PacWest Bancorp (PACW) 2009 Q4 法說會逐字稿

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  • Operator

  • Good morning and welcome to the CapitalSource fourth-quarter and full-year 2009 earnings conference call.

  • All participants will be in a listen-only mode.

  • (Operator Instructions).

  • After today's presentation, there will be an opportunity to ask questions.

  • (Operator Instructions).

  • Please note this event is being recorded.

  • I would now like to turn the conference over to Mr.

  • Dennis Oakes.

  • Sir, please go ahead.

  • Dennis Oakes - SVP - IR

  • Thank you very much.

  • Good morning, everyone, and thank you for joining the CapitalSource fourth-quarter earnings call.

  • Joining me this morning are John Delaney, Executive Chairman, co-CEOs, Jim Pieczynski and Steve Museles, and Don Cole, our Chief Financial Officer.

  • This call is being webcast live on our websites and a recording will be available beginning at approximately 12 noon Eastern time today.

  • Our earnings press release and website provide details on accessing the archived call.

  • We have posted some slides on our website that provide additional detail on certain topics which will be referred to during our prepared remarks, and we will give you the slide references as we go through our call.

  • Investors are urged to read the forward-looking statements language in our earnings release, but essentially it says statements made on this call which are not historical facts may be deemed forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

  • All forward-looking statements including statements regarding future financial operating results involve risks, uncertainties and contingencies, many of which are beyond the control of CapitalSource and which may cause actual results to differ materially from anticipated results.

  • And CapitalSource is under no obligation to update or alter our forward-looking statements, whether as a result of new information, future events or otherwise and we expressly disclaim any obligation to do so.

  • More detailed information about risk factors can be found in our reports filed with the SEC.

  • John is first on the agenda this morning.

  • John.

  • John Delaney - Executive Chairman, CEO

  • Thanks, Dennis, and good morning, everyone.

  • When 2009 began, we expected it would be full of significant challenges and a transition year for CapitalSource.

  • We had five months of operating CapitalSource Bank behind us and the important one year regulatory exam to look forward to.

  • At the time we had six credit facilities with $1.4 billion outstandings and maturities looming throughout the year.

  • With credit markets still shut down, $180 million of convertible debt putable in March, the IPO market effectively closed, which had stalled our efforts to monetize our net leased assets and commercial real estate problems accelerating, we knew it would be a year of heavy lifting.

  • Looking back, we successfully addressed all of those challenges and a few we didn't foresee at the time and accomplished most everything we set out to do.

  • As we begin 2010, we are now positioned to heighten our focus on adding high-quality assets at CapitalSource Bank, as Jim will explain in more detail later.

  • The lack of loan demand this past year, combined with our focus on addressing the issues I just mentioned, caused us to fall short of growth targets, but we are confident 2010 will be a much better year.

  • Looking briefly at our accomplishments since the beginning of 2009, as promised, we monetized our net lease assets which will produce nearly $500 million in cash over time, and before year end closed on two sales in HUD mortgages that generated $350 million of that cash.

  • We paid off or paid down and then extended all of our credit facilities, redeemed $180 million of convertible debt and raised new debt and equity.

  • These combined actions substantially reduced short and medium-term liquidity needs, significantly lowered outstanding debt, and more effectively match-funded our assets.

  • We continued to build reserves against future losses in our legacy portfolio, substantially increasing total reserves to 6.6% of commercial lending assets while continuing to charge off assets at a deliberate and appropriate pace.

  • We successfully completed our first full year of operations at CapitalSource Bank and the associated regulatory exam.

  • We have established an excellent working relationship with our state and federal regulators and will continue to work diligently to maintain it.

  • The financial profile of CapitalSource Bank improved progressively throughout the year as we increased net interest margins substantially by reducing deposit funding costs and funding new loans at wide spreads.

  • And CapitalSource Bank had pre-provision earnings of $50 million in the fourth quarter, roughly double the pre-provision earnings just three quarters earlier, and was profitable on a pretax basis for the first time in 2009.

  • Before turning the call over to Don, I would like to touch briefly on some messages we want to emphasize, based on our fourth-quarter results and our outlook for 2010.

  • First, despite our accomplishments last year, the greatest driver of our financial results was the poor credit performance of our legacy loan portfolio, which resulted in total loan loss provisions of $846 million.

  • We strongly believe our current reserves are adequate and remain comfortable with our cumulative loss analysis, first published in the middle of last year.

  • We have taken the view for some time that the sooner we are fully marked on our legacy loan portfolio, the better our lives will be.

  • Starting early in 2009, we set forth realistic assumptions for portfolio losses which, after careful and ongoing review, we continue to support.

  • Our actions across the last several quarters, either in the form of charge-offs or reserves, have validated our assumptions.

  • We expect 2010 quarterly reserve amounts to decline significantly from '09 levels as we near the end point of reserving for our legacy phone portfolio.

  • Additionally, as Don will describe in some detail, the nonrecourse securitizations which fund about half of the legacy portfolio, limit our economic exposure, a potential benefit which we have not factored into our loss assumptions.

  • Second, we feel good about our current look with the position and the outlook for the year ahead.

  • We anticipate receiving about $115 million of incremental cash this year from the monetization of our net lease assets assuming the closing of step two of the Omega sale and the sale of the Omega stock we received in step one of that transaction.

  • With the exception of the payment of approximately $50 million due in a few weeks to the banks that did not extend their commitment under our syndicated bank facility, we have no major liquidity events until the July 2011 quick date for the 4% convertible debentures.

  • Given the over-collateralization in our credit facilities and the reopening of the capital markets, we feel we have increased flexibility to deal with our 2011 converters.

  • Our goal is to find a financing solution that addresses them in a fashion that avoids or at least minimizes any dilution to our shareholders, though our flexibility is somewhat constrained by certain terms of the senior secured notes.

  • Third, we are intensely focused on growth and anticipate approximately $250 million to $350 million of new funded loans per quarter.

  • Those numbers will benefit from the recent addition of Laird Boulden's equipment finance team.

  • I have known Laird for 10 years and view him as the best in the business.

  • Fourth, Steve and Jim have quickly adapted to their new roles and have already taken several steps to reorganize the business so we are best positioned to grow in 2010 and beyond.

  • Together, we have conducted a comprehensive review of the organization and are working hard to ensure that we have the right talent and processes in place to grow our business while aggressively managing expenses, maintaining credit discipline and maximizing returns on the credit-challenged portion of our legacy portfolio.

  • Finally, while we expect a return to profitability as early as the first or second quarter of this year, achieving that turning point will depend entirely upon the credit performance of our legacy loan book, of course.

  • Now I would like to turn the call over to Don, who will review some of the financial metrics for the parent company in the fourth quarter.

  • Don?

  • Don Cole - CFO

  • Thanks, John.

  • As John mentioned, the key driver of our overall financial performance in the fourth quarter continued to be credit.

  • Charge-offs were higher, quarterly provisions and short-term delinquencies were up significantly, nonaccruals were up modestly though impairments declined in absolute dollar amounts.

  • Each of the quarterly variations was largely driven by commercial real estate.

  • Our total allowance for loan losses increased during the quarter by $70 million to a balance as of December 31 of $587 million.

  • Included in that total is $117 million of specific reserves based on individual impaired loans, an increase of $25 million from the prior quarter, largely for commercial real estate loans.

  • We remain comfortable with our overall level of reserves which are now at over 6.6% of commercial lending assets.

  • We have updated our cumulative loss analysis for our legacy portfolio that we have published in the past.

  • It is included as slide 22 in the investor presentation posted on our website prior to this call.

  • We continue to believe that the total cumulative losses across the full legacy portfolio will fall within the projected range across the whole portfolio, which would top out at about 17% or approximately $1.5 billion.

  • Based upon our charge-offs taken to date and our current level of reserves, this projects a maximum of approximately $165 million in additional provisions, though it is very possible some of our projections among the 10 individual categories will miss the mark on either the high side or the low side once the legacy portfolio is gone.

  • It should also be noted that the net amount of approximately $530 million in loans paid down, paid off or were foreclosed upon in the fourth quarter, which brought the current dollar amount of legacy loans at 12/31 on a gross basis before charge-offs to approximately $7.8 billion -- the total reduction since we initiated the analysis on June 30 of approximately $925 million.

  • As one of many levels of analysis that give us comfort regarding our cumulative loss projections, as John mentioned, it is important to remember that roughly half of our legacy loans are held in six nonrecourse securitizations.

  • Our economic losses are thereby limited to the equity we own in each.

  • As these securitizations are on balance sheet we are required by accounting rules to apply the usual quarterly reserve and charge-offs methodology, even if that results in marks over and above our economic interest.

  • In 2006 [A], for example we have over $1.1 billion of loans including $570 million of commercial real estate against which we are holding specific and general reserves slightly in access of our junior equity interest.

  • That means that we have effectively reserved for a portion of the $32 million of the class of debt held by investors above our junior equity.

  • We had a similar situation developing with the $1.5 billion owner trust securitizations which we did sell in December when our economic interest [debt] of reserves had declined to $3.5 million.

  • The securitization financing structure is likely over time to limit our actual losses though we may be required to reserve against some losses that will ultimately be borne by the note holders in those securitizations.

  • Any such accounting loss would be reversed once all loans and individual securitizations are paid off or charged off.

  • A summary of the current loans and outstanding debt of our securitizations is included as slide 30 of the investor presentation.

  • As I mentioned, credit issues were concentrated again this quarter in commercial real estate and several real estate loans which matured without refinance options account for the big jump in our 30 to 89 day delinquencies.

  • Close to half of those loans were previously impaired and most of the others are now on nonaccruals or otherwise impaired and, therefore, do not represent additional nonaccruals or impairments we would experience in coming quarters.

  • The overall credit metrics for the portfolio are included on slide 20 of the investor presentation.

  • We had charge-offs totaling $33 million for land and second lien loans in the fourth quarter, bringing our total accumulative marks in those two categories to 32% and pushing the second lien to the high end of our projected range while land is still at the lower end of our range of expected cumulative losses.

  • Overall, CRE accounted for half of charge-offs and two thirds of provisions in the fourth quarter.

  • Our cash level on 12/31 of approximately $416 million at the parent is very strong and our uses of cash at the parent continue to decline.

  • As listeners know, our enhanced liquidity is largely the result of the net lease asset sales, which closed in November and December of last year, and the HUD financing proceeds we received in December for a portion of the net leased assets to be sold to Omega.

  • As we continue to monitor unfunded commitments to the parent, we experienced no material change in activity during the fourth quarter as compared to prior quarters.

  • That is, revolver draws were flat on a net basis and there was only $27 million in construction development draws paid on the quarter.

  • The majority of those construction draws were paid from the revolving tranche of the 2006 A securitization which had $70 million in remaining capacity as of year-end.

  • Year end total unfunded commitments of the parent decreased to $1.9 billion, a decrease of over $1 billion from the year before.

  • As we have said on many occasions, however, utilization of those commitments frequently involves the addition of eligible collateral, is often discretionary, and requires that loans not be in default.

  • We have updated our analysis of potential findings over the course of 2010 which we expect will be modest.

  • An updated chart is included in the investor presentation as slide 32.

  • We continue to believe historical experience is the best evaluative tool so we recently conducted an updated analysis of each unfunded commitment greater than approximately $20 million at the parent and the utilization of committed capacity in 2009, based on the maximum drawn balance over the year.

  • Of the top 30 unfunded commitments representing over 50% or $1 billion of the total, 80% or $824 million were never drawn upon during the year.

  • Additionally, $359 million or about 35% of those top 30 unfunded commitments are largely discretionary.

  • Our conclusion on unfunded commitments remains unchanged.

  • That is, we are very comfortable with our modest expectations for fundings on these loans.

  • One of our primary strategic goals for 2009 was to significantly reduce 2009 and 2010 debt maturities, and we made substantial progress on that front.

  • Over the course of 2009, we reduced the commitment on our syndicated facility from $1.1 billion to $325 million and since year end, the commitment has been further reduced to $260 million.

  • Our other five credit facilities were reduced to three and the principal outstanding under those remaining facilities was paid down from about $473 million to $292 million.

  • We also redeemed $180 million of convertible debt in the first quarter, issued $300 million of five-year term debt in the third quarter and raised $83 million in a common stock offering, also in the third quarter.

  • As you remember, $300 million of the third quarter proceeds were used to reduce the syndicated credit facility balance and gain a three-year extension through March of 2012 from 86% of the syndicate banks.

  • In addition to the $65 million in reduction and commitments under the syndicated credit facility already made in the first quarter, we will be making a roughly $50 million payment to the non-extending lenders in mid-March.

  • No further mandatory stepdowns will be necessary until at least January of next year and we fully expect normal collateral payoffs will cover any required stepdowns and reduce the remaining balance to zero before the December 2011 maturity.

  • The maturity day was moved forward by three months and a revised stepdown schedule of $15 per month beginning in January 2011 was recently agreed to with the syndicated banks as part of a covenant amendment reducing our required minimum tangible networks.

  • As we were already anticipating that the facility would be paid off by the end of 2011 through normal loan collateral proceeds, the change in the maturity date has no impact on our liquidity forecast.

  • Paydowns on our structured credit facilities in the quarter totaled $58 million, reducing their aggregate principal balances to below $300 million.

  • Last year we extended all but one of those facilities through 2012 in order to better match the duration of the assets.

  • The only exception was the CSE Europe facility, which we expect to renew again prior to its maturity date this May.

  • Details of the current composition of our credit facilities can be found in the updated slide 31 in the investor presentation this morning.

  • Although the Company has always run at relatively low leverage, we have been delevering over the past 18 months.

  • Another significant step in that regard was taken in December with the sales of $1.5 billion owner trust securitizations which I mentioned earlier and further reduced our consolidated leverage.

  • As I also previously mentioned, in the fourth quarter we announced the sale of all of our net leased assets which we expect will also ultimately produce approximately $500 million of net cash when the final steps of the sale to Omega are closed.

  • This amount includes the proceeds received from the sale of all the properties as well as the HUD debt proceeds received in December.

  • Monetization of the directly owned skilled nursing homes was a top goal for us in 2009.

  • So the total sale was a successful result, which achieved the majority of the monetization in the early steps.

  • In accordance with the accounting rules for the treatment of assets disposed of or soon to be disposed of, all of our healthcare net leased assets -- except the 63 facilities that are subject to the Omega purchase option -- are shown on our 12/31 balance sheet as discontinued operations.

  • The discontinued operations treatment isolates and presents separately all of the assets, liabilities and results of operations related to the assets sold or soon to be sold.

  • This adjustment is made for all of the periods presented in the financial statements, meaning that we have adjusted the prior periods to reflect this classification.

  • Before closing, I want to touch briefly on our GAAP taxes in the fourth quarter and our expectations for taxes in 2010 and beyond.

  • As we have discussed previously during 2009, we established a valuation allowance related to our deferred tax assets which stood at $362 million at year-end.

  • The valuation allowance is a non-cash accounting charge that will exist until there is sufficient positive evidence to support its reduction or reversal.

  • Such evidence would include a period of positive pretax income for those entities for which an allowance has been established.

  • The fourth-quarter loss added $76 million to the valuation allowance as would any losses in 2010.

  • Likewise, quarterly GAAP income during 2010 will generally reduce the valuation allowance.

  • So there are many complexities which will impact the actual tax expense we booked during 2010.

  • GAAP accounting generally suggests CapitalSource will be a normal or roughly 40% taxpayer once the Company returns to profitability and the need for a valuation allowance is eliminated.

  • As we look ahead in 2010, I'm very comfortable with our liquidity profile and pleased with the improvements to our capital structure, lower leverage and overall simplification of the business which we achieved during 2009.

  • Going forward, we are focused on addressing debt maturities beyond 2010, including the convertible debt that will come due in 2011 and 2012, but feel strongly that we have adequate time to assess all available options and we will plan to do so deliberately.

  • Steve is up next.

  • He will discuss the steps we took during 2009 to reduce our exposure to the most troubled components of our legacy loan portfolio, provide an update on operations and review the fourth-quarter results at CapitalSource Bank.

  • Steve?

  • Steve Museles - Co-CEO

  • Thanks, Don.

  • Good morning, everyone.

  • First, as Don mentioned, I want to spend a few minutes reviewing how significantly we reduced our exposure to the most troubled portions of the legacy loan portfolio and how well reserved we are for remaining expected losses.

  • As we described throughout 2009, the greatest stress in our legacy loan portfolio was concentrated in four areas.

  • Second lien, commercial real estate, land loans, residential mortgage rediscount, and media-related cash flow loans.

  • Each of these areas is broken out as a second category in our cumulative loss analysis and all four portfolios were marked down substantially throughout the year.

  • We thought it would be useful this morning to take a closer look at the progress we made during 2009 to fully mark those portfolios.

  • At December 31, 2008, the four categories combined represented approximately $1.7 billion of our legacy portfolio.

  • One year later, that total had been reduced by about $650 million or 39%.

  • In addition, despite the substantial reduction of the outstanding balance, the reserves on the remaining portfolio are still significant.

  • As of year-end, the remaining specific and general reserves for these assets was $194.3 million or 15.9% of this portion of the legacy portfolio.

  • Specifically, the residential mortgage rediscount portfolio decreased by 76% as, during the year, we worked out or foreclosed on a majority of the loans in the category and charged off $84 million.

  • The second lien commercial real estate portfolio decreased by 39% as we wrote off nearly 100% of two large second lien commercial real estate loans.

  • Five loans now comprise nearly 90% of the remaining portfolio and all of those loans are currently revenue-producing.

  • The largest of the five is a $29 million loan on a Class A office tower in San Francisco, which is completed and in the process of lease up, and to which the equity sponsors have recently contributed an additional $30 million.

  • The second-largest project is a Washington DC metro area-based, residential, Class A apartment building which is 95% leased.

  • The land portfolio declined by 24% over the course of 2009.

  • Among the loans which were worked out or foreclosed were three residential development land loans totaling $92 million where the losses were most severe.

  • The two largest remaining loans in the land portfolio, however, are the only two in that portfolio not currently classified as impaired.

  • These two loans have a combined total outstanding loan balance of approximately $235 million and each is a land assemblage in Manhattan.

  • Both projects have been supported by our borrowers who have invested additional cash and development work on each is ongoing.

  • Finally, the advertising-dependent portion of our media portfolio was reduced by 56% after charge-offs of $94 million.

  • It should be remembered that our media portfolio includes performing assets such as data hosting centers, which are not add revenue dependent but have recurring revenues that have performed extremely well.

  • Our loans to these borrowers actually increased during 2009 from $68 million to $85 million.

  • To ensure continued progress on the legacy portfolio, Jim and I have put in place an operating structure designed to maximize the return on the credit-challenged component of this portfolio.

  • In that regard, the parent's Chief Credit Officer and the head of our loan restructuring group report directly to Jim and me.

  • We are also focused more than ever on taking advantage of the current market opportunity to grow our loan book.

  • Jim and I have thoroughly examined our organization and have already implemented several changes designed to enhance our origination's focus and capability, including having the heads of the origination groups report directly to us and promoting key employees in our niche lending areas, like health care and security.

  • Similarly, we have begun the process of analyzing the rest of the Company's operations in an effort to improve efficiency and ultimately materially lower operating expenses.

  • While our work here is just beginning, we expect to have more to discuss regarding these efforts on future calls.

  • With that, let's turn to the fourth-quarter credit results, operating performance and capital levels at CapitalSource Bank.

  • During the first year of operations at CapitalSource Bank, which concluded last July, we focused intently on building a positive and strong working relationship with our regulators, both federal and California.

  • To help those bank relationships get off to a strong start and to ensure bank operations were integrated as efficient efficiently as possible with the parent, I moved with my family to LA shortly after the bank commenced operations in 2008 and returned to Chevy Chase one year later.

  • Together with our very experienced management team at CapitalSource Bank led by bank president and CEO Tad Lowrey, I had substantial interaction with the regulators during quarterly visitations to which we were subject as a de novo bank followed by our first annual exam last August.

  • The annual exam was quite comprehensive, including examination of the parent as well as the bank.

  • While we are not permitted to discuss the details of our regulatory exam, we believe the regulators consider our purchase of the assets of Fremont Investment & Loan, a model for bank acquisitions of troubled institutions.

  • Jim will explain our growth plans for this coming year in detail so I'll focus on the banks 2009 results.

  • Many of the underlying fundamentals improved dramatically at the bank over the past year although credit performance of the legacy loans owned by the bank overshadowed strong pre-provisioned earnings.

  • All key indicators of our capital strength remained at high levels throughout the year.

  • Our net interest margin increased again in the fourth quarter as we experienced improvement in both asset yields and the funding cost of deposits.

  • Over the course of 2009, our net finance margin improved more than 200 basis points to 4.66% in the fourth quarter.

  • Our cost of funds was 1.67% for the fourth quarter, less than half the year ago average of nearly 3.5%.

  • We funded approximately $806 million of new loans during the year at an average all in yield of 7.85%, largely redeploying the $896 million in paydowns we received on the A participation interest.

  • The bank substantially increased its total provision for loan losses during the year, largely to be in sync with the parent company provisioning for the legacy loan portfolio.

  • As the legacy loans in the bank shrink in proportion to the bank's total loan book, we expect provisions will eventually level off.

  • During the year we increased bank reserves to $153 million at December 31 or 5% of core loans, which excludes the A participation interest.

  • The allowance for loan losses increased in the quarter to 88% of nonaccruals while 35% of bank nonaccruals were current at quarter end.

  • The fourth-quarter charge-offs of $24 million were all related to five legacy loans -- four of which were commercial real estate loans.

  • Besides some charge-offs, our overall credit debt improved modestly in the quarter though some construction loans that were short-term delinquencies in the last quarter migrated into the 90-day plus column.

  • Our total nonaccruals were down slightly in the quarter but new additions to the category were down substantially.

  • Pre-provision operating earnings of $50 million represents a meaningful increase from $37 million in the third quarter.

  • In fact, pre-provisioned earnings stepped up nicely throughout the year.

  • Since we did not raise our CD rates in the quarter, we believe the net increase of approximately $100 million in deposits combined with our consistently high retention rate in the 85% plus range is largely the result of our successful positioning of CapitalSource Bank in the marketplace.

  • In fact at year end, our weighted average interest rates on deposits had declined 29 basis points during the fourth quarter to 1.56%.

  • Our marketing of CapitalSource Bank consists largely of reminding customers that we provide more personalized service than the bigger, more commoditized institutions.

  • Our print campaign with the tagline "Don't Settle For Small Rates From Big Banks" seems to be hitting home with depositors.

  • Our overall strategy appears to be working as we are hearing from the field that big bank customers have been switching to CapitalSource Bank in greater numbers in recent months.

  • Total CD retention in the fourth quarter also increased slightly to a rate of over 87%.

  • We see the bank's balance sheet as well-positioned for any interest rate environment, but in recent months we have been soliciting longer-term CDs, generally 12 to 18 months.

  • In December approximately two thirds of new funds were for 12-month terms are longer.

  • By year-end the average remaining maturity of our entire book of CDs had increased a full month from 4.6 months at June 30 to 5.6 months.

  • Our capital levels remained very strong with total risk-based capital rising again this quarter to nearly 17.5% while our tangible common equity to tangible assets ratios stood at 12.6%.

  • The A participation interest paid down at roughly the same pace as the prior quarter, our December 31 balance of $531 million on this interest has been further reduced by two payments since the first of the year and is now close to $450 million, which is less than 14% of the total underlying collateral pool.

  • We continue to expect the A participation to be paid off in full during the second half of this year.

  • As we proceed through 2010, we expect many of the key financial indicators of the bank which I've just discussed to continue to firm up or improve.

  • We recognize there may be little opportunity to lower our deposit costs any further as our depositors' CDs have largely been repriced at current market rates over the past 12 months.

  • We are very optimistic, however, about the year ahead.

  • The consistent redeployment of lower yielding assets and a higher-yielding loan, an ongoing review of operations designed to continually improve overall efficiencies and the strengthening pipeline of new loan opportunities combined with expanded business areas give us a high level of confidence that 2010 will be very strong year for CapitalSource Bank.

  • Jim will speak next about the steps he and I have undertaken to review the business and provide some further insight on where we currently see the best growth opportunities.

  • Jim?

  • Jim Pieczynski - Co-CEO

  • Thanks, Steve, and good morning to everyone.

  • The CapitalSource asset generation platform has been central to our historical strength and clearly is at the heart of our story going forward.

  • CapitalSource Bank has been now up and running for more than 18 months and we have effectively combined the CapitalSource direct origination team with the depository funding resource at the bank.

  • While we remain confident in our ability to grow the deposits as needed, we should point out that with just our existing capital and deposits coupled with the expected earnings, we have the capacity to fund up to $2 billion in new loans during 2010 alone.

  • Prior to assuming our new co-CEO duties on January 1, Steve and I began a top to bottom review of our existing lending platforms in the marketplace opportunities for future growth.

  • We conducted in-depth meetings with each of our origination teams, so we could have could have a realistic assessment of loan growth opportunities over the next 12 to 24 months, and a good checklist of lessons learned from our lending practices in the 2005 to 2008 time period.

  • We came away from that exercise, confident we could increase loan production in 2010 to $250 million to $350 million per quarter of new funded loans that John had mentioned earlier, compared with the 2009 quarterly run rate of approximately $200 million per quarter.

  • We intend to continue our emphasis on lending in the niche areas that are our historical strength where knowledge of our -- knowledge of industries and our context set us apart.

  • These areas include healthcare, security, technology and lender finance.

  • To expand our product offerings, we have recently added additional expertise in equipment financing and, as we have mentioned on several occasions, we consider SBA lending capacity -- we will consider adding an SBA lending capacity to our platform a very high priority.

  • In each of these areas, we have established achievable quarterly volume targets which will allow us to comfortably reach our overall goal level for this year.

  • Current market conditions, liquidity at the bank and the reduced competition have combined to produce pricing power which we believe will persist at least through 2010.

  • We expect to continue making loans on a blended basis across our full book that will average minimal rates of LIBOR plus 550 basis points with a 2% floor on LIBOR.

  • Healthcare lending, including asset-based, real estate and cash flow loans, will be a significant sector of concentration for us in 2010 as it has always been for CapitalSource.

  • Despite our exit from the healthcare net lease business, we will continue to leverage our expertise in lending to skilled nursing homes in both our healthcare real estate and healthcare credit lending businesses.

  • Another area where we have excelled is security lending and we will continue to make asset-based and cash flow security loans in 2010.

  • One lesson that we have learned from the recent past is that both healthcare and security are our best performing businesses.

  • They are strong earners with minimal credit losses in both good times and in bad.

  • Our lender financed or rediscount business excluding the discontinued residential mortgage book has performed very well.

  • Going forward however we expect to make those loans at lower advanced rates, typically in the 70s up to 80% range.

  • We expect to focus on auto and timeshare lending but intend to go upmarket a bit to work with some of the larger players.

  • Loan growth in 2010 may also include portfolio purchases as major competitors wind down their lender finance businesses.

  • We do not intend to make any new loans in the residential mortgage rediscount space.

  • Our leverage lending businesses concentrate on top-tier sponsors and businesses with good prospects and high margins, with an emphasis on specialty areas where we possess underwriting expertise.

  • Our lessons learned dictate working with strong sponsors, keeping leverage as a multiple to EBITDA generally under three times, and enforcing smaller hold size while staying away from the media and retail industries.

  • Areas of focus will include healthcare, security, and technology as all have been good performers for us within the leverage lending.

  • We do not expect to provide financing to media and retail industries which have been poor performers in our portfolio.

  • In addition, our equipment finance team started work earlier this month and though we are not breaking out any individual growth projections for components of our businesses, we do expect that that group to be a meaningful contributor to our asset-based lending platform this year.

  • In commercial real estate, we have abandoned our our past practices of lending on land, second lien, construction and repositioned real estate in favor of providing senior financing on lower leveraged and stabilized cash flowing assets.

  • Though we expect somewhat lower yields than our commercial real estate assets have historically earned, such loans are a better fit for the bank and are less likely to suffer future credit problems.

  • In addition, today's market allows for an attractive spread on stabilized assets, something that was not available for the past several years.

  • An area of particular focus in commercial real estate currently which we expect to continue for some time has been the financing of discounted payoffs.

  • As many banks look to unload loans that are underwater on a current appraised basis, they are allowing borrowers to pay off such loans at substantial discounts.

  • Those borrowers are coming to us, seeking to finance the payoff of their debt while putting in fresh equity capital themselves.

  • In a typical arrangement, the borrower is paying off debt at $0.40 to $0.60 on the dollar, putting up a 20 to 35% of the newly appraised value as new equity, and then seeking a loan for the balance.

  • We are only making these discounted payoff loans for strong cash-flowing properties and we view this as the best opportunity in commercial real estate at the moment.

  • We also see small balance multifamily as another growth area within our real estate lending platform.

  • And in the fourth quarter, we purchased a portfolio of multifamily loans totaling about $65 million.

  • We have also initiated some small balance multifamily loans in recent months and intend to continue to do so throughout 2010.

  • Many banks have exited this area but these loans require only 50% risk-based capital, thereby permitting lower yields and deals and a good solid return on equity.

  • As we put on more high-yielding loans, redeploying our cash and other lower yielding assets, margins should continue to grow.

  • We expect pre-provisioned earnings to increase as well so the timing of a return to profitability rests squarely with the level of quarterly provisions throughout the year.

  • We have a laserlike focus on the management of our legacy credits.

  • And we continue to do everything possible to maximize our return and post the required reserves in order to put this issue behind us.

  • New loans closed and funded in the fourth quarter totaled $206 million, with average all-in yields of 7.87%.

  • A diverse pool of loans closed during the quarter in healthcare, security, technology, multifamily and commercial real estate.

  • Total loans at the bank decreased by about $100 million in the quarter, including the pay downs on the A participation interest which was approximately 900 -- $193 million in addition to other loan payoffs and loan sales.

  • Though the economic crisis is clearly not behind us, we do see some encouraging signs that business is improving for many of our borrowers.

  • We have also seen some incremental activity in the marketplace suggesting that M&A activity, general business growth and expansion will be more in evidence this year than in last.

  • All this bodes well for our transaction-oriented asset growth and it is already being reflected in an expanding pipeline.

  • For the first quarter of 2010, we expect loan origination to be concentrated in healthcare, security, lender finance and multifamily.

  • We are also anticipating an increase in commercial real estate due to the discounted [payoff] opportunities I mentioned earlier.

  • John will close now before we take further questions.

  • John Delaney - Executive Chairman, CEO

  • Thanks, Jim.

  • To wrap up quickly before we go to questions, I want to summarize what we see as the key messages in our fourth-quarter numbers and our 2010 outlook discussed today.

  • First, we are nearing the point when the provisioning for our legacy loan portfolio will be behind us.

  • We expect that to occur this year and with approximately $1.3 billion in marks already taken on our legacy portfolio, we remain very comfortable with [remaining] provisions topping out at approximately $165 million.

  • In that regard, we anticipate the quarterly reserves will decline substantially during 2010 and then return to more normalized levels next year.

  • Secondly, we expect to return to profitability during 2010.

  • The pretax profitability at the bank in the fourth quarter was an encouraging first step.

  • Third, we entered 2010 with a significantly stronger balance sheet than a year ago and with no meaningful liquidity needs until the middle of 2011.

  • We are largely independent of wholesale funding [in the] market and have significant liquidity at CapitalSource Bank to fund our new business growth.

  • Our ability to navigate the economic crisis without the benefit of government aid underscores the soundness of our balance sheet strategy, which has emphasized high capital levels and deposit-based funding.

  • Fourth, the internal review we have completed designed to allocate our resources to the areas where there is the best opportunity for profitable growth has increased our confidence that we can add new loans at a run rate of $250 million to $350 million per quarter.

  • Achieving that level of growth should continue to expand our margins and increase pre-provision earnings.

  • In conclusion, we have a viable and stable long-term business model in place, a strong national lending platform funded by a regional depository, a solid team of senior leaders and a dedicated and hard-working group of colleagues at the Company who are committed to our growth and profitability.

  • That is a formula for success which gives us a high level of confidence about our future.

  • We can now take questions, Operator.

  • Operator

  • (Operator Instructions).

  • Bob Napoli from Piper Jaffray.

  • Bob Napoli - Analyst

  • Thank you.

  • Good morning.

  • Couple of questions.

  • Start on page 20 to page 22, I guess and you guys have been pretty clear that you think $165 million is the max additional provision that you need to take.

  • I mean, that's -- that would be a pretty substantial event if you're able to maintain within that.

  • Now the question is, within that group do you include within these assets, the -- all of the losses [in] the securitization assets even those even where you are -- don't have economic risks?

  • John Delaney - Executive Chairman, CEO

  • Yes.

  • We -- let me make sure I am answering the question the right way.

  • We are treating those assets as being on our balance sheet.

  • So in other words, we don't look at our economic interest in those securitizations when we reserve for loans in those securitizations.

  • We treat those loans as consolidated on our balance sheet.

  • For example, as Don indicated we have a large real estate-related securitization.

  • All of the collateral is real estate-related.

  • It is over $1 billion, more than half of it is commercial real estate and it has got more than $300 million of land loans in it.

  • So it has 60% of our land loans in it.

  • Right now, on an economic basis if you count the charge-offs we have already taken on those loans, and the specific reserves we have on those loans, and the general reserves we have on those loans, we have actually a negative economic interest in the equity that we retained.

  • So we have reserved past our economic interest.

  • So several things could happen there.

  • You know one is as the loans pay off if we continue to reserve past our economic interest and there's a reversal of that at some point.

  • If we were to somehow dispose of that securitization like we did with our earners trust, the loans would go away and there would be reallocation of the reserves.

  • So the answer to your question is when we think about reserving on these loans, we have not historically considered those structures.

  • Obviously, as we think about our inflection point that line of thinking informs our view which is what we're working on right now.

  • Bob Napoli - Analyst

  • If I look at those securitizations that you mentioned I may guess you have the 2006 A and the 2007 A that have the large chunks of real estate in them, how much equity you have in each of those securitizations?

  • Steve Museles - Co-CEO

  • You are talking about -- let's get our definitions right.

  • The retained equity is what you're getting at which is the junior capital we retained when we did the transactions.

  • How much is that of that I think is the question.

  • Bob Napoli - Analyst

  • Yes.

  • Jim Pieczynski - Co-CEO

  • So any '07 a deal, I will deal with that when first because it's the easiest.

  • We have a substantial amount of equity.

  • That was one of the later -- late market transactions we did with a single purchaser so it was always fairly low leverage and paydown considerably so I think we feel good about the equity value in there that there is some equity value to us.

  • (inaudible) was a market [CRE CEO] that was highly levered and do that sort of junior most retained equity piece was about $110 million and sort of as we mentioned in the call, we've charged off about $20 million or $25 million of loans that effectively arose in excess of -- excess spread arose into that junior equity.

  • And then we're now at about 105 million reserves against the rest of that pool if you allocate it the way we allocate the rest of our reserves.

  • So effectively the next class of debt above our junior equity is a $30 million investor held peace of paper that we've -- if everything results in the way we have it right now, we have sort of reserved a little bit for that piece of loss.

  • We do have on the slide presentation some more of the classes above that where we bought back some pieces of debt.

  • But ultimately we are now preserving for effectively a $30 million piece of investor held paper.

  • Bob Napoli - Analyst

  • Okay.

  • A question on deferred tax assets.

  • Assuming that the $165 million holds and you start generating decent profits in 2010, what is the net after-tax -- at the point when you deem it reasonable to assume you are going to use the tax reserve, reverse that tax reserve, what is the net after-tax number?

  • You -- is that the $360 million number I think you gave on the call?

  • Do you tax effect that to get the effect on book value?

  • Jim Pieczynski - Co-CEO

  • The reserve number is sort of a tax-affected number (inaudible) (multiple speakers).

  • Bob Napoli - Analyst

  • Okay.

  • All right.

  • Jim Pieczynski - Co-CEO

  • If that was the question.

  • Bob Napoli - Analyst

  • Yes.

  • And in my last question is that the loans that you are putting on what -- I would assume that in this environment you are putting on loans that -- with great structures and you are expecting relatively low charge-offs.

  • But what kind of loss rates are you assuming and what kind of reserved field can we expect, relative to the assets that you are currently originating?

  • Don Cole - CFO

  • I would say obviously the loans that -- the loans that we are originating now are obviously going to be lower leverage loans which are going to be more attuned to traditionally going into a bank.

  • In terms of the loan losses associated with that, the provision that we're going to have is going to be a very low general reserve associated with it because we are obviously not counting anything in the way of specific reserves on the new lines that we're booking.

  • So naturally, we are expecting we are lending in a new environment.

  • Consequently your are going to have lower general reserves on those new assets that you are looking.

  • John Delaney - Executive Chairman, CEO

  • And just to give a couple of benchmarks in the extremes.

  • Steve mentioned the four categories that we have significantly reduced the size of the portfolios on being secondly real estate land mortgage free discount media.

  • Those four are the four highest general reserving categories we have today.

  • We are not adding new loans there.

  • They all have general reserve categories ranging from 10% to north of 20.

  • And recently we have seen a lot more activity in things like healthcare [AVL] where our experience shows reserves in just a basis point level.

  • So that kind of reinforces the point Jim's making.

  • Operator

  • (Operator Instructions).

  • We do remind you that when you do ask your question you are allowed one question and a single follow-up.

  • Our next question comes from Don Fandetti from Citigroup.

  • Don Fandetti - Analyst

  • Good morning.

  • John, wanted to just see where you are on this sort of broader refinancing with the banks and just get a sense on it that is sort of an '010 event or early '011.

  • John Delaney - Executive Chairman, CEO

  • When you say you refinancing with the banks do you mean, Don, how we're thinking about our 2011 convertibles?

  • Don Fandetti - Analyst

  • Well, yes, exactly.

  • I think you had talked about maybe doing a broader financing (multiple speakers).

  • John Delaney - Executive Chairman, CEO

  • And I think we are very -- we're -- we've got a number of different options we are considering.

  • And I think we view it as a 2010 event.

  • Don Fandetti - Analyst

  • Okay and just looking at page 22 of your expected losses, you look at CRE other, basically what you're saying is you don't expect anymore provisions on CRE other and also through the remaining charge-offs are about $100 million, but you charged off about $71 million in Q4.

  • Just trying to get a sense on how comfortable you are with some of these line items in particular CRE other?

  • John Delaney - Executive Chairman, CEO

  • Well, I think the way we have -- the page you are looking at we first put out about a year ago by these different categories.

  • And when we think about how comfortable we are with these numbers, we generally think about them more in the aggregate than in the individual line.

  • Particularly say in real estate, for example, where we broke out the real estate categories just because we wanted to have more transparency around what the different buckets were, and we were really trying to break out land in second lien because of the likelihood for very high severities there.

  • So when we think about these cumulative loss numbers, we generally think about them in the aggregate, particularly among a category.

  • So we recognize we are over on some categories and under on some and we get that.

  • We didn't want to start changing our assumptions here.

  • We thought we would just present the information in a consistent manner.

  • So I would say we are comfortable in the aggregate recognizing we may be over or under on some.

  • Like, some of our categories we actually think we will do quite a bit better on.

  • Resort Club, for example, where we don't see any evidence that there's any deterioration but we've got some decent sized numbers here.

  • So you know will some of that slide into real estate, potentially, is how we think about it.

  • Don Fandetti - Analyst

  • Fair enough.

  • Thanks a lot.

  • John Delaney - Executive Chairman, CEO

  • Don, if you want to add anything.

  • Don Cole - CFO

  • Yes and I'll just add one thing that kind of moves some of these numbers around a little bit.

  • John mentioned Resort Club and when you look at sort of timeshare, other there's some -- some real estate-based assets in there.

  • Because those real estate type collateral assets have had very little loss experience, we've elected to lump them in with our commercial real estate to generate our overall historical loss.

  • Because otherwise they would get almost no loss associated with them or general reserve.

  • So among some of those real estate types, sometimes the general reserves in this allocation methodology might slide around.

  • So again, to John's point, it I think in total we feel good and I think, obviously, the one that jumps out is sort of a timeshare receivables or Resort Club where we think we will do better and maybe these numbers are showing that we are slightly over on CRE other.

  • John Delaney - Executive Chairman, CEO

  • Right and, Don, could we just add a little more color on how we think about this whole category is, we generally have a view that we are in a pretty good spot where we are, vis a vis reaching our inflection point and being adequately reserved, right?

  • As of today.

  • What we have, what we're going to do now to prove that to ourselves is really start doing different analysis of the portfolio to start making the case for ourselves that that is, in fact, true.

  • And that's a process that we are -- we didn't really start doing that until now because, until now, I don't think we were really at a point where we said we feel like we are pretty darn close.

  • Because we have to prove to ourselves that, yes, we have sufficient reserves and we can stop reserving against the legacy portfolio.

  • I think a lot of the work we have done gives us confidence that we are certainly in that zip code, but now we need to do much deeper work to effectively prove that case to ourselves.

  • Because that's a high standard that we have to hit, if you will.

  • And that is where we are at this point.

  • Don Fandetti - Analyst

  • Thanks John.

  • Operator

  • John Hecht with JMP Securities.

  • John Hecht - Analyst

  • Good morning.

  • Thanks for taking my questions.

  • First one, trying to get a little bit more information about the discussion on the securitizations.

  • Clearly, you talked about that you reserved more than your actual -- your actual equity collaterals in some of these structures and one would expect that these structures are deleveraging rather fast, given the cash flow accumulation in them.

  • Can you give us -- maybe, can you give us a figure that would tell us what the total excess reserves above your equity value is?

  • And can you characterize, maybe is there a time where these are deleveraged sufficiently where you may be able to extract some of your residual value out of these vehicles?

  • Don Cole - CFO

  • I will start off by saying sort of each vehicle is independent individual and there is some detail about them again in one of the slides.

  • I think about them in slide 30.

  • I mentioned we talk specifically about the real estate ones.

  • 07 A is very low lever at this point, and is paid down fairly rapidly which that one sort of we view as one that will probably pay off more rapidly than the others and will free up some collateral for the parent.

  • '06 A, as I mentioned, is highly levered.

  • And has -- it is the one where at this point we are actually over reserved to the point of our junior equity and again I -- effectively reserving for some of the more junior debt investor held debt classes.

  • There is another securitization 2007-1 where losses have almost fully eroded our losses plus reserves almost fully eroded our equities so we are pretty close.

  • And depending on collateral performance, we could tip into that sort of over reserve position.

  • '06-1 is a fairly well performing securitization.

  • Again I think that is one where we expect that to pay off and our equity will maintain significant value.

  • And then '06-2 is a large highly levered commercial securitization where I would say probably too early to tell because it is so large.

  • But we still have not reserved through our equity in that one.

  • John Hecht - Analyst

  • Okay that's --

  • John Delaney - Executive Chairman, CEO

  • Just to make sure we are being very transparent here.

  • Only one securitization how we reserved and charged off through our equity.

  • Just to answer so you don't think that they have all done that.

  • Only one so far (multiple speakers).

  • One closed.

  • Right.

  • John Hecht - Analyst

  • No I got that color in the answer so that is very helpful.

  • Thank you.

  • And the second question is just related to as you work through some of the nonperforming and troubled assets, can you give us a sense for how are we covering these to where you mark the assets, the time of working them through and what is the character?

  • Can you characterize that?

  • You know are sponsors willing to continue to put more equity in at this point and is all of this after so when you look at that part of your business are they suggesting that?

  • In the recent (technical difficulties).

  • John Delaney - Executive Chairman, CEO

  • Right?

  • So that would imply that the market is slightly deeper which gives you more visibility as to numbers and more options upon resolutions.

  • But it should be noted that it is still a very slow painful long process.

  • So it hasn't moved to a liquid easy market where you take a write-down and you know exactly that is the number and you have a line of people willing to buy the asset but it is moved from a situation where you are really in a no-bid market.

  • And you felt like values were continuing to fall to a point where you have been relatively severe with respect to values and you get that interest and activity around those numbers.

  • That would be how I would describe the real estate situation.

  • The corporate finance situation is a different set of facts.

  • We have seen better sponsor support than we had seen at the depth of the crisis when people were just terrified and were not supporting even good businesses.

  • But there continues to be downward pressure on companies that are tied to the economic cycle.

  • So media advertising dependent retail -- media companies and retailers continue to face pressure.

  • We had a retailer we were financing that had been limping along and we made the decision to liquidate this past quarter just because their holiday season was bad.

  • So you're continuing to see lots of pressure on corporate finance companies that are very much tied to the cycle.

  • So that is how -- I mean that's how I describe it.

  • I mean if you think about our economic cycle as having two components to it which is a traditional economic recession and kind of a balance sheet recession.

  • You know, the economic recession in a lot of our portfolio we see some stabilization.

  • The balance sheet section, which is tied more to obviously real estate-related collateral, we are expecting that to stay kind of marketed as it is now for some time.

  • John Hecht - Analyst

  • Great.

  • Thanks very much, John.

  • Operator

  • Sameer Gokhale from KBW.

  • Sameer Gokhale - Analyst

  • Thank you.

  • This first question was in terms of your comp expense for the quarter, I know that you talked about some severance charges that you recorded.

  • What were those severance charges?

  • Just so we can get a better sense for the run rate and your compensation expense going forward?

  • John Delaney - Executive Chairman, CEO

  • You know to not go into the specific detail in each one I would say we think our run rate is probably consistent with where we were in the third quarter.

  • So -- or even slightly less, but basically I think the delta in there was all related to either actual severance payments or some of the impacts of vesting related to contractual severance arrangements.

  • Sameer Gokhale - Analyst

  • Okay and then in terms of the amortization of some deferred financing fees, you talked about that in your press release also.

  • Were those material -- you had talked about them in the context of paying off some credit facility and accelerating the amortization of those fees?

  • Steve Museles - Co-CEO

  • Right.

  • So we amortized on these revolving credit facilities, these fees, over the remaining life of the facility.

  • And it is based upon the expected payoff schedule.

  • As you know, obviously, in the fourth quarter we paid down our syndicated bank facility by roughly half.

  • It was over $200 million in pay downs related to sort of the Omega transaction.

  • And I think the number that we amortized was about $4.5 million of what I will call accelerated amortization in that facility alone.

  • So at the bulk of it it was that one facility that sort of rapidly paid down and you know if we have other similar liquidity events that lead to rapid paydowns, we will also have to continue to accelerate some of the expenses related to those facilities.

  • Sameer Gokhale - Analyst

  • Okay.

  • And then even in terms of some of the growth areas that were targeted -- I think Jim gave some detail on that, John talked a little bit about those areas.

  • But it feels like based on the areas identified when Jim spoke a little bit about the leveraged loan market, but it doesn't seem like that's really going to be that much of an area of focus.

  • It looks like you are looking more at the traditional asset-based lending categories, looking into 2010.

  • Is that a fair characterization at this point?

  • Because it just seems from some accounts there's this huge pent-up demand for [LBO] financing and with a lot of CLOs you know their reinvestment terms maturing -- expiring, there's not as much funding available for those kinds of transactions and you could be the sweet spot there.

  • But it doesn't seem like you are emphasizing that.

  • So am I thinking about that correctly you?

  • Or maybe you can correct me if I'm wrong.

  • Jim Pieczynski - Co-CEO

  • No, I would say you are looking at that correctly.

  • I think our focus is going to be, obviously, healthcare is going to be a big focus, rediscount, technology and security.

  • While yes we are going to be doing transactions in the leveraged finance business, that is going to be a lower emphasis this year than it has been in the past.

  • Sameer Gokhale - Analyst

  • That's great.

  • Thank you.

  • Operator

  • Michael Taiano from Sandler O'Neill.

  • Michael Taiano - Analyst

  • Good morning.

  • Couple of questions.

  • I guess, first, just to clarify on the profitability guidance for 2010.

  • Is that an expectation for the full year to be profitable or just in any quarter in the back half of the year?

  • John Delaney - Executive Chairman, CEO

  • You know what -- that's consistent with what we said last quarter and I think what we were really getting at is that when the first moment the Company is profitable.

  • We haven't really provided any guidance with respect to full year or anything like that.

  • It was more just a -- kind of a line in the sand comment if you will.

  • Michael Taiano - Analyst

  • Got you.

  • Okay.

  • And then just on the -- in terms of the bank and it seems as if you are to some degree shifting the mix of loans originations within the bank.

  • Could you maybe provide us with sort of some context as to once you get through the legacy loans running off, what sort of profitability dynamics are we looking at?

  • Can you give us some sense -- is the 4.5 sort of net finance margin sort of a sustainable number?

  • Do you see it going up north of that and how is it positioned for higher rates?

  • Because I know you do have a fair amount of loans that are interest-rate [boards].

  • John Delaney - Executive Chairman, CEO

  • When we [mounted] the profitability of the bank going forward you know there's one or two very large assumptions that we make that's hard for us to predict at this point.

  • Because right now the bank is held to a high capital level.

  • Right.

  • Our capital levels are very high at the bank.

  • And as we have said in the past we -- our relationship with regulators is such where we have 15% regulatory capital.

  • Clearly that makes the ROE at the bank lower than it would be with the kind of profitability that we are producing on the loans that we are originating than if we could run with the 10 or 12% which is a much normalized level for an institution.

  • So we have avoided a little bit providing specific ROE guidance in the bank because, you know, at this point until our three-year period is up with the regulators, we are not certain.

  • And when we do our forecasting we have a variety of forecasts.

  • One, assuming we stay at 15.

  • The other assuming we are -- we're put in a position with most banks which is more like 10 to 12.

  • Which based on the performance of the bank and how it is run, it would be hard to imagine over time that we don't -- are treated more fairly with respect to other banks.

  • We understand high capital levels for the de novo period.

  • It makes total sense, but as we think out several years, our aspiration is that capital level is a bit more nearer what other banks have which would make the profitability of the bank from an ROE perspective actually very attractive.

  • But we haven't given any specific guidance around that because we actually don't know in '012 or '013 will we be running with 15 or 12.

  • Michael Taiano - Analyst

  • And what about from an ROA standpoint?

  • Could you give us maybe some sense on that?

  • I guess it depends on sort of the mix of loans over time.

  • Don Cole - CFO

  • Right and I would say so in terms of the guidance we provided relative to the originations this year kind of the yields that we are expecting to get on our loans are going to be an average of a minimum of 7.5% and obviously looking for that number to be better to the extent we can get it.

  • And then you compare and contrast that with our cost of funding at the bank which is the cost of our deposits there is below 2%.

  • So when you sit there and say what do we expect with respect to our net finance margin, it is fair to assume that that number is going to increase because of A, that fact that we have new originations going on and coupled with the fact that we have the [iStar] A participation paying down.

  • So we are definitely going to be redeploying into higher yielding assets and our cost of funds is very attractive right now.

  • So I think it is fair to assume that you would see our net finance margin increase slightly from what we had in the fourth quarter.

  • Michael Taiano - Analyst

  • And then just one last housekeeping item.

  • Did you guys sell the Omega stock that you received by the end of the year?

  • Jim Pieczynski - Co-CEO

  • We have not sold it yet.

  • You know as we said our intention is to do so.

  • A lot of that Omega stock is held in an internal rate that we created to hold our [outstanding] lease assets so the real driver there is trying to make sure that we handle that appropriately from a tax perspective.

  • Michael Taiano - Analyst

  • Okay so but it's not in the cash balance at the end of the year?

  • Jim Pieczynski - Co-CEO

  • It is not.

  • Michael Taiano - Analyst

  • Thanks.

  • Operator

  • Scott Valentin from FBR Capital Markets.

  • Scott Valentin - Analyst

  • Thanks for taking my question.

  • Just with regard to the overall capital structure at the holding company and debt restructuring, John, maybe -- you mentioned this in the restrictions I guess because of the high yield piece, the secured high yield piece that was issued in July.

  • Could you go specifically into what those restrictions are and how much of an impediment is it into maybe restructuring some of the debt?

  • John Delaney - Executive Chairman, CEO

  • We could.

  • I mean, I'm not sure we necessarily, Scott, want to -- it might be better to do that off-line with you because it's fairly detailed.

  • I'm not trying to avoid it, it is actually fair.

  • It's a question we are comfortable talking to people about because it's all the documents are public, but it is a very long explanation.

  • Scott Valentin - Analyst

  • Okay, no, I --.

  • John Delaney - Executive Chairman, CEO

  • And we would be happy to call you right after this call and go through the whole thing with you.

  • So I'm not trying to avoid the question and not trying to avoid a question to anyone else because it's actually out there in the documents, but it is a little hard to follow.

  • And we are happy to talk to you about it, but I think going through it on this call may be a little cumbersome.

  • Scott Valentin - Analyst

  • Okay, and as a follow-up question --

  • John Delaney - Executive Chairman, CEO

  • Don, do you agree with that?

  • Don Cole - CFO

  • I agree to that.

  • Scott Valentin - Analyst

  • Sorry, as a follow-up question.

  • What would -- from a regulatory perspective I guess, a moratorium on the bank paying a dividend to the holding company.

  • When will that moratorium end?

  • Don Cole - CFO

  • You know de novo.

  • It was three years when we formed the bank in July 2008.

  • There's been recent guidance that extends the de novo period, up to seven years.

  • It is unclear what that impact will be on our ability to pay dividends out of the bank to the parent.

  • I think we'll know more when we submit another business plan for the bank a year from now basically.

  • Steve Museles - Co-CEO

  • And just one follow-up point on that.

  • You know our liquidity model the parent doesn't assume or assume it needs any dividends from the bank and we feel the best use of any excess bank capital is actually redeploying to bank loans.

  • So we don't look at that limitation or the timing of that or any kind of effect on our overall business.

  • John Delaney - Executive Chairman, CEO

  • Right, we would like it to go the other way as we liquidated capital at the bank, put the money -- parent put the money in the bank and grow the bank and pursue opportunities at the bank.

  • So --.

  • Scott Valentin - Analyst

  • All right.

  • Thanks very much.

  • John Delaney - Executive Chairman, CEO

  • Sure and we will give you a buzz afterwards.

  • We will also have Jeff Lipson, our Treasurer, on the line to really go through that your question in good detail.

  • Dennis Oakes - SVP - IR

  • Thank you, everybody.

  • That concludes our call.

  • Have a good morning.

  • Operator

  • Thank you.

  • The conference has now concluded.

  • Thank you for attending today's presentation.

  • You may now disconnect.