Pacific Premier Bancorp Inc (PPBI) 2016 Q4 法說會逐字稿

Good morning and welcome to the Pacific Premier Bancorp fourth-quarter 2016 conference call.

(Operator Instructions)

Please note that this event is being recorded. I would now like to turn the conference over to Steve Gardner, Chairman and CEO of Pacific Premier Bancorp. Please go ahead.

Thank you, Daniel. Good morning, everyone. I appreciate you joining us today. As you are all aware, earlier this morning we released our earnings report for the fourth quarter of 2016. I'm going to walk through some of the notable items. Ron Nicolas is going to review a few of the financial details, and then we'll open up the call to questions.

I will also note in that our earnings release this morning, we have the Safe Harbor Statement relative to the forward-looking comments, and I would encourage all of you to take a look and read through those. We had a solid quarter from a number of perspectives, demonstrating our ability to deliver profitable organic growth while also continuing to add value to our franchise through our M&A strategy. We generated $12 million in net income, or $0.43 per diluted share in the quarter.

Relative to last quarter, our strong earnings growth was driven by positive trends across most of our key metrics and a return to a more normalized level of noninterest expense and credit costs. The primary driver of our financial performance continues to be our ability to generate high quality balance sheet growth through a variety of commercial banking areas. We had another record quarter of loan production, generating $385 million in new loan commitments which resulted in annualized growth in our loan portfolio of approximately 20%.

The loan growth is the product of a number of factors. Our disciplined and consistent approach to business development that creates a steady flow of new clients; healthy economic conditions; and good loan demand in our markets. And the quality of our relationship managers, which was significantly enhanced earlier this year with the Security Bank acquisition and will be further strengthened through the acquisition of Heritage Oaks.

Our loan production continues to be well balanced with all of our major lending areas making significant contributions to our overall loan growth. During the fourth quarter, we originated $52 million in new C&I loan commitments; $57 million in franchise loans; $36 million in SBA; $90 million in construction loans; and $103 million in commercial real estate loans. As has been our ongoing strategy, we prioritize business-related loans and higher-yielding specialty finance products in C&I, franchise lending, construction finance, and SBA loans. This focus continues to produce a high quality, well-diversified loan portfolio that generates favorable risk-adjusted yields.

Moving to other notable highlights in the quarter, when the merger-related expenses are excluded, our noninterest expense was within the $24 million to $25 million range that we guided to on our last conference call. We have previously talked about the investments we made throughout 2016 to build an infrastructure that will support our longer-term growth and ensure that our enterprise risk management practices and internal controls keep pace with the higher regulatory expectations for larger high-growth banks.

These investments were made in anticipation of executing a larger transaction which, of course, occurred on December 13 of last year. Upon closing of the Heritage Oaks acquisition, we will exceed $6 billion in assets. With the additional scale from this acquisition, over time we expect to increase our operating leverage and improve efficiencies.

As I indicated earlier, we also saw a return to more normalized credit costs this quarter as asset quality strengthened. Our total nonperforming assets declined during the quarter and stood at just 4 basis points of total assets at the end of 2016. We recorded a provision expense of $2.1 million for the quarter with most of that related to the growth we had in the loan portfolio.

With the strong revenue growth and well-managed expenses, we were able to generate a return on average assets of 1.24% and a return on average tangible equity of 14.42% in the quarter, which is more in line with the performance standards we have established for Pacific Premier. Of course, the most significant event of the quarter was the signing of a definitive agreement to acquire Heritage Oaks Bancorp. This acquisition will extend our franchise into the attractive deposit-rich California central coast market.

Since the announcement, we have had the opportunity to meet with all of the key managers and relationship bankers of the Heritage Oaks organization and we've been very impressed with the quality of the team. Based on our conversations and meetings, we remain bullish about the growth prospects in this market. The strong deposit franchise that Heritage Oaks has built, coupled with our highly productive approach to generating new client relationships, should further enhance our ability to deliver profitable growth.

In taking us over the $6 billion asset mark, the acquisition of Heritage Oaks will not only improve our scale and operational efficiencies but also open up new markets for us to continue to build franchise value. The Heritage Oaks acquisition is on track to close in late Q1 or early Q2 of this year. We have made substantial progress towards integrating the two organizations and are looking forward to both the strategic and economic benefits that will result from this combination. And we believe that we will have greater opportunities to create value for all shareholders.

Looking ahead to 2017, we intend to continue employing the same strategies that have generated strong value creation for our shareholders over the past several years. We will remain focused on developing commercial banking relationships that result in stable, low-cost core deposits. We will continue to maintain a well-diversified, high-quality loan portfolio that generates attractive risk-adjusted yields and solid fee income for the bank.

We will employ leading-edge technology to enhance our sales management process and further improve the highly productive sales culture that has driven our consistent organic growth. We will maintain disciplined credit risk management practices that have produced the superior credit quality that has been a foundation of our franchise. We will look to invest in our personnel and infrastructure to ensure we are effectively managing our growth and assuring appropriate internal controls and enterprise-wide risk management.

And we will supplement our organic growth with additional acquisitions of commercial banks that will deepen our penetration of existing markets and expand our franchise to other areas along the West coast. We believe favorable conditions will remain in place in the coming year. We are generally seeing an increased level of optimism among our clients regarding the economy and the prospects for growing their businesses. And we believe that loan demand will support another year of quality loan growth.

With continued organic growth, combined with the positive impact of the Heritage Oaks acquisition, we believe we can deliver solid profitability in 2017 and create additional value for our shareholders. With that, I'm going to turn the call over to Ron to provide a little bit more detail on our fourth-quarter results. Ron.

Thanks, Steve. And good morning, everyone. We have provided a fair amount of detail in our earnings release today. So I will review some of the more significant items in the quarter focusing primarily on the linked quarter comparison starting with the income statement.

As highlighted in our earnings release, net income was $12 million, and we earned $0.43 per diluted share on 28 million fully diluted average shares outstanding in the fourth quarter compared with net income of $9.2 million and $0.33 per diluted share in the third quarter. Total pre provision revenues came in at $46.6 million compared with $45 million in the prior quarter. Key drivers were stronger net-interest income, primarily as a result of a larger balance sheet, partially offset by lower noninterest income.

During the quarter, we provisioned $2.1 million compared with $4 million in the prior quarter. Noninterest expense, as anticipated, decreased to $25.4 million and included $772,000 of merger-related costs as well as $369,000 of REO expense. Excluding merger-related costs, our noninterest expense was $24.6 million in line with our previous guidance.

Turning now to more specific income-statement line items, our net interest income increased by $3.3 million driven principally by our loan and securities portfolio growth as well as our earning asset mix. You will recall, at our third quarter earnings call, we discussed strong loan growth in the back half of the third quarter, giving rise to higher loan balances and Q4 net interest income. Combined with our fourth-quarter production, the bank added $181 million in average loan balances and $65 million in average investment balances which, combined with lower cash average balances, added $1.5 million to net interest income.

In addition to our net interest margin increase to 4.59% compared to 4.41% in the third quarter, and included 18 basis points for accretion, 5 basis points for the special FHLB dividend and 4 basis points for a one-time interest accrual adjustment. Our core net interest margin was 4.32% compared with 4.22% in the third quarter, including the impact of prepayment fees. The core net interest margin increase was principally driven by an improved earning asset mix.

As we mentioned at our last call, we were able to lower our cash requirements and redeploy the excess funds into both higher yielding loans and securities. We saw the full benefit this quarter as our average cash balances were reduced to 3% of total average earning assets from 6% in the prior quarter and our loans and securities grew to 97% of total average earning assets from 94%. The more efficient balance sheet resulted in higher net interest income of almost $1 million this quarter. Of course, we will not see this quarter-to-quarter increase repeat in the first quarter.

Our overall cost of deposits came down 1 basis point to 27 basis points as some of our higher-yielding time deposits ran off. We do not anticipate significant changes with our cost of funds at this time. However, we remain cautious in terms of deposit-pricing pressures.

We believe our core net interest margin should continue to hold up as we move into the first quarter. While there continues to be downward pressure on loan pricing, the bank has never competed solely on price. We continue to remain disciplined while balancing customer needs and taking into consideration the full customer relationship.

Going forward, accretion will continue to have a lesser impact in the first quarter from the 18 basis points realized this quarter. Our larger earning-asset base and improved earning asset mix will help to combat increasing competitive pricing pressures. In addition, with the most recent rate hike, we saw approximately $750 million or 23% of our loan portfolio reprice immediately. And we will see another $300 million reprice as we move through 2017.

The bank recorded a provision for loan loss of $2.1 million for the quarter compared with $4 million in the prior quarter. In addition to providing for loan growth of approximately $1.6 million, the bank provided for unreserved net charge-offs of $500,000. Total net charge-offs were $2.6 million of which $2.1 million were previously reserved.

Noninterest income decreased $1.7 million to $4.3 million from the third quarter for a few reasons. First, during the quarter, the bank sold $30 million of SBA loans achieving a net gain of $2.4 million compared with $36 million sold and a net gain of $2.7 million in the third quarter. The net gain rate bounced back, improving approximately 50 basis points to just over 8% in the fourth quarter.

In the third quarter, you will recall the bank also had a one-off commercial loan sale gain of approximately $450,000. We also had lower gains related to recoveries on preacquisition charged-off loans of approximately $200,000. And lastly, we sold approximately $17 million of securities in the third quarter achieving approximately a $500,000 gain and did not sell any securities this quarter. Given the potential rising rate environment, we see less security sales in the future.

Turning now to noninterest expense, overall our noninterest expense came in at $25.4 million and included the $772,000 of merger-related costs as well as REO expense of $369,000. As we discussed at our prior earnings call, we anticipated noninterest expense to be in the range of $24 million to $25 million. Excluding the merger related costs, our total NIE was $24.6 million.

Most of the remaining expense line items were in line with our expectations and the areas of one-time costs we highlighted in the third quarter, namely compensation, marketing and other operating expense, came down as anticipated. As we move into the first quarter, and forward with our integration plans for Heritage Oaks, we expect some growth in our operating expense in anticipation of our end of the first quarter or early second-quarter close and subsequent integration and conversion activities.

Lastly, the bank ended the quarter at 446 full-time equivalents, down two FTEs from our September 30th number. Our effective tax rate was just under 38% in the fourth quarter, as we trued up our tax rate for our final 2015 filings and the 2016 full-year impacts. Notwithstanding any significant changes to the corporate income-tax laws, we would anticipate our 2017 effective tax rate to continue to be in the 38% to 39% range. Keep in mind our merger-related costs are generally nontaxable and will unfavorably impact our tax rate as we move through the second and third quarters.

Turning now to the balance sheet highlights, total loans, as highlighted in our release, increased by $150 million or 20% on an annualized basis and were driven principally by record organic originations for the quarter of $385 million, eclipsing the previous record of $322 million set last quarter. Total average loan balances rose by $181 million during the quarter reflecting the strong originations in the back half of the third quarter, giving rise to the expanding net interest income and net interest margin.

Origination yields were down slightly at 4.80% compared with 4.87% in the prior quarter, reflecting increasing pricing competitiveness, partially muted by our favorable business mix and pricing discipline. We anticipate new origination loan yields may hold flat with the initial rate move offsetting some of the downward competitive pressure on loan rates.

Total combined portfolio amortization and repayments accelerated somewhat this quarter, compared with the third quarter, and the annual rate of repayment grew to 26% compared with 24% in the prior quarter. This was more a function of normal amortization and line utilization than prepayments which actually declined compared to the third quarter.

We grew our investment portfolio $68 million as we purchased $88 million during the quarter and saw $14 million redeemed and amortized and incurred a $7 million fair value mark-to-market adjustment. We continue to target a portfolio size equal to 10% of our total assets. Overall deposits grew $86 million with interest bearing higher by $61 million and noninterest bearing higher by $25 million.

Our non-maturing deposits grew $83 million to almost 82% of total deposits as of December 31st. Of the approximate $86 million in deposit growth, our HOA deposit business grew $24 million and totals over $750 million as of December 31st. The Company and the bank both remain well capitalized across all regulatory capital measures and our tangible book value increased $0.29 per share to $12.51 during the quarter despite the negative after-tax impact of the mark-to-market to the available for-sale securities portfolio.

Lastly, taking a look at asset quality, our ALLL ended the quarter at $21.3 million down $500,000 from the prior quarter with our coverage ratio at 0.66% of loans held for investment down from 0.71%. Both of these slight decreases were directly attributable to the loans charged off that had specific reserves. The ALLL reserve coverage on the nonclassified loans remained flat at 0.74%.

Total net charge-offs for the quarter were $2.6 million and included two credits which were previously reserved for totaling $2.1 million. Nonperforming loans decreased $4.8 million to $1.1 million, or 4 basis points, as a result of the net charge-offs as well as a $2.5 million note sale for the full amount owed. And finally, our total delinquency of $832,000 was 3 basis points of total loans compared with 18 basis points in the prior quarter.

With that, we would be happy to answer any questions you may have. Operator, please open the call up for questions.

(Operator Instructions)

Our first question comes from Matthew Clark with Piper Jaffray.

Good morning.

Good morning, Matthew.

Good morning.

Maybe just first on the pipeline and related outlook and loan portfolio coming off a couple of quarters of record production. Just curious how the pipeline stands today going into the first quarter and just any seasonality we should consider again going into the first quarter is useful.

Sure. Historically, Q3, Q4, the second half of years are typically our strongest quarters, Matt; and Q1 typically is a weaker part of the year. That being said, we have a pretty strong pipeline headed into Q1, roughly $500 million. The investments that we made and more importantly the acquisition of Security Bank last year is continuing to contribute to the pipeline and its strength. So overall, it's pretty strong headed into Q1, but at the same time, Q1 is historically our slowest quarter of the year.

Okay, great. And then maybe on the loan-to-deposit ratio, up to 103%, I know the [Heritage Oaks] acquisition is going to help that equation after that deal closes but in the interim should we anticipate some loan sales maybe here in the first quarter or do you expect deposit growth to pick up?

We have historically done loan sales at various times and loan purchases to manage a number of areas, our liquidity risk, credit risk, concentration risks and the like and it's something that we will take a look at. We balance that against the deposit inflows, the prepays, the origination and there's no way to get it right every single time, per se, or exactly where we might like it. And so we'll look at that as a potential option as we move through the quarter.

But as you pointed out, we have the Heritage Oaks acquisition coming up. Their loan-to-deposit ratio at the end of the third quarter was quite a bit lower than us. We think that there is plenty of opportunity to grow the deposits there in the central coast region. And as such, we will look at all of those factors in determining whether or not we have loan sales here in Q1.

Okay, great. And then a last one, in a non-performance year, you're de minimis of 5 basis points with loans in OREO and I'm just curious. First, have your classified or criticized classified trends followed suit, and also just curious if you could add some additional color around your customer base. It sounds like they are feeling more optimistic, but just curious what you are seeing on the CRE front, anything that might make you a little bit more cautious or vice versa.

Sure. So the classifieds have come down with the rest of the improvement in strengthening in the classified assets. We ended the year at, what was it -- ?

Five basis points, I believe it was.

No, in the classifieds, Ron. We'll get that number in a second. And then I will just speak to you generally. As I mentioned, discussions that we're having with our business owners and clients, I think that there is generally an optimistic mood that with potential regulatory reform, tax reform, that there could be increased growth in the economy, and I think that generally speaking, most of the business owners are incrementally more optimistic.

I think with a lot of us that have operated in this economy since the financial crisis, you like to hear the rhetoric and discussion out of DC and I think that all of us are cautiously optimistic, but I don't think that any of us lose sight of the fact that we still have a two-party system in this country. And so we will see how things shape out and how that could positively impact the economy. But, as I said overall, I think business owners are more optimistic today than they were at the end of Q3.

I don't see any areas of CRE or any other loan category that is giving us pause for concern. As we've talked about a number of times, over the last several years, we have seen liquidity flow into the commercial real estate markets. That has not been due to a lessening of debt or loan conditions at least not at our institution. It has been predominantly equity liquidity that has flowed into the markets where you have new entrants that have very strong balance sheets personally and in their businesses looking to invest their excess liquidity and seeing real estate, commercial real estate, in particular multifamily and the like, as an attractive opportunity.

And, Matthew, just to follow up on Steve's comment, total classified loans were $13 million, 40 basis points of total loans for the quarter. So they were down and trending downward.

Got it. Thanks.

Our next question comes from Bob Ramsey with FBR.

Hey, good morning, guys. Just thinking about the margin, I know you mentioned the FHLB special dividend, is that included in the core margin and so should we start the first quarter five basis points narrower? Is that fair?

No, Bob, I excluded the five basis points, the special dividend portion from the FHLB from our core margin. So our core margin was 4.32. That included about 14, 15 basis points of prepayment fees that accelerated, of course, that came about, but that is our core margin stripped of all of the one-time items.

Okay. Perfect. That's good to know. And then thinking forward, I know you guys said that stronger earning assets will certainly be a little bit of a lift. Do you think with the shorter day count, net interest income is up directionally in the first quarter, with a little lower prepayments, but more -- ?

I think it will be not a material impact.

Yes, I don't think the shorter day count will affect it. Obviously as I mentioned in my earlier comments, we got a one-time quarter-to-quarter lift through the redeployment of the lower cash into loans and securities. That was a one-time opportunity here in the fourth quarter that we realized. The larger balance sheet going forward will continue to give us lift. So we'll see that continue as we move forward into the first quarter. But I'm not so sure that the day count is going to have much of an impact.

Okay. Shifting gears to talk about M&A, at Heritage Oaks, you guys sound like you're on track, going to close that before too terribly much longer. When are you ready for the next transaction and how would you describe the pipeline of transactions out there, or conversations you may have had?

We're ready now.

You're ready now, okay.

Sorry for interrupting. We're ready now. We're continuing to have conversations. I think the pipeline is similar to how it's been over the last several years in that activity ebbs and flows.

Certainly there are fewer targets as we move up in size and we look that we start to limit the size of institution that we want to consider. We still look at -- we think about today as the minimum $500 million. We really wouldn't have much interest below that and even $500 million is on the low end of the scale. We would much prefer to see deals in the $2 billion, $3 billion to $5 billion range quite frankly.

And is $5 billion the high end or would a merger of equals be the high end, or how high would you go?

We don't do mergers of equals. And I don't know. I haven't seen it in -- maybe at the local zoo, there's a merger of equals, but I'm not familiar with it in real business. But, no, $5 billion is not the cap. We would look at larger institutions that we think we could add value and that would add value to our shareholders as well.

Okay. And maybe last question on that front, any sense in how potential seller sentiment has changed post election, or are targets more interested in selling because valuations have improved? Are they less interested in selling because it appears that there could be a lot of opportunities in banking or how are sellers thinking about their options?

I think that every seller is different, and they all have differing perspectives, depending upon the outlook that they see for their business. Certainly the regulatory impact and cost, their ability to earn their cost of capital, a whole variety of factors and I don't think that you can lump any of them together in one category or another.

Okay, fair enough. Thank you for taking the questions.

Sure.

Our next question comes from Jacque Bohlen with KBW.

Hi, good morning, guys. Just as a follow-up to the last conversation, as you think about future acquisitions and given that would you consider somebody up to $5 billion or perhaps even higher, how do you think of crossing the $10-billion platform and what requirements would be necessary to do that?

We've started to just think about that within the last two to three months. We don't anticipate it immediately, but we are thinking about that threshold and the impacts that it has from a whole host of areas, whether it's DFAST becoming regulated by the CFPB and a whole host of other areas. And we've been taking steps in the organization.

It's that constant seeking to improve, strengthening the Executive Senior Management Team, improving on our processes, constantly looking at our organization, its structure, the internal controls, becoming more sophisticated in our modeling, our model validation, enterprise risk management, and all of those things. Those are all things that we are looking at and considering, and putting, and beginning to put in place as we speak. And it's just, again, Jacque, part of our constantly seeking to get better at what we do.

Okay. So fair to say already in your infrastructure, some of the improvements that have been happening and then ongoing and any concrete expense build would be a future item that can be quantified once you get to be a little bit bigger in assets?

Potentially. We'll see. Just like we added expense in Q1 and Q2 of last year in anticipation of an acquisition, we were pleased that we were able to get Heritage Oaks done. But there were no guarantees as we were adding those folks, but we certainly expected that we would have another acquisition that would move us into another category in our own minds. But it's an ongoing process for us to constantly look to improve and crossing that $10-billion threshold, we are well aware that it's a significant impact on an organization. At the same time we're comfortable with our ability to manage through that effectively.

Okay. That's helpful. Thank you. And then a clarification question for Ron. You had mentioned the four basis point impact on the margin from an accrual adjustment. Was that an interest recovery or was it something else?

It was an interest recovery.

And then thinking about securities yields, if I strip out the roughly 50 basis point impact from the FHLB special dividend it looked like those were still up a good amount quarter on quarter. Was that just due to the maybe a higher rate on some of the purchases you had?

Yes, Jacque. Last quarter we initiated a small portion of our securities portfolio into a little bit of corporate debt area, which has a little bit higher yield. Last quarter we probably got a half of a quarter's worth of benefit to that end. This quarter we saw the full effect of that benefit, and also, the redeployment, of course, of the lower cash requirements. Part of that went into the securities portfolio as well. So all of that had a yield-enhancing effect on the securities portfolio.

And Jacque, just to clarify on the corporates, we started buying and dabbling in corporates sometime in the middle part of the summer and added a little bit in Q4 as well.

Okay. And I know you had mentioned that the level of the quarter-on-quarter NIM expansion is unlikely to repeat but would there still be some forward benefit in Q1 from some of the purchases you made in Q4?

Limited. Yes. I'm not so sure I would go there certainly to the same extent that we saw Q3 to Q4. We're still seeing, as I made in my comments, some downward pressure from a competitive standpoint. We saw the rate hike, but it remains to be seen how all this mix is going to play itself out here in the first quarter. I would expect more of a flattish result here in the first quarter compared to the fourth quarter as far as the core margin is concerned.

Okay. That's very helpful. Thanks for all the color.

Sure thing.

(Operator Instructions)

Our next question comes from Andrew Liesch with Sandler O'Neill.

Hey, guys, just some follow-up questions to some topics discussed earlier. Steve, you mentioned acquisitions, I think you referenced other West Coast locations. Are you considering something out of state or are there any specific markets where you would like to complete a deal maybe outside of Southern California?

You know, we -- there haven't been any that we've looked at that are out of state. I think we've talked about this before in that LA is certainly our primary or ideal focus, but we would look in market. We would, as we've said before, we'd look on Central Coast, we would look in the Central Valley, we would look in Northern California.

We haven't looked at this point at anything out of state. That's probably more of a little bit of a longer term perspective. At the same time, if something of interest that's really going -- that will add to our core focus of creating an institution of scale that is headquartered in Southern California and really will drive franchise value, it's something we'll take a look at and consider.

All right. And then I think you also mentioned, Ron, you had the 10% investment securities to assets and I think Heritage Oaks is running well above that. Maybe it's too early to tell, but do you guys plan to do any repositioning of either your securities portfolio or their book once the deal is done?

Yes, Andrew, we did take a look obviously through the due diligence process at their securities portfolio. I think part of that portfolio we will retain and likely part of it we will sell. So I would expect post-merger, for the portfolio again to represent roughly the 10% of the total assets.

Very good. Thanks for taking my questions.

Our next question comes from Gary Tenner with D.A. Davidson.

Thanks. Good morning, guys. A lot of questions answered, but a couple of quick ones here. Steve, you mentioned the loan pipeline around $500 million at the end of the year. Can you give us an idea of where that stood back at September 30?

Roughly the same. The $500 million, Gary, is about where we are today. We were a little bit higher than that headed into the new year.

Okay. Got you. Thanks. And then regarding Heritage Oaks, when you announced the deal, there was some discussion on the conference call regarding their resi mortgage platform. Can you update us with how you're thinking about that today as you are getting closer to closing the deal?

We don't plan on being in mortgage banking. We're not in mortgage banking today. We don't expect to be in mortgage banking after we close this acquisition.

Okay. And is that something that you think there is appetite from people that want to diversify, maybe have that platform, to sell that platform or is this something that you wind down?

Yes, you can sell it for $0.

Very good. Thank you.

You're welcome.

Our next question comes from Tim Coffey with FIG Partners.

Ron, in your prepared remarks, you mentioned that the repayments this past quarter included amortizations and utilizations in aggregate. What were the repayments for the quarter?

Boy, Tim, I don't have that number handy here. I think they uptick. I remember looking at it a bit ago. I think they upticked a little bit through the normal amortization; but again, the prepayment side of that number was down a little bit as well. I think overall, we were up a little bit, but nothing extraordinary.

Tim, just to clarify, the payoffs were down just slightly quarter over quarter, but some of the other amortization pay-downs on lines of a variety of things that was up combined quarter over quarter, and we can get that you specific number after the call.

Great, yes. I would be more than happy to follow up with you guys on that. And then Steve, if you can give me a little bit of color on the thesis for the sale of the nonperforming loan. Obviously you had very little nonperforming loans, so were you testing the market to see what the appetite was for doing future loan sales like that? Or was this just a one-off thing?

We didn't sell any loans, Tim. On the large nonperforming loan that we took a specific reserve for in the third quarter and was highlighted during that call, that was charged off during the fourth quarter. The loan sales were predominantly SBA, and then there may have been just one small loan sale, but that's not the bulk of it. It was that one large loan that we took the charge on.

Okay. Perhaps I misread the press release, then. I looked at the reference, the sale of nonperforming loans during the quarter.

We did sell one note. It was relatively small. It was roughly around $2.5 million for the full amount owed. It was previously a nonperforming, classified as such.

So the combination of those two, that's what drove -- we reduced, if you will recall in our nonperforming, we were down about $4.8 million. Roughly half of that was attributable to the charge-offs that we had, which were in large part fully reserved and then the other part was the note sale, the one-off note sale that we did for the full amount. There was no gain or anything. So to Steve's earlier point, it wasn't our normal business thing. We had the opportunity to sell the note for the full amount given our strong collateral position.

So just -- and Tim, I'm sorry, I didn't -- I was focused on the other loan that we had charged off. So we've done that over, historically over the years, where we've sold one-off individual loans, but it's not a matter of going out and testing the market. It's just where we have an opportunity, some -- the collateral will allow for us to sell it and move something off the books that is substandard. We've done that before.

Okay. All right. Thank you for the color on that, Steve. And then just looking at the cash balances in relation to earning assets, it's low relative to where you have been keeping it near term but not historically. So you have kept it a little bit low -- this low before. I'm wondering, though, as you -- once you close on the Heritage Oaks transaction, do you anticipate holding a little bit more cash?

Well, the cash we had reduced in Q3, towards the end of Q3 through some steps that we had taken, that level from a percentage basis should be relatively consistent. Once we close Heritage Oaks we don't expect to carry it from a percentage basis any higher, just on absolute dollar basis, of course, it will be a little higher.

Right. Okay. Thanks. I was asking about the nonreserves on a percentage basis. So great. Thank you. Those are my questions.

(Operator Instructions)

Our next question comes from Tyler Stafford of Stephens.

Hey, good morning, guys.

Hi, Tyler.

Hey, one last one from me on the M&A topic. I appreciate the commentary around the size parameters. What financial hurdles can you remind us about that you are targeting in an acquisition, whether EPS accretion, tangible book value, dilution, et cetera?

Sure. Each deal needs to be accretive to EPS in the full first year of operations. Maximum dilution to tangible book, 10%. Maximum pay back is four to five years on tangible book dilution. 15% IRR.

All of that being said, we've never announced a deal that has come close to 10% dilution-to-tangible book value. No deal has come close to the five-year payback on tangible book dilution. All of them have been accretive to EPS in the first full year. And so those remain our broad parameters that we have.

Thanks, Steve. Ron, do you happen to have the breakdown of the PCI versus non-PCI accretion this quarter?

I don't have that, Tyler, at my fingertips. So if you want, I can follow up with you on that.

Okay, that's fine. And then maybe one more just clarification question on the core margin in Q1. You expect it to stay flat relative to the 4.32% this quarter even absent the FHLB dividend payment in Q1?

Even -- the special dividend is excluded from that 4.32%, call it 4.3% net interest margin, but that does include prepayment, the benefit of prepayment fees which adds about 14 basis points to that number. So prepayment is the volatile number. To Steve's earlier comment, we typically see originations a little softer. I suspect we will see prepayments a little softer. We probably won't have 14, 15 basis points of prepayment, so it could soften from there. But other than that, yes, I do see it relatively flat.

Okay. And have you done any preliminary work that you could share on how much of the benefit you would realize if there is a reduction in the corporate tax rate?

We haven't done analysis. Look, there's a couple -- there's rates floating around out there, 15%, 20%, 25%. I look at -- wherever it shakes out, we will be happy to take it and take the benefit that we pick up from it.

Yes, and just to add, while there would be a current period benefit, not unlike a lot of banks, to the extent that there is a reduction we're all going to be facing a haircut on our deferred tax assets. So, albeit maybe a one-time adjustment, but that, of course, will come into play as well.

Right. Okay. That's all my questions. Thanks. Congrats on a nice quarter.

Thank you.

Thank you.

Our next question comes from Don Worthington of Raymond James. Please go ahead.

Good morning, Steve and Ron.

Good morning.

In terms of the FHLB borrowings during the quarter, were those primarily overnight or did you do any term borrowings during the quarter?

Yes, Don, that was all overnight. As we moved through quarter into December, we were seeing, again, as we have already noted, strong originations. We saw a little bit of softening, normal seasonal softening on the deposit side. So in an abundance of caution or just to be prudent, quite frankly, we decided to put on a little extra liquidity. I can tell you January 4 came around and we jettisoned that liquidity and deposits have bounded back, rebounded back, very, very nicely this quarter.

Okay, great. And then one more. In terms of the REO write-down, was that due to a new appraisal?

Yes, that's right.

A new valuation that came in towards the end of the year. Just in our normal process.

Okay. Great. Thank you.

This concludes our question-and-answer session. I would now like to turn the conference back over to Steve Gardner for any closing remarks.

Thank you, Daniel. Thanks again, all, for joining us this morning. If you have any other questions, please feel free to give either Ron or myself a call, and we would be happy to talk with you. Have a great day.

This now concludes our conference for today. Thank you for attending today's presentation. You may now disconnect.