First Republic Bank (FRC) 2005 Q1 法說會逐字稿

Good day everyone, and welcome to the First Republic Bank first quarter 2005 earnings results conference call.

As a reminder, today's call is being recorded.

I would now like to turn the call over to Mr. [Greg Barrarity].

Thank you, and welcome to First Republic Bank's first quarter 2005 conference call.

Speaking today will be President and CEO Jim Herbert, Chief Operating Officer Katherine August-deWilde, and Chief Financial Officer Willis Newton.

A webcast replay of this call will be available at www.firstrepublic.com for 30 days.

An audio replay is available for two weeks.

Domestic and international participants can dial 719-457-0820.

The reservation number is 9152344.

Before we begin, I am required to inform you that some of the statements made on this call may be forward-looking, which involve inherent risks and uncertainties.

A number of important factors could cause actual results to differ materially from those in the forward-looking statements.

Be sure to rely only on our forms 10Q, 10K, and other regulatory filings.

And now, I'd like to introduce Mr. Jim Herbert.

Thank you, Greg.

Let me start by saying that we're very pleased with our first quarter results.

It was our most profitable quarter ever.

Net income for the quarter was 12.6 million, compared with 9.2 million in the first quarter of '04, up 37%.

Diluted EPS for the first quarter, following our 3 for 2 stock split, was $0.49 per share, up 32% over last year.

We're also very pleased to have paid another quarterly cash dividend of $0.10 per share post-split.

This dividend rate continues to reflect our satisfaction with the bank's business.

Some of the quarter's highlights were that margins improved quite nicely -- Willis will talk more about that in a minute, net revenue and deposit growth were both very solid -- deposits in particular were at a 6% rate for the quarter, lending volume was steady, our credit quality remains quite strong.

Wealth-management assets grew only modestly however, due mostly to a couple following points.

We had a very satisfactory liquidation -- on schedule.

Of our first CBO done by Trainer, Wortham, this was originally $500 million.

We're delighted with the liquidation, but of course, this reduces assets under management by Trainer.

Froley, Revy lost one large client, a state agency that is eliminating convertible securities as an asset class, and, of course, the equity conditions in the markets were a little challenging in the first quarter.

In spite of these facts, we're quite pleased that we have totally overcome them, and so, managed to grow wealth-management assets a bit during the quarter.

Our efficiency ratio remained steady keeping us in line with the efficiency ratios of our first quarter last year and our trust peer bank group.

The first quarter of the year is generally our most challenging in this regard.

During the quarter, we also issued $50 million of noncumulative, perpetual preferred-stock in a public offering on what we consider to be very attractive terms.

We will feel the full effect of this offering the second quarter of '05 as the cost of dividend is absorbed, but the benefit, of course, will be allowing us to have substantial asset growth opportunity in the future.

In fact, we've raised our capital by 18% in the last 12 months.

Let me take a moment to talk about our key initiatives in 2005, and also to comment on the impact of rising interest rates.

New client acquisition, the first quarter, continued to be very successful.

The investments of the past few years in new preferred banking offices, new people, and new products are delivering very good results.

It's particularly worth noting that our recent investments in New York, both in people and locations, are yielding very good results.

An increasing number of our clients are bi-coastal and are well served by locations in both California and New York.

We also believe that geographic diversification is good banking practice and will continue to provide a nice balance for our operations.

During '05 and '06, the optimization of our new, fully developed wealth management enterprise will be our major focus.

We are devoting considerable time and effort to improving the structuring, delivery, and training of our wealth management services and will continue to do so throughout these years.

On the interest rate front, we expect that rates will continue to rise throughout the year.

To date, we've done a good job of managing in this environment and are well positioned.

Our margins did improve in the first quarter as I previously noted.

Although we don't currently anticipate this, but if rates rose at a particularly rapid rate, the operating environment could become more challenging for us in the short run.

Overall, we were making very good progress. ross the board, our offices and people are very productive, our client acquisition continues to be quite successful, and our extraordinary service levels are being maintained.

The more than 30% increase in EPS for the quarter versus last year is very gratifying.

Now I'd like to turn over to our Chief Operating Officer, Katherine August-deWilde.

Thank you.

As Jim mentioned, our first quarter was strong.

Asset growth has been solid, loan originations held up well, recurring fee income increased nicely, and expense levels are within plan.

Importantly, asset quality remains excellent.

Deposits grew 6% for the quarter and 25% compared to a year ago.

We're pleased with that growth which was due to new client acquisition, successful cross selling, and good client referral.

Importantly, checking account balances increased 37% in the past year.

This reflects our continued success in providing exceptional private banking and private business banking services.

Due to seasonality, our March 31st checking balances are generally the same or lower than our December 31st balances from the prior year.

However, average checking account balances for the first quarter of 2005 increased $140 million, from more than 9% compared to the average balances for the prior quarter.

Total bank assets in the first quarter grew to $7.6 billion, up 3% from the prior quarter and up 21% from a year ago.

If rates continue the general upward trend, we expect that loan originations may not be as strong in 2004 as -- 2005 -- as they were in 2004, although the pipeline for the second quarter looks good.

Total station wealth management activities were $11.9 million, an increase of 15% compared to the first quarter of 2004.

In our wealth-management business, we began piloting our open-architecture investment model.

We began in the first quarter, and we're quite satisfied with the initial results.

This approach provides access to best-of-breed investment managers and provides a complete range of solutions for clients.

Clients can choose from among our money managers or from a number of third-party investment advisers.

Freedom to select managers can best meet clients' needs -- something we have always offered in our trust company -- will likely become a competitive advantage over time.

Loan origination volume was $881 million in the first quarter of 2005, just slightly above the first quarter of last year.

Purchase activity continues to be strong in our market.

Housing sector continues to be strong in our coastal urban supply constrained markets.

We recognize there's been some concern in the media about conditions in the housing market, particularly in relation to prices.

As has always been the case, our clients make large down payments, strong liquidity positions, excellent credit histories, and strong debt-service ratios.

Even so, we have already tightened somewhat, our terms on cash-out refinances over the last year, and we have significantly limited investor financing.

We continued to compete on price, but we will not lower our credit standards.

This on-going credit discipline is reflected in the fact that non-accruing loans totalled just 2.5% of total assets in the first quarter, and there were no foreclosed assets.

In our cross selling efforts, the average number of products and services sold to loan clients continues to exceed 7.5.

One of our key goals this year is to continue to increase the penetration rate in selling products and services to existing clients as well as to attract new clients.

As you may recall, we track the percentages of offices opened and sales people who have been with us less than two years.

The number of offices opened today and have been open for less than two years have fallen from 27% a year ago to 16% today.

A year ago, almost 50% of our sales people who have an average of 17 years experience in the banking industry, have been with us less than two years.

Today, that number is 36% versus almost 50% a year ago.

The increasing effectiveness of our sales people in offices will be a major help in pursuing the goals of fully optimizing our franchise.

To that point , almost a year ago, we rebranded our branches as preferred banking offices.

We broadened the positioning of these offices as an extension of our private banking services, and the results have been outstanding.

Our preferred banking offices grew meaningfully in the first quarter.

In summary, we're pleased with our progress.

We are executing our business plan successfully.

Our markets remain strong.

Our team is increasingly productive and the organization remains focused on providing exceptional client service.

And now I'd like to turn this over to Willis Newton, our Chief Financial Officer.

Thank you, Katherine.

First, I'd like to remind everyone that our press releases, annual reports, forms 10K and 10Q are always available on our website shortly after their completion.

In the first quarter, the bank's net interest income rose 2.6 million or 4.8% on a link-quarter basis and was $57.7 million.

This increase in net interest income was primarily due to a 12 basis point increase in the bank's net interest margin to 3.35% for the first quarter, up from 3.23% for the prior quarter.

The average yield on the bank's investments increased 36 basis points, and the average yield on the bank's loans was up 27 basis points.

By contrast, deposit costs grew only 20 basis points, and total deposits continued to increase as a percentage of our liabilities.

So not only did our loans and investments move faster than our deposits, the mix of our liabilities continued to improve.

A few comments on a trend in some of our expense categories.

In the first quarter, we completed our annual performance review process and awarded salary increases effective January 1.

Additionally, benefits such as payroll taxes, group insurance, and retirement plan matching tend to be higher at the beginning of each year.

Occupancy expenses now fully reflect the impact of our expansions in New York.

Additionally, we are taking more space in San Francisco to consolidate some of our business units and to have room to expand efficiently in the future.

Our professional fees were $1.6 million for the quarter, up from $700,000 for the first quarter of last year.

This 1.6 million cost per quarter is roughly representative of what we should expect throughout 2005, our second year of Sarbanes-Oxley.

I would like to note that we filed our 10K on time without any material weaknesses.

As you know, that's a meaningful achievement under Sarbanes-Oxley,a process which has become very complex, time consuming, and expensive.

During the quarter, we completed a $50 million, noncumulative, perpetual preferred-stock offering.

This opportunistic issue qualifies as tier-one capital and positions the bank for further asset growth.

We were particularly pleased with this issue because it was very timely, execution costs were extremely efficient, and we worked with a major new underwriter, HSBC.

Now, I'll turn the call back to Jim.

Thank you, Willis.

In closing, let me say we were pleased with our results for the first quarter of the year.

Our goal in 05' is to move toward optimizing the franchise by continuing to add high quality clients, deepen relationships with our existing clients, and maintain our exceptional level of service.

Now we would be happy to take any questions, Operator.

[Operator Instructions] We'll go first to Don Worthington, Hoefer & Arnett.

The line is open.

Hi.

Good afternoon.

Just a couple of questions.

One, in terms of loan sales going forward, if you can give any expectations in terms of additional loan sale activity and gain on sale going forward.

Katherine, would you like to respond to that?

Yes.

We sell loans in two ways -- we sell our longer term, fixed-rate loan on a flow basis, and we intend to continue to do that, and the gain on sale is somewhat dependent on market conditions at the time.

We lock each loan in as we commit it to the client with the investor to whom we're selling it.

Instead of selling loans in [remick] of this time, we have been able to achieve better execution and smoother delivery by selling smaller amount of loans on a quarterly basis, something we expect to continue to do.

Again, the gain on sale is very much subject to the market conditions at the time.

Okay.

Thank you.

And then, any comments on the pricing environment for deposits, are you seeing that become more competitive in terms of other companies bidding up deposit rates?

The answer is yes, although relative to the movement rates, it seems to be holding its own fairly steadily.

We've been moving our rates up, of course, but, the nice thing about this is that going into this rate increase we have 30% plus in checking accounts in the bank versus virtually -- I won't say zero -- but probably 5 or 6% the last time rates rose.

So there's a big difference in our mix.

But, where there is a little more competition going on, at the end of the day, that'll be driven by loan demand.

Okay, thank you very much.

Thanks.

We'll go next to Mike McMahon, Sandler O'Neill Partners.

Hi, everybody.

Couple questions -- Can you shed some light on the seasonality of your noninterest-bearing deposits?

What happens in the fourth quarter or the first quarter that causes, in general, the deposits to increase and then either stay flat or back down a little bit in the first quarter?

What tends to happen is that there tends to be a tremendous amount of increase in checking accounts in the latter part of November and December as businesses prepare to pay bonuses and then pay them out, and as clients who sometime want to change their banking at the end of the year, do so, in the first quarter, after bonuses are paid, there is a run-up and then a run-down or flatness, and then we often see again, a run-up again toward tax time; and there is a seasonality to the noninterest-bearing deposits.

Mike, we tracked this -- we've tracked it now for -- I think this is our fourth year on a chart, a book to weekly, and it's surprisingly predictable.

Okay.

And you have two nonperformers, one of them I believe is -- is it about a 13 or $14 million loan you had for a couple of years that as I understand from your past cues, is on cash accrual, is current, and may return to performing status at some point in the near term.

I was -- is that loan still current, and what is the approximate amount of that?

Mike, that is a loan that has grown to about $15 million as we have disbursed some tenant improvements to build-out the unit.

It is on -- we are recognizing interest on a cash basis now, and we will continue to monitor the progress and put it on reclassify to full accrual in the future.

Proxy is -- what -- it's about 95% occupied at this point.

Yes, that's correct.

It's performing very well.

Good.

And then, finally, you had a very good increase in your commercial business loans.

They're still small, relative to total portfolio -- I think it's about 40% year-over-year, and you've recently talked about your focus on small business and how you approach that.

Can you shed any additional color or metrics on successes there?

We're having quite a deal -- we're having a good deal of success, as we say, following our clients to their business.

That is, we take our preferred banking client, possibly a lawyer or an accountant, and we're banking one or two partners in a law partnership and they like the service, and in due course, we end up banking the law firm itself, and then subsequent to that, other partners.

That's really been one of the primary ways we have grown it.

The -- and that's is working out very well.

We also have the commercial real estate where we're functioning the same way.

We generally follow an already existing client to a piece of commercial real estate or in some cases, apartment building that they've invested in.

So, we like the approach because, of course, the client knows us, appreciates our service, so we don't get into a head-to-head competition on every single deal as if we knocked on the door cold.

And we, in turn, know the client for awhile, and so, if it's a law partner or a service-corporation partner of any kind -- including medical -- we, of course, see take-home income for a long time, so we really know what the company makes.

Great.

And I guess at some you will be publishing some -- maybe some stats on the number of new business relationships or something like that?

Well, it's a good idea, and we -- we'll do that.

That's a good idea.

We do have those stats, and maybe we'll try to work up a comfortable form of them into the 10Q's in the future.

That's a good suggestion.

Okay, thank you.

Thanks.

Go next to Manuel Ramirez with KBW.

Hi.

Good afternoon.

Hi.

Three short -- relatively short -- questions for you.

First, Willis, you talked about the level of professional expenses being relatively consistent with what you expect for the rest of the year.

Can you talk about what specifically is related to stocks so far on that?

And secondly, are you seeing any of your deposit balances go off-balance sheet into money market accounts, which might explain the big increase in balances that your brokerage unit, and then, in order, I do have one more follow-up.

Thanks.

The professional fees for Sarbanes-Oxley, you know, have increased as we use one [inaudible] to do our loan review.

We have PricewaterhouseCoopers as our internal auditors, and we have KPMG as our external auditors.

We feel that the work will be similar in cost this year, and I don't expect to get any -- but we are going to try do it more efficiently, and then maybe look for cost savings in '06.

And then the question on the money market balances.

The money-market balance growth is coming from two things.

It's not so much money that would have landed on our balance sheet that gets swept off.

It is additional funds from some of our large funds that are moving money in and out on capital calls and that sort of thing.

As well -- as our corporate business grows, now many of our corporate clients have kind of a comfort level of bank deposit -- single bank deposits -- versus funds that they would like to have in the money market fund outside of an institution.

We find that varies all over the ballpark.

So we're not having any kind of disintermediation in there.

The other thing is we have in our brokerage -- we have some new brokerage assets.

We've brought in a couple people that are just long-time good brokers with some clients that they've had for years, and those brokerage assets are coming over.

We're very pleased and excited in fact about the brokerage growth.

It's done very well.

Okay, and then one last -- I guess this is a longer question.

Katherine, would you mind elaborating on exactly what you are doing in the wealth-management area?

You and Jim indicated that was an area of focus for 2005 and 2006, maybe you can lay it out in a little more detail?

What we originally did is we had a trust company, a broker dealer, and we own several investment managers.

We had a strategic review over the last couple of years and decided to have an open-architecture approach as well.

We began piloting that this quarter; we're were happy with our results and what that allows our client to do is choose from among a breadth of investment managers, have consolidating reporting on performance, and someone will meet with them on a regular basis to let them know how they're going and how they're doing and to watch over the portfolio with them.

And our investment managers are part of that platform generally speaking.

Our investment managers are part of that but they can choose from a broader selection than just those we offer.

Okay.

And with the private banking relationship -- the private banking relationship manager also handles the asset-management pieces of the customer's business or do you have a certified financial planner coming in?

What exactly does that relationship look like?

The private banker is very often the referral source, and then they bring in someone who has some specific expertise in dealing with clients.

And we have just begun that process of hiring those kinds of people.

Okay.

So you're in the relatively early stage of this.

Correct.

Okay, thanks.

[OPERATOR INSTRUCTIONS] We'll go next to [Charlie Ackerman], [Sagger Morphio Capital].

Hi, guys.

Congratulations on a great quarter.

Thank you.

I just wanted to get a little understanding on you guys were very successful this quarter in sort of keeping your deposit cost down, and I was curious how sustainable you think that is, and secondly, just on your asset side,you guys grew your loan quite significantly and should we kind of keep that ratio of like a fed fund goes up "x" percent and this will go up 60% of fed funds, or is there a way we can model that out?

Well, it's a little hard to model that.

Needless to say, we have been spent a lot of time trying, and we do a pretty good job.

But one of the things that is happening is that we did have -- we still do have -- a fair amount of loans on floors.

But as each rise in rates comes along, more of those loans are moving off floors and moving up, and so that's -- kind of a -- that's a component of benefit that's beginning to show.

The other thing is that we are about 70 to 75% adjustable rate of all kinds of assets -- could be even a little higher than that right now.

And that is a pretty good matchup to our funding sources.

We always tried to stay a little asset sensitive, and so far it's worked pretty well.

Particularly in an orderly rise like the fed is currently engineering, it works out quite well.

The lagging deposit side is a function of the -- is a function and a measure a little bit of the relationship levels that we have established with our clients.

They are not -- they want a good rate; they want to be treated fairly, and we intend to treat them fairly.

On the other hand, they are not rate shoppers.

We have a few of those left in our office system but not many.

And so we don't really have to be day-to-day, head-to-head on every basis.

It's -- we were getting paid a bit for our service, which is encouraging.

But we work on this -- we work at this very hard.

We have at least weekly meetings on deposit trends and pricing and so on strategy, sometimes more often than that.

In my mind, actually, giving the loans that are variable and what we've seen, it looks like you could actually have a few more basis points of expansion in the next few quarters.

Would that be a bad assumption?

Honestly I wouldn't want to -- it might not be a bad assumption, but I wouldn't want to support it either because it's hard to -- the eleventh district, which we do have assets on, is a little harder to predict as you know than other indexes are.

Okay.

It lags a bit, and you have to be cautious on that.

So that also points you to the interest rate risk management discussion in the annual report, which kind of shows you what would happen -- on page 112 of the new report it says "in a 200 basis points rise in rates over the next -- over '05 - our net interest income would increase about 1% in the first year and more than that -- 7, 8% in the second year.

Thank you very much, guys.

Good quarter.

Thanks.

Operator: We will go next to [David Henley], DLH Capital.

Hi, how are you?

I'd wondered if you can comment a little further -- you had mentioned some statistics earlier in the call about the seniority of your loan officers and also the number of offices that had been opened less than two years -- could you just spend second talking about the natural evolution of a typical office, and how long it tends to generate outside-deposit growth, and what the maturity schedule is on things like that?

And then, maybe a little bit too, of more detail on just impact of the seniority of the loan officers and how that all works too.

Okay.

Good, David.

Let me take the offices, and I will ask Catherine to respond to the loan officers -- or what we call them -- relationship managers.

The offices -- I'm fairly straightforward in a way, and I suppose like most bank offices, except that ours are seem to be more intensely run.

And we now tend to put new ones in places where they are -- what we think of [in-self] -- in areas that we already are -- are in or have a client base.

The typical office takes about two years to break even.

Sometimes it's quicker than that.

The break even varies a bit but it's probably -- it's almost always between 25 and $40 million of deposits.

And we tend to grow offices -- I mean in a very crude way -- at about $100,000 a day.

And they jump around, but that's kind of a long-term rate of newer offices.

So, take's you a year, two years to break even.

We went through a pretty good run of opening new offices, actually a bit ahead of many banks that are doing a lot now.

And we recently pulled back a little for no reason other than we're absorbing what we are doing, and we have two or three things we were looking at, but they are not moving as fast as -- we aren't pushing them as fast as we have in the past.

Katherine, do you want to speak to the relationship managers.

When we talk about sales people who are with us more than two years or less than two years, that includes a relationship manager or what you refer to as lenders, and preferred bankers and the sales people in our wealth-management functions.

And what happens is these people are very broadly experienced with a lot of client base, but it takes them awhile to bring their clients over.

First off, you have to understand our products -- in some cases -- the clients have to know that they're happy, and each success begets the next success.

So it takes about 18 to 24 months for them to absorb the culture, begin to bring in a significant number of clients, and then for them to become increasingly profitable.

In addition, some of our compensation is front-end loaded toward bringing in of deposit products, and over time, the compensation on that moderates.

So it's both the magnitude of the amount of clients who come quickly and the fact that the earliest products from those clients tend to be the most expensive.

Let me just add something which is fundamental to the understanding of the Company.

This -- we are first and foremost a differentiated-service culture.

Our competitive position is predicated virtually entirely on a better experience.

And that, no matter how good a banker is, wherever they have been, with a few exceptions, takes some learning.

It also brings them about a methodicalness in terms of bringing clients to the bank.

Because of our service intensity, we bring them in slowly and carefully and get it right the first time.

And that takes extra time, effort, cost and is a bit of an eye-opener for most people that join us.

And it takes awhile for them to understand how to execute on that.

We never rush it.

We've learned that rushing it is a very bad idea.

We let it happen; each person is a bit different from the other.

And so we've got a good system worked out, but it always gets adjusted for the individual.

Thank you.

Thanks.

Operator: And we will take a follow-up from Mike McMahon, Sandler O'Neill Partners.

My question about the margin was just asked.

Thank you.

Okay.

We'll return to Manuel Ramirez, KBW.

Are you noticing heightened competition for relationship managers in the New York market?

And then, secondly, back on the wealth-management issue, since you are taking - I think -- a little bit more strategic 50,000-foot view of what you want to accomplish on coming to the wealth-management business -- does that mean you are evaluating strategic value [inaudible] managers you've bought in the past?

Thanks.

The answer to the latter, Manuel, is, no.

We are very happy with the managers we own.

They have done a great job.

They have it -- their own internal growth path -- as well as referrals from us, and we expect that the open architecture will provide us with more opportunities and probably net more money to our current asset managers as well as money gathered that might go to others.

One of the things that's important about the open architecture is that it gives you all the alternative investment opportunities that we don't currently offer.

And that's quite important.

Now we have a full menu so to speak, which we've always had in lending -- been one of our strengths in lending.

But we haven't had it in the asset-management area, and we now have it.

The New York competition -- I would say it's the more competitive, yeah, but it's also -- every time it gets a little competitive, one of the big guys does something that stirs up their employee base, you know what I mean?

I would say it's about the same as it's been, a little more competitive maybe, but not a lot.

I know there are a lot of new banks it seems, but on the other hand, very few of them are really going exactly where we're going, and very few of them have the product range to offer to a relationship manager to provide for their client that we do.

Okay.

But no more significant, up-front payments that are required to attract good talent at this?

No.

No., we haven't been doing that at all.

Okay.

Thank you very much.

Okay.

Thanks.

Mr. Herbert, there appear to be no further questions at this time.

Okay.

Thank you all very much for taking the time.

We appreciate it.

Thank you, operator.

This concludes today's conference call.

Thank you for your participation, and you may disconnect at any time.