SVB Financial Group (SIVB) 2002 Q2 法說會逐字稿

Participants, please stand by. Today's conference is ready to begin.

Hello, good afternoon and good evening, and welcome to the Silicon Valley Bancshares second quarter financial results conference call. I would like to turn - all lines are going to remain in a listen-only mode until the question-and-answer portion of today's program. At that time, instructions will be given should anyone wish to participate. At the request of Silicon Valley, this conference is being recorded for instant replay purposes. Any objections, you must disconnect at this time.

I would now like to turn the call over to our moderator, Ms. Lisa Bertolet. Ma'am, you may begin when ready.

Thank you. Good afternoon and welcome to the call. I'm Lisa Bertolet, the investor relations officer for the bank. And I'd like to start the meeting by reading our Safe Harbor disclosure.

This presentation may contain projections or other forward-looking statements regarding future events or the future financial performance of the company. We wish to caution you that such statements are just predictions and that actual events or results may differ materially. We refer you to the documents the company files from time to time with the Securities & Exchange Commission, specifically the company's last filed Form 10-K filed on March 19, 2002. These documents contain and identify important risk factors that could cause the company's actual results to differ materially from those contained in our projections or other forward-looking statements.

Now, I'd like to turn the call over to our President and CEO, Ken Wilcox.

Thank you, Lisa.

I'd like to begin today by saying that I'm proud of what we have accomplished here at Silicon Valley Bank in these past several quarters. The economy is now in its twenty-seventh consecutive month of the worst downturn that any of us working today have ever experienced. And we are executing on what will probably end up being the Silicon Valley Bank's third best year ever and reporting quarterly earnings improvements on top of that.

The quarter was a good one. Earnings are up quarter over quarter three cents a share as they were last quarter as well. Return on average equity is up as well, going from 8.5 percent last quarter to 9.2 percent this one. Net interest margin is up from 5.6 percent last quarter to 5.8 percent this quarter. And after several quarters of relative flatness, loans grew to an all-time high, ending the quarter at $1,881,000,000,000.

Even in this challenging economy, with no real light at the end of the tunnel, at least not yet, Silicon Valley bankers are out in the market doing their absolute best every day and, I would add, against formidable odds. All of the economic trends are against us. Interest rates are at a 40 year low. If they would return to their average of the last 20 years, that alone would add approximately $43 million to our pretax income. Yet, our margins continue to hold and are growing.

Venture fundings have dropped from their height of $90 billion in 2000 to an estimated $25 billion today. Yet, our deposit levels have remained relatively stable. And even though the IPO market is all but disappeared, we now have 1,770 live warrants in our portfolio, twice as many as we had at the beginning of 2000, a year in which we had $86 million in warrant income.

We're experiencing a lull in the economy, the kind of lull during which successful companies hold their own and use the time to prepare themselves for the next wave of intense activity. And that's what we're doing here at Silicon Valley Bank. While this environment has been extremely tough on many of our competitors, we have remained strong and even improved our market position. We have used the lull to gain strength. Our credit quality is strong, our workforce is the best ever, our product set is more comprehensive than ever, and our strategy positions us well for the coming recovery.

Our commercial bank is making enroads into the larger company arena, while maintaining its command of the early stage market. Our merchant bank continues to build its family of funds. Our M&A bank is seeing its revenue grow substantially quarter over quarter. And we're expecting our private bank to make considerable reportable progress in the quarters to come.

Although this extended economic downturn has now continued for nine consecutive quarters, we believe that the downward trends have definitely lost momentum and flattened out. Having said that, I am not in a position to tell you with any certainty when the curve will reverse itself and the economy will pick up steam an move into a recovery mode. But I can tell you that when it does, and it inevitably will, that we here at Silicon Valley Bank are well positioned to take maximum advantage of the improvement and the opportunities it will bring.

Thank you. And with that, I'd like to turn it over to our CFO, Lauren Friedman.

Thank you, Ken. Good afternoon. I'd like to begin by saying that Silicon Valley Bancshares had a solid second quarter.

As we announced in our press release, second quarter net income was up three cents per share from the first quarter. Net income was $15 million, or 32 cents per share on a fully diluted basis, and the top end of our expectations, budget and guidance. As compared to the prior quarter, we benefited from record high loan levels, an increase in non-interest income, strong credit quality, a widening in net interest margin, and growth in market positions. Our earnings were further augmented, in part, by recovery of entertainment loans that had been previously written off.

However, it is clear that neither the increases in interest rates nor the pace of economic recovery that we had planned for in 2002 will come to pass. Thus, we must find other ways to achieve our earnings targets for 2002, and Silicon Valley Bancshares management team and employees have a plan in place to do just that. We will continue to increase our net interest margin and grow loans. We will stabilize the profits and continue to find ways to reduce costs. In fact, efforts to achieve these objectives have already begun.

We expect that our earnings and profits will continue to increase in 2002. Our current forecast for the remainder of 2002 assumes a stable economic environment and no increase in interest rates. We look to grow earnings by continuing to expand our client base, expand our product offerings, provide innovative services and improve our net interest margin.

We also announced today that we have repurchased $8.3 million of shares under our previously announced 50 million share -- $50 million share buyback program. Progress toward implementing our capital plan has begun. As can be seen in our financial statements, we have taken steps to reduce the costs associated with our trust preferred stock. This is the result of a hedged transaction that changed the fixed interest rate on the trust preferred stock to a floating rate.

First quarter to second quarter average of loan balances increased $51 million to $1.73 billion. This represents the highest quarterly average loan balances in the history of our bank. similarly, the period end balance at $1.87 billion represents the highest in our bank's history. This reflects our efforts to expand our customer base and to provide banking services to later stage technology and life sciences companies. Notably, since the beginning of the year, we have provided credit facilities for over 240 new clients. Further, we have done this with the same attention to credit quality standards that we have followed in the past.

Also during the second quarter, we recovered the entire amount of principle on some entertainment loans that were made in 1998 and 1999 and were written off 2000. This principle recovery increased the balance in our allowance for loan losses, which enabled us to take a negative loan loss provision of $3.2 million in the second quarter.

Second quarter net interest margin was 5.8 percent as compared to 5.6 percent in the first quarter. Despite a stable to decreasing rate environment in the economy as a whole, we achieved this increase through an increase in loan outstandings, a strong combination of cross selling into higher yield products and higher fee structures. We expect to see continue - we expect to continue to see improvement in the net interest margin as we implement our plans to optimize portfolio assets and grow our market position.

Over the past six months, we've analyzed the risks and opportunities in our portfolio and modified our plans to enhance our yield and increase our net interest margin. With a new plan in place, we expect to see the results of this effort in the third quarter. The yield on investments remain virtually unchanged at 3.6 percent, while the quarterly average investment portfolio decreased approximately $188 million. The stable yield quarter over quarter compares to a 60 basis point decrease from the fourth quarter to the first quarter.

The one area of our business that did not meet our expectations was deposits, where we have forecast modest growth. Second quarter average deposits were down about $180 million from the first quarter. But the good news is that they were in line with the fourth quarter. Additionally, period end deposits and averages were nearly the same, indicating that deposits are stable and our position to either remain steady or start to create a gradual growth.

As expected, securities write down from the second quarter were significantly lower than in the first quarter. Bank shares incurred $2 million in securities write downs in the second quarter. N et of minority interest, the impact on the company was $1.1 million. This compares to a gross write down of $2.6 million or $1.3 million net to the company in the first quarter of 2002. In addition, 110 new warrant contracts were collected in the second quarter as compared to 125 in the first quarter.

Revenues of Alliant partners are invested in banking subsidiaries were approximately $4.4 million, up $1.4 million from the last quarter. Alliant pipeline continues to grow, and we expect their revenues to increase again in the third quarter. While we expect volatility in investment banking revenues over time, we expect continued quarterly growth through the remainder of the year.

Non-interest expenses were up $5.7 million quarter over quarter. The primary reasons for the increase included realignment charges of $2 million related to a write off of excess real estate and $1.1 million related to severance charges. These charges are one time expenses, and we do not expect it to reoccur.

Costs for professional services increased $1.3 million related to litigation costs and consulting fees for cost savings initiatives. Finally, we have an incentive accrual of $3 million to reward employees for meeting their performance objectives.

As already mentioned, cost of trust preferred stock decreased due to a hedging transaction that changed the fixed cost to a floating cost. This transaction was put in place late in the quarter. We expect this hedge to have a greater effect on the cost of the trust preferred stock in the third quarter.

Private label client investments were approximately $8 billion compared to $8.3 billion in the first quarter, while our sweet balances increased $89 million over the same period. Quarter over quarter revenue from our private label client investments and sweet products have decreased $900,000, or 10 percent.

Our credit quality remains strong. Nonperforming loans rose slightly and continued well below our target range of 1.5 percent and 2.5 percent. At $19.4 million, nonperforming loans are only 1.04 percent of gross loans. The largest loan in the group was $3.3 million, and no one niche provides a concentration of nonperforming loans.

Gross charge outs were approximately $8 million for the quarter. The charge offs included approximately $3 million as telecom credits, the largest of which was approximately $1 million. Excluding the entertainment recovery, the net charge offs for the quarter were consistent with the guidance of $4.5 million to $6 million.

We have discussed the entertainment portfolio during the last two years. There were slide film production loans, aggregating almost $30 million. Over time, each of the loans was charged off. We aggressively prosecuted our claim for collection and have successfully concluded four of the five cases. The fourth was announced last week and is a third quarter event. There are two insurance companies in the remaining film, with whom we are yet to settle. As is customarily the case, we are precluded from offering greater detail on the nature of this several settlements.

With respect to future guidance, all of our forecasts are based on stable interest rate and venture capital environments for the remainder of the year. We expect third quarter earnings per share to be in the range of 32 cents to 36 cents on a fully diluted basis. Further, we expect fourth quarter earnings per share to increase from the third quarter. For the entire year 2002, we are reiterating our guidance previously announced of $1.39 to $1.44 for fully diluted share. The plan to meet this earnings targets includes continued increases in average loan balances, stabilizing deposits, increases in alliant revenues consistent with the current pipeline, continued strong credit quality, and increased investment portfolio yields.

We continue to monitor expense levels closely and expect that both the third and fourth quarter non-interest expense levels will be down from the second quarter. In line with the first two quarters, we expect write offs or write downs of equity investments to continue to decrease.

In summary, Silicon Valley Bank continues to be well positioned to take advantage of opportunities for growth in 2002. We have expanded our client base and product offerings, and will continue to do so. We are optimizing economic opportunities presented by the investment portfolio and are implementing various cost cutting measures. While improvement in the economic environment would be welcome and would enable us to exceed our targets, we remain confident in our ability to achieve targets even without significant macroeconomic assistance.

Thank you, Lauren. And now, I'd like to open it up for Q&A.

Thank you. At this time, participants, if you would like to ask a question, please signal by pressing star one on your phone keypads. If your question is answered and you wish to withdraw, then you would press star two. Once again, that's star one to ask a question and star two to cancel. One moment while questions register, please.

Our first question comes from of Jeffrey's.

Good afternoon and congratulations on fine performance in a very challenging environment. A couple of housekeeping matters. Since everybody's focused on options, I was wondering in your K it says that if you'd use FAS 123 at the end of 2001 your earnings per share would've been about 14 percent less than reported. And I was wondering if there's anything subsequent to that that would change that number.

The second thing, which is housekeeping, is 27 months of economic slowdown. That's - I'm wondering where that number came from. It certainly isn't a national number. And I'm just wondering what that's based on. So, that's the second question.

And then finally, I know that you said that you can't say anything about details on the recovery of the entertainment loans. But I was wondering if there's anything in the increase in net interest margin that's attributable to recapture of interest.

And if I can bear you just one more. As you're restructuring the investment portfolio, could you kind of tell us about what you're doing there. Are you buying , short traunches? Could you kind of give us some color on what you're doing there?

Thank you very much.

Charlotte, let me begin. This is Lauren Friedman.

Hi, Lauren.

I think I can answer some of the questions, and then I'll turn it over to Ken to finish up.

Let me begin with the question related to options. We believe that the information that is in the K at year end is a reasonable reflection of our - of the impact of a Black Shoals cost to options. One of the things that concerns me about this is Black Shoals, at least in my opinion, consistently over-values employee stock options. And the reason has to do with the vesting provision that is in employee stock options that is not built into the Black Shoals model. And so, while we have disclosed a black shoals number, I think that if we were in the position that we had to take an earnings charge or options, we would certainly investigate other models to see if we couldn't find one that would more accurately reflect the costs of the options to the corporation.

Let's see, your second question that I'm going to answer had to do with the investment portfolio and what we're doing to increase the yield on the investment portfolio. There are - we are in the process right now of doing a security-by-security review of the portfolio. And we will be continuing that process over the next couple of weeks, but at a high level what we are thinking about are well structured CMOs and pass through mortgage-backed securities.

And your third question ...

Twenty-seven months of recession.

OK. Well, I'll let Ken handle that one.

Lauren's ducking this, I can see. Charlotte, we can all - we probably all have different views of what's transpired in the last couple of years. Our view would be that the beginning of the decline in economic activity in our portion of the economy would've begun in April of 2000 with the first of the stock market meltdowns, which I think was somewhere around 500 points or so in April time frame of 2000. With that, we mark the beginning of the first of the two waves of deterioration in the technology market, the first being the so-called dot-com wave, which admittedly didn't really do a lot of damage to Silicon Valley Bank except to the extent that we had a couple of billion dollars in deposits with dot-coms, which, over time, evaporated as these companies disappeared. That would've extended itself from roughly April of 2000 into sometime around perhaps the end of the summer, the early fall of 2001. At that point in time, by our calculations, there were no more dot-coms except for Amazon. But ...

And eBay.

What's that?

eBay made it.

eBay, right. Yes. I should allow for two. But sadly, that marks roughly the beginning of - at least the beginning of our identifying as an industry the meltdown in the telecom equipment sector, and that's been continuing since late summer, early fall of 2001, and we're still in that. So, maybe it's less than 27 months. Five hundred points for me is a lot. But in any case, it's been a heck of a long time. I would say that everybody has grown weary. You probably have, too. And I still think it's - we're doing pretty well given what's happening around us.

I think that you had one more question, Charlotte, that had to do with the impact on interest of the recovery.

Yes, if any of that widening of the margin and the spread was recaptured interest.

Yes. There was a - actually, there was a small impact on the margin related to recaptured interest on the film litigation. But the interesting thing about that is also we had an interest reversal from prior year due to an operational error that was uncovered. When you net the two together, we're about even. And so, the - almost 20 basis point increase in the net interest margin is - when you back out one time items is pretty much what really happened.

OK. Great. Great. Just one last, if I could squeeze it in. You said originally that Alliant was supposed to contributed 10 to 15 cents in its first year. It seems to be up to about 7.4 in revenue. It seems to be kind of lagging that initial guidance. And I was wondering have you revised that and I wasn't tracking it?

Charlotte, again, it's Lauren. I don't know that we have revised that guidance. The - I don't really remember exactly what guidance was given. I apologize for that. But let me just say this. Alliant revenues were $3 million in Q1. They're $4.4 million in Q2. We expect it to be significantly higher in Q3 and significantly higher than that in Q4. What that really nets to in terms of a earnings impact, I don't know, but clearly the events of September 11th have hurt what they - hurt them, that they are rebounding very admirably.

Could I just add to that, Lauren? Charlotte, for your benefit and everybody else's, Alliant is tracking to plan in 2002 in terms of number of deals accomplished. The problem is that in the wake of 9-11 and actually, to a certain extent, obviously as a byproduct of the whole entire downturn these last 27 months, the valuations on these deals are lower as a result of which clearly the fees charged because fees are a percentage of valuations are also lower. So, we're doing pretty well on volume, much better than anybody else we know of, where volumes are way, way off original projections, that is, in terms of unit count, but we're obviously suffering from lower valuations just like everybody else.

But there's no impairment risk here?

No. No. We have thoroughly investigated that.

OK. Thank you very, very much. I appreciate it and apologize for taking so much time.

Thank you. Our next question comes from with RBC Capital Markets.

Hi, everybody. Good afternoon.

Hi, Joe.

Hi. A couple quick things, first on the litigation. I just wondered, Lauren, if you could quantify what the litigation expenses were included in the professional services fees and say how much is left on the remaining loan, or what's the kind of amount outstanding that's a potential recovery, I guess.

Joe, we're not disclosing the amount that's left on the remaining loan because if we did that we could easily back into what we got. So, we're not disclosing that.

OK.

And I'm going to have to tell you I honestly don't know the total amount of litigation expenses that we incurred this quarter. Here we go, in the neighborhood of $2 million/

Two million in the professional services fees this quarter.

Right.

OK. And then the real ...

Joe, before you go onto the next question, could I just interject here?

You bet.

The reason that we're not disclosing that is not just because we're obstinate. It's because we can't. There's a contractual obligation with the parties with whom we settled not to.

Understand. OK. Real question for Dave I guess, or Lauren. What can you say about provision and charge off expectations going forward? Do we go back to the kind of $4 million to $6 million a quarter type of run rate, or is - has that changed at all?

Joe, this is Dave Jones, Chief Credit Officer, and I will respond to your questions.

In terms of our expectation for the reserve, my forecast remains unchanged. I've said since the beginning of the year that I would expect that we would have roughly $6 million in net charge offs for the third quarter. And I still believe that will be the case.

In terms of the effect that that $6 million may have on the reserve, the answer is not quite that easy for me to give right now because we will be evaluating conditions in our portfolio and market conditions that may in the future affect our loan portfolio as it is that we end the September quarter. My expectation is that we will have some level of reserve. It may not be completely equal to the level of charge off, but I won't have a final answer until I understand market conditions September 30th.

OK. Understand. Thanks, everybody.

You're welcome, Joe.

Thank you. And our next question comes from of Bank.

Hi. I have a few questions. First of all, what percentage of the warrants and funds with venture firms are currently marked at cost is the first question? And then I also want to ask that while you're thinking about that provision for loan loss has steadily declined. From 1999, it was 4.4 percent roughly of loans outstanding and has steadily ticked down to just over four percent today. Just wondering why you're assuming that you'll have lower loss rates going forward given the deteriorating economy.

And then as well, wanted to ask if there were any earn outs for the good folks at Alliant built into that acquisition, if we were to expect pay outs in the future if they meet certain targets.

And then also, given the current rate - interest rate environment where interest rates seem to be declining, just wondering how you're able to get your net interest margin up. If you could give some light on those, I'd appreciate it. Thanks.

Let me jump in. This is Dave Jones, Chief Credit Officer, again. Let me speak to the provision.

In terms of the allowance for loan loss reserve relative to the gross loans, we are at 4.05 percent. I do not have specific information about everybody in the industry, but I'm certain that we are very, very substantially ahead of our market, which probably is in the 150 to 180 basis points.

Second, the reason that we are comfortable relatively speaking drawing down the reserve - and that's reserve relative to gross loans - is because we've had a meaningful improvement in our net charge off experience over these last several years. We were in the $50 million range in the year 2000 for net charge offs. Last year, we were at $18 million. And this year, certainly with the large recovery we had in the second quarter, I would expect that we would be probably below $18 million this quarter. So, I think it is appropriate for our reserve to reflect the improvement that we've had in net charge offs.

This is Lauren Friedman again. With respect to our warrant portfolio, warrants that we have in public companies are carried at market. Warrants that are not in public companies are carried at zero. So, we do not attempt to value warrants unless we have a well defined market value available to us.

You also asked about what we were doing to improve our net interest margin. We have been - for one thing, we have grown loans. And by growing loans, that helps our net interest margin. We also have been working on improving our portfolio yields, and that helps our net interest margin as well. So, I think those are probably two of the most important things. But also, as we work with our customers trying to put them into products that have higher yields, that has helped our margin as well.

And I'll take the last question. This is Mark Verissimo, Chief Strategy Officer. In regarding Alliant, we have previously announced that we paid $100 million for Alliant, which would be split into payments over a three period of time. And additionally, there was a $75 million payout based on exceeding certain financial hurdles that would pay in September of 2005 if those hurdles were met. So, there is an earn out.

OK. Thanks for the clarity.

Thank you. Our next question - our next question comes from of Lehman Brothers.

Thanks very much. If you could just review firstly the charge offs this quarter. You had net recoveries, but gross net and the charge off numbers as well as you mentioned the yield in the investment portfolio this quarter is 3.6 percent. Where do you think that goes based on the modeling you've done in Q3 and Q4? Thanks.

Brock, this is Dave Jones, Chief Credit Officer. Let me address your first question. Relative to charge offs, gross charge offs were $8.2 million. As Lauren said in her prepared comments, there was roughly $3 million of telecommunication related charge offs. There was a number something less than that, between $2 million and $3 million, related to software companies. All of it comes from the technology sector of our portfolio.

In terms of the recoveries, obviously we had the nearly $7 million in net recovery for the quarter.

And this is Lauren Friedman to answer the other question. We are currently in the process of performing our security-by-security analysis, so it's very difficult for me to try to estimate what is going to happen to the portfolio yield other than we think it is going to increase. Yes, I wish I had a good answer for that. I wish I knew, but we do believe we can increase it and we do believe we can increase it enough that you're going to notice the difference.

OK. And could you spend a moment just characterizing the loan growth that you are achieving? It looks like there's some growth in consumer and real estate.

Brock, this is Dave Jones again. Let me address your comment - or your question. We had growth across the board. We have a very well trained, focused sales staff. We understand what it is that we do well and what it is that we do less well, and we have everybody focused on those things that we do well. In terms of the sectors across the board - hardware, software, life sciences, our venture capital group, our wine group, our private banking group - each of them had success this quarter. No regional concentration to that. It was well spread across the country.

OK. Thank you.

Brock, one last thing. In terms of growth in real estate, what growth we would've experienced in real estate would've been related to our private banking, where it may be that we would have lines of credit secured by first deeds of trust. But in terms of commercial real estate, we've experienced decline in that portfolio for the last four to six quarters. We are less than $30 million in commercial real estate today.

That's decline in volume.

Got it. Thanks.

Thank you. And our next question comes from of Friedman, Billings, Ramsey.

Good afternoon. How are you all?

Good.

Fine. How are you?

Mark, perhaps you could give some statistics with respect to new company formation and what's going on in your principle markets.

OK. We don't have the stats out yet for the second quarter, although some of the early indications are is the quarter was probably flat at best and probably slightly down as far as investing. As far as new company formations, those are still low particularly on a historical basis. I think in the first quarter new company formation - the money that went to new company formation is about 18 percent. This is versus if you go over the last 20 plus years it's gone anywhere from 50 percent to the mid 30s. So, still new company formation is lagging.

Really, I don't think the sentiment has changed all that much over the last quarter. We have some venture capitalists. In fact, there was front page of the "San Jose Mercury" a month ago where NEA was quoted as saying they're going to continue to invest and they believe this is a great time for investing. There's other venture capitalists who are not investing very aggressively at this point. So, there's a fair amount of uncertainty out there in the marketplace.

But again, if we - we'll probably have another slightly down quarter this quarter. So, the run rate are still around a $20 billion run rate, which would be good. What we do expect to see is that new company formations will start to be an increasing portion of that money, which would be good news for us because the more money that goes in new company formations the more new companies or new prospective clients we'll see in the venture side of our business.

Right. David, we've talked in the past about telecom exposure. And can you give an update - I understand from your earlier comments that there was some write off of telecom loans, what I think you had identified, as I recall, $30 million in problem telecom. And could you just discuss their migration?

Yes, Gary. This is Dave. I would be happy to. In the past, we have indicated that we've had roughly $135 million between our telecom and wireless sector. For the June quarter, it was roughly the same. However, in that number is something in excess of $10 million of new accounts receivable supported lines of credit that we booked into the telecommunications sector. So, it's not that we won't lend in the telecommunications, but we do have to be focused in lending into it in a way that would limit our risk.

The $30 million that you spoke of in terms of problems actually wouldn't be characterized as problems in my mind so much as it would be companies that were in need of a next round of venture capital funding within the next increment of time. I have reviewed that number with information as of June 30. And again this quarter, the number is just slightly less than $30 million of companies that will need to raise money between now and the end of the year.

Is this the same companies?

Absolutely not. We will have a consisting rolling number of companies because the venture capitalist would fund the company with 10, 12, 18 months of cash. So, every quarter other companies receive those rounds and another company then drops to within six months of meeting that next round. So, most of our telecommunications companies have sufficient cash to get well into the year 2003. There are the several companies aggregating $30 million of funded balance that will need to have rounds closed or the companies merged with a stronger company by the end of the year. And we are monitoring each of those with the individual client management teams and the BC investors.

And of those - of that group that was $30 million at the end - at the time of our last conversation, have any of those migrated into non-accrual?

Gary, in terms of the $19 million or so of non-accrual, I don't have a specific number, but I'm very comfortable in saying that there's less than $2.5 million of that that would be telecommunication companies. So, the answer is, yes, maybe one of those would've been part of the $30 million, but most of them obviously would not be.

OK. And then lastly, with respect to net interest margin expansion and the guidance in that direction, Lauren, perhaps you can just help me recollect. As I recall, the agreement with Alliant, the way that it was structured, I believe there was a discount that needed accretion, and that caused some of the compression in net interest margin that was seen late last year and early this. Is any of the projected increase related to some changes there or just some of that rolling through?

Gary, you're correct that some of the net interest margin compression does relate to the Alliant agreement. That will not - we will continue to have compression due to the Alliant agreement in Q3 at about the same rates we have had in Q1 and Q2. In Q4, the amount of compression will go down because we will be making a payment to Alliant at the end of Q3. However, there will still continue to be some costs related to our obligation to Alliant that will continue over several years.

Thank you.

Thank you. And our next question comes from Mr. Bill Welsh of Capital.

Hi. Thanks. A couple things. I'm still struggling with the ramp up. If we take your third quarter estimate as 34 cents, that implies you'd have to do 45 to 50 cents in the fourth quarter to meet the full year. And so, does that contemplate any subsequent recoveries on the entertainment litigation as a negative provision again? Is there some step up in margin that is not clear? And where would that come from?

And then a second question I had was could you just kind of detail the equity investments that you have in total dollar amount in venture capital funds? I think you referred to a relatively high number of individual investments - I'm sorry, 242 venture capital funds. If you could just kind of detail what the total dollar exposure is there and how frequently those are marked.

The - with respect to our earnings increase going into the fourth quarter, you're correct that we have to do - have a very good quarter in the fourth quarter in order to make our targets. But we believe we can do that. And part of the way we intend to do that are through other structures including the trust preferred stock and similar kinds of arrangements like that that we'll reduce our cost on that, continue cost decreases that we're looking at and believe we can achieve, growing our revenues through continued loan growth, and improving the margin. There are just a variety of initiatives that we're working on. And we've been working on them for some time that we believe that it's going to help us. Also, we expect to continue to get our stock bought back and we believe that with reducing the number of shares outstanding that will help us as well.

In terms of the funds, we have 242 funds. We have roughly $24 million carried at cost and we do not mark to market the LP investments that are made at bank shares, only the funds.

I'm sorry, I missed that last part.

We do not mark to market the LP investments that are carried at bank shares. The only thing that is mark to market are investments in funds.

And what has been that mark? Is that the markdown of $2 million in the quarter or was that other direct investments?

The markdown of $2 million in the quarter is the combination of all of them.

It is? OK. Thank you.

Thank you. Our next question comes from of Sigma Capital.

Yes. I just want to expand on the question that Bill asked, his first part. If I just take this quarter and I normalize it for the recovery that you got on the entertainment portfolio, it looked like on a run rate basis you earned about 26 cents. And if I add that to the 29 cents that you earned in the first quarter and then compare that to the estimate, the midpoint of the estimate that you give for the year, it looks like that you've got to earn around 81 cents or so in the back half of the year versus 55 cents in the front half of this year. That seems like a huge ramp and I just want to see if you - I want to try to understand - I mean, you mentioned expense cuts and you mentioned increasing the margin. But if you could just maybe talk a little bit more about how you're going to achieve that awesome growth, that would be great.

This is Lauren Friedman again. And I guess the first thing that I'm going to say is that everybody can make their own estimate of what it is that would've happened if we had not had the recovery. I think that perhaps your estimate is a little conservative. Beyond that, I'm not going to really comment.

Actually, Lauren, before we go on, then, it would be great is maybe you could walk through a normalization of the quarter because I obviously also subtracted our the nonrecurring expenses. But if I know you hadn't had charge offs of $4.5 million to $6 million, last quarter you did a provision in charge off level, but the quarter before you provisioned ahead of it. If you're growing loans as quickly as you're growing, which was three percent in one quarter, I have to assume that you would provision at a minimum at charge offs to replenish the reserve for a growing loan base. So, maybe you could just walk us through what a normalized quarter will look like for you.

Well, the difficulty with that is as much as I would like to do that, if we start trying to give you a pro forma calculation, there's certain rules that we have to live under that the SEC have given us. And they've told us that we have to make our assumptions about what is going on very clear. And as you pointed out, one of the critical assumptions in trying to come up with a normalized level of earnings for the quarter has to do with what the allowance for loan losses would've looked like.

The allowance for loan loss computation is a, at least here, quite a complex calculation. And to try to do it for more than one scenario is very difficult. It's not impossible. We simply don't have the resources to do that. So, where our allowance would've been if we had not had the recovery is something that we can't say. Further, there are a variety of other moving parts that make it difficult to give you that kind of analysis. And just as one example, when we gave a - when we realized that we were going to have an entertainment recovery, we considered that to be material insider information. And so, we stopped buying shares. And if we had not had that material insider information, we would have continued buying shares. So, the number of shares would've been different. And I could go on for several minutes here about all the different variables that are involved in trying to determine a normalized earnings rate.

And so, this is a little more complicated than something like if we just - if we had not had some very well defined specific event what impact that would've been. There's just a lot of moving parts here.

And as you pointed out correctly, we had one time charges. And those one time charges also hurt our earnings this quarter. Now, what we're talking about when we say $1.39 to $1.44 that total, including the recovery, and we believe that we can make that again through loan growth, through improving our net interest margin, through cost savings initiatives and various other initiatives we have underway.

But maybe you could just address the meat of the question, which was can you just go with a little bit more specifics on where the growth is going to come from in the back side of the half. Is it 80 percent in net interest margin or - is it mostly coming from net interest margin and earning asset growth or is it mostly coming from expenses? I'm just trying to get a little bit more meat on the bone.

I think that the primary - there are really two places that you're going to see this come from. One is net interest margin. And just a little bit in net interest margin in terms of the percentage of net interest margin is very dramatic. The - it can have a very big impact. It doesn't take a huge increase in net interest margin to cause a big impact on the bottom line.

One of the things that I've said is that I think we can do six percent net interest margin for the year. And previously when I said that, that was based on a 25 basis point increase in rates in the third quarter and another 25 basis point increase in rates in the fourth quarter. We believe now that we can do that even without the 25 basis point increases in rates. I realize that that sounds difficult. It is difficult, but we still believe we can do it.

Well actually, I quickly - I know you guys have talked about loan growth. So, I grew up earning assets and assumed that all of it came from loan growth by $100 million and gave you 20 basis points in addition of average net interest margin for the quarter. And it added about $325 million. But if you're growing loans that fast, I assume a lot of it would be taken by provision. So, maybe you could walk through how you get your margin up that much that quickly. Because it seems like if you're booking loans that fast you're moving into kind of higher yielding securities. You're adding additional risk. So, if you could just walk us through how you do that in the absence of a rate hike.

OK. Let me finish my answer to the original question and I'll come back to that.

I apologize.

No, no problem. I also want to mention our non-interest income, which is another very important component growing our earnings. I believe that Alliant alone will be a major contributor to the increase in earnings during the remainder of the year. I don't particularly want to give estimates of what I think Alliant is going to do, but I do think that you will be very pleasantly surprised by the Alliant results as we move forward.

Now, with respect to the allowance, what we do with the allowance is something that is going to be determined, as Dave said, in the third quarter. And the - to assume that we will continue to grow the allowance I don't know, and I don't think Dave knows. We've had this conversation. Neither one of us know what's going to happen to the allowance. We will - we do expect to continue to grow loans. We will have a provision - we will have an allowance for loan losses that is adequate but not excessive and we will ensure that are adequately - we are adequately reserved against loan losses.

Great. We appreciate all your time. Thanks a lot.

Thank you.

Thank you. Our next question comes from of Sanders Morris.

Good afternoon, Lauren. I have a - just a question on the buybacks that you mentioned. The second half of 2001 I believe Silicon Valley Bancshares repurchased approximately $100 million worth of stock when the price was about the same range it is now. Any opinion on furthering the buyback past the $50 million considering the stock is back down to where it was second half of last year?

And then a second question I have is kind of just clarifications on the film loans that I think you mentioned earlier. I think you mentioned there were five loans that were charged. Thirty million dollars was the total and was charged off in year 2000. Is that correct?

Let me take the easy question first. This is Dave Jones. I'm speaking to the film loans. Originally, there were five. And as mentioned in Lauren's comments today, there is only one remaining.

Right. But did it total $30 million? Did I hear that correctly earlier in the call?

Yes.

OK. OK. Thanks. And then the opinion on the buyback.

OK. , we have a capital plan that we did in the first quarter. We discussed it in our first quarter call. In that capital plan, we determined that $50 million was the right amount at that point in time. We intend to revisit our capital plan in this third quarter. And in the third quarter, we will do that and we will look not only at buyback opportunities but at other initiatives that we have available to us. And, yes, I realize that I have been a little bit vague about what it is we're looking at. I'm going to remain that way. But we have a number of things that we're looking at to in fact use the capital that we have available to us.

When we go to the board in the third quarter with our revised capital plan, that very possibly could include some additional buyback, but I'm not going to commit to it.

Can you give us an idea of when that's going to be in the quarter, the beginning, middle or end?

We will be working on the revised capital plan fairly soon. I would expect that that would be something that we will do next month. But it wouldn't go to the board until late in the quarter.

OK. Great. Thank you.

Thank you. And our next question comes from of .

Thank you. Just a couple questions here. Can you just update us on the progress of the private label investments? I thought you were planning on trying to transfer that to your broker deal to help some of the yield in that product. And then my second question was just on the loan growth this quarter. Are you seeing the loan growth in later stage companies as opposed to earlier stage companies? Because it seems as though you've had better growth this quarter, but the number of warrant positions is less than what you had last quarter.

Why don't I start? This is Mark speaking. Regarding the IPS funds, we're in process of making that transition to a broker dealer. We're making good progress there and we would expect, again, by fourth quarter to have that completed.

What sort of benefit are you thinking that would have to you?

It - given the current regulatory environment, it just gives you greater flexibility in the fees that you charge for managing the money.

OK.

, this is Dave Jones. Let me address your question regarding loan growth. The answer is yes. A significant amount of the dollar increase that we saw in the second quarter was related to companies that were a little bit later stage in the technology and life science space. So, you're right, that does have a correlation to the level of warrants we recognized in the second quarter.

Did those later stage companies, though, have a lower yield, though? What sort of loans that you're booking? I'm just wondering how the loan yields held up so well.

, Dave again. The answer is yes, but in part they have a lower yield because we have less risk with accounts receivable lending as opposed to the type of lending that we would do for the early stage technology and life science company. And accompanying that lower level of risk would, of course, be a correspondingly higher levels of non-interest income because the later stage companies are, in relative terms, very large consumers of non-credit products and services.

OK. Because I guess that's what I'm trying to get towards, if you are growing the later stage loan portfolio, which is a lower yield. But your loan yield in total has stayed relatively constant. I'm just trying to see if there's a mix shift in the products that you're providing or what the case is.

, this is Dave again. Yes, we are selling a variety of products to these same companies. So, we are looking to gross our revenue up.

OK. Thank you.

Thank you. And our next question comes from Mr. of Capital.

Hi, guys. Just a quick question on the off balance sheet funds. I saw, and you mentioned it in the press release, that the funds actually decreased 2.5 percent sequentially, but the fees that you received from those off balance sheet funds went down about 10 percent sequentially. Can you just give a little more color on why that is?

This is Mark Verissimo speaking. Regarding the fees, as we mentioned in our previous conference call, we have various product, different tierings of products with different fees associated with each product. And we have seen a migration towards the product that has the lowest fee earning capability for us. Given low interest environment, that's a natural movement of funds. Again, we believe moving in the broker dealer will allow us to expand our capabilities in the area and again allow us to provide more value to the client and therefore be able to charge higher fees for that.

I guess, just following-up, though, obviously there's been some concern about the fourth quarter ramp up. Given that the off balance sheet fees represents probably close to 35 percent of your bottom line, yet you have deposits decreasing and you have the rate that you're receiving decreasing. What are the - I mean, if this continues it'll obviously make the fourth quarter even that much more challenging. So, I guess my follow-up question is what needs to - what assumption are you using in both off balance sheet deposits by the fourth quarter and the fee you're going to receive on those deposits?

Well, I think, as Lauren mentioned earlier, our growth projections over the year is various units of the bank. And so, we're not - we certainly haven't pinned all of our hopes on one, such as IPS. So, we will be getting additional earnings from other areas of the bank.

I understand. But this was probably - back in April this probably represents at least 10 cents of earnings for the quarter. I just want to get a sense on do we need to see an increase in - I know there's a lot of pieces obviously, like going to each quarter. But given that this is third, what are the major assumptions that you're using for the fourth quarter because it's such a significant piece? You must have some specific goals in mind.

This is Lauren Friedman.

Hi, Lauren.

The - we are assuming a continued decrease in private label fees, but at a much slower rate of decrease than we have seen thus far in the year.

OK. And hopefully you'll see it pick up in the amount you charge on each dollar deposits?

What I'm talking about is not balances but actually dollars - revenue dollars.

OK. But it's a weighted average obviously of what you're charging and what happens with the deposits. So, you're expecting a leveling off of the decrease in off balance sheet funds and then an increase of the rate you're receiving on those funds, just so I understand you?

No, I didn't say that. I think that what I said is that we're expecting that revenues will continue to decrease from that and it's a combination of both balances and rates that are causing the revenues to go down. We expect to continue to see that, but it will be at a much lower rate than we've seen thus far.

OK. Thank you.

Thank you. And our next question comes from of Merrill Lynch.

My questions have been asked and answered. Thank you.

Thank you, sir. And our next question comes from of Jefferies. Ms. , your line is open.

Why don't we go on?

Thank you. Our next question comes from of Friedman, Billings.

A couple of quick follow-ups. Could we revisit the gross charge offs and recoveries for the quarter? And I'm not sure I got the right breakdown and just wanted to check. Did I understand that total charge offs were $8.2 million?

Yes.

And so, that implies total recoveries of about 16?

Yes.

OK. And could you discuss - a couple things. I noticed that FTEs continued to edge upward in the quarter to a record. And can you tell us if we could expect that that trend will continue, or what do you have planned in that regard?

This is Lauren Friedman again.

Hi, Lauren.

We are trying very hard to keep our FTE count where it is right now. The - we had some reasons why we had to increase the FTEs a little bit, and that's something that has to do a lot with regulatory pressure and taking advantage of some - a couple of business opportunities that will enable us to grow revenues. But we do not expect FTE count to grow significantly.

And then just finally - I know it's making it a long call. But can you discuss some of the deals that Alliant has closed this past quarter and just give us a flavor for the types of things that they're doing and the kind of areas of success?

You know, we typically don't discuss deals by specific name.

Yes. I'm not asking that. I was interested in ...

This is Mark speaking. I think their deals were closed across a variety of industry segments. And the number of deals they closed compare very favorably with the other competitors out there in the marketplace. A lot of them have been privately held companies being sold to publicly held companies. Alliant mostly is on the private side selling, but occasionally is on the public side looking for opportunities to buy. So, was - as far as deal volume and the quality of deals done and the satisfaction of the clients with the deals that were done, it was a great quarter.

Thank you.

Thank you. And our next question comes from with Sanders Morris.

When do you have your quiet period for your - when you can start buying back stock?

Tomorrow morning.

Tomorrow morning. Terrific. Thank you.

Thank you. And our next question comes from of Jefferies.

Yes. Getting back to Alliant, if we haven't beaten that poor thing to death - and, Lauren, I looked it up. I guess you announced it on the 19th of August. And certainly you hadn't come to Silicon Valley by then. But basically, you paid $30 million in cash on the close and $70 million over three years. And there's an assumption that they'll get - I have it written down as $85 million that they'll get if they achieve a 10 percent compound fee income growth. I guess my question is are they on track for this 10 percent compounded fee income growth? Because it seems to me, although I've got to look back at my numbers, that so far this year they're way off from what they - let me ask it as a question. Six months of this year versus six months of last year, are they ahead or behind of where they are? Second question, are they on target through six months for this 10 percent compound growth?

Thanks.

Charlotte, this is Mark. I'll take a stab at it. Clearly, if you look at the first six months of this year versus the first six months of last year, almost every company in America is down, and I would put Alliant in that basket. They are behind where they were a year ago for the six month period.

Question two of, yes, clearly the first six months of this year, if you annualize it and look at it, yes, they are behind the opportunity to get any of that earn out, that $75 million. But again, we ...

You keep saying $75 million and the press release says $85 million. What happened? There's $10 million that's kind of gone free.

Well, I'd have to look at the details. There is another piece of money. I'd have to look at it Charlotte. I apologize.

But, to get back to your question can they make that earn out, if you look at the sequential growth that Lauren addressed earlier they are growing at a pace where you could see in a very short period of time that they'll be on a run rate that you could see - easily see yourself to them getting to that annualized growth rate that would get them into that earn out period - or earn out amount of money.

But what Lauren is alluding to for the second half of this year apparently doesn't get them there. In other words, if they achieve what Lauren is assuming, which we all don't know, but let's give it the benefit of the doubt, they're not on the 10 percent growth rate.

They are not, but again we were looking over a three period of time. So, they will be on a momentum and a running rate that would be very healthy.

OK. And I take it the calculation of whether there's an impairment I take it - let me ask it as a question. When do you have to decide if there's an impairment here?

Charlotte, this is Lauren Friedman again. We have already done our impairment analysis and have determined there is not one.

Is there another one due?

We did one just within the last few weeks. We actually had an investment banker come in and look at Alliant partners and have determined that there is in fact no impairment.

So, it's like an annual thing?

Right.

OK. OK. OK. Thank you very, very much.

Thank you.

Thank you. And at this time, we have no questions registered.

Well,that's it. Thank you very much for attending. We really appreciate it. We're looking forward to talking to you again next quarter.

Thank you, participants. This does conclude today's conference call. There is a replay scheduled for today's conference. It can be attained at 888-482-2251. Once again, the replay number for today's conference is 888-482-2251 through August 31, 2002.

Thank you.