligned against the greatest opportunity in the market.

Okay.

And on these 40 offices you are closing, can you maybe give a little more color on which markets?

Is there one that is more affected than the others?

Or maybe a little more color on the locations of these.

No, they are spread out amongst all of our geographies, so there is not a concentration in any single market.

And we've tried to look at opportunities, as you would expect, where we have got offices close by to each other and minimize any impact from a consolidation standpoint.

Just like the whole industry, trends for us have been down in terms of transaction volume.

And so, this is a natural sort of pruning process that we felt like we could accelerate and take a larger tranche of banking centers out at this time.

But we are not anticipating a great impact to our customer base.

Okay, thanks for the color.

Terry McEvoy, Stephens.

As you think about the revenue enhancements and deepening customer relationships, is there a specific region that is lagging the Company as a whole?

And then as I look at the line of business, is most of the upside going to come in that general Middle Market or should we see this plan have an impact in say Small Business, Corporate Banking, etc.?

Curt, do want to talk about that?

Yes.

There is not a specific region that I would say that we are more focused on than others.

Certainly we are newer still from a growth perspective in California and Texas than we are in Michigan where we have number two deposit market share.

Having said that, we are looking broadly across the Company at all markets and all markets are important to us from a growth perspective.

The focus really is around what I would call sort of core Middle Market and Small Business.

But there will be learning opportunities that we can apply across all of our businesses around data analytics, customer assessment type tools that we are going to utilize.

We are looking at training, [i-comp] or incentive compensation, etc., to make sure we have got the right sort of tools, training, motivations for our team out in the field.

But primary focus on Middle Market and Small Business across all the geographies.

Thanks and then just -- I'm sorry.

Oh, I was just going to say, as I mentioned earlier, the tests that have been being done in [different] areas have come out very positive.

Thanks, Ralph.

And then just as a follow up.

The $800 million increase in loans and other markets, could you just talk about is that were some of the Dealer Finance or the Mortgage Banker Finance comes through or is that maybe out of market CRE?

It is not out of market CRE; it is the Dealer and the Mortgage Banker, which are national footprints.

Great.

Thanks for clearing that up.

Thank you.

Jack Micenko, SIG.

Go maybe a little bit different direction talking about loan growth.

Your seasonal business is the Mortgage Banker and the Auto Finance.

I guess the simplest way to ask the question, is your customer base growing faster than your outstandings or vice versa?

And if you could put any numbers around that.

Just trying to figure out if you are taking share and how to think about that business if volume and say auto sales slows or declines, that sort of thing.

Curt?

Yes, I would say in both of those businesses, both of which we have been and for a very long, long time.

And the Mortgage Banker finance business, we have been in that business for 50 years.

And the Dealer business for probably 65 years.

And we have got I think a great customer base with continued great opportunities from a cross sell perspective.

For example, in the Dealer business there continues to be roll ups occurring in M&A activity across that industry which provides additional opportunities for us.

The majority of the growth is coming from our existing client base, but in both spaces we continue to have opportunities to selectively add new clients that are well priced and well cross sold.

Okay, thank you.

And then you have been in tech and life sciences for I guess over 20 years.

If the IPO drought there continues, if valuations come in further, how does that portfolio -- what are the puts and takes in the movement in that portfolio?

How did that react back in the 2000s?

Any color you can help us with there.

Pete?

Sure.

The book that we have today is so much different than it was back in 2000, it would be hard to make the same comparison.

Back in 2000 you had so much it was in the Internet vertical.

And today that portfolio is so much better diversified, there is a lot of different verticals within the tech sector.

And then also we have more on the life science side today than we had back in 2000.

So, I don't think it would react as harshly as the industry did back in 2000 when the tech sector went down.

We feel the portfolio is pretty balanced and it is by design that we have it that way.

And then the other aspect of it that is different from 2000 is equity fund services is now 40% of our outstandings there and equity fund services, as you know, is a very well secured portfolio of capital call and subscription lines.

All right, great.

That is helpful.

Thank you.

This is Darlene.

It looks like we are out of time.

For those of you that still have questions please reach out to me.

My contact information can be found in the press release.

Ralph?

Thank you very much for your interest and joining us today.

We appreciate it very much.

Thank you.

Ladies and gentlemen, this concludes today's conference.

Thank you all for joining and you may now disconnect.