SVB Financial Group (SIVB) 2006 Q1 法說會逐字稿

Welcome to today's teleconference. At this time, all participants are in a listen-only mode. Please note this call may be recorded. (OPERATOR INSTRUCTIONS). I will now turn the program over Ms. Lisa Bertolet. Go ahead, please. Ms. Bertolet, you may begin.

Thank you, and welcome to SVB Financial Group’s First Quarter Conference Call. Today, Ken Wilcox, our President and CEO, and Jack Jenkins-Stark, our CFO, will discuss SVB's first quarter performance and financial results. Following their presentations, Jack and Ken, along with Dave Jones, our Chief Credit Officer, will be available to answer your questions.

I'd like to start the meeting by reading the safe harbor disclosure. This presentation contains projections or other forward-looking statements regarding the future events or future financial performance of the Company, including without limitation, financial guidance for the company's second fiscal quarter of 2006. Forward-looking statements are statements that are not historical facts. We wish to caution you that such statements are just predictions and actual events or results may differ materially due to changes in economic, business, and regulatory factors and trends. We also refer you to the documents the Company files from time to time with the Securities and Exchange Commission, specifically, the Company's last filed form 10-K filed on March 27, 2006. 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 Ken.

Thank you, Lisa, and thank all of you for joining us today. We’re pleased to have completed an excellent quarter in which we met our EPS guidance, increased our net interest margin, and reached another record high in average loans. Clearly our strategy is working and we are confident that it will continue to do so. That strategy, for the last 5 years, has emphasized 3 things. Focus, expansion, and diversification. In focusing, we put our full effort into the industries we know best and in which we've consistently been successful at supporting our clients. These industries are technology, life sciences, private equity, and premium warrant. In expanding, we've become a truly global business, not just ac company with offices outside the U.S., but one with a global perspective, global relationships, global influence, and the ability to help clients become global as well. In diversifying, we’ve expanded our services to offer clients of all sizes a comprehensive array of offerings and the specialized knowledge and networks they need to reach their growth objectives whatever they may be.

These efforts are all the more meaningful given the fact that the recovering technology markets have attracted a slate of new competitors for early stage lending from among venture, mezzanine, and even hedge funds. The work we’ve done in the past 5 years to diversify our loan portfolio across companies at all stages and to create new sources of fee based income, has minimized the impact of this competition, which might have been considerable. While our 23 years in this industry have taught us that competitors come and go, our efforts to leverage the competitive advantage we've created through comprehensive service offerings and deep and far-reaching industry relationships will remain constant.

Another constant is the effort required to create and maintain an infrastructure that will effectively support our strategy and our clients. In the first quarter of 2006, we made a number of strides in that direction. One was the awarding of SAS, that's Statement on Auditing Standards. SAS70 Type 1 certification to our investment advisory arm, SVB Asset Management. An auditing standard for service organizations, SAS70 is an internationally recognized indicator of the quality of our internal controls and safeguards. In conjunction with the addition of a Type II SAS certification later this year, this designation provides the high level of assurance in the quality controls and security that our asset management clients have come to expect, and it's an important milestone in our evolution as a company.

Also in the first quarter, we successfully implemented the first phase of a multi level authentication security solution for our online banking system, SVB E-Connect. This change was our response to new guidance last year from the Federal Financial Institution's Examination Council regarding risk management for Internet banking systems. Multi level authentication systems require a higher level of interaction from users which protects them against account fraud and identity theft. Although change like this is always a challenge for users, all institutions providing Internet banking are required to assess and address their online risk by year's end. And many of them will no doubt implement similar solutions. We've chosen a solution from a provider that is generally considered one of the best in the industry and we expect to roll out the second phase of the solution by the end of the year.

Our investment banking arm, SVB Alliant, continues to take the steps necessary to become a global advisory firm, providing a variety of liquidity options for companies of all sizes. While this sort of transition takes time and brings with it a certain amount of disruption, it is taking place under excellent and able leadership. In the end, it will allow SVB Alliant to better leverage the many strengths of its talented team at the firm level, and as an integral part of SVB Financial Group. In an outward sign of this evolution, in the first quarter we introduced a new logo for SVB Financial Group, the final step in a larger branding process that gave us our new name and provides a more accurate positioning of our business. The new logo provides a visual articulation of the focus, direction and momentum of our business, as well as an umbrella under which we can continue to grow. The improving economy promises to help us with that growth. Global mergers and acquisitions were up nearly 20% in 2005. This tells us that although the IPO market shows few signs of recovering from the dot com bust in 2000, companies are still able to achieve liquidity.

Global, private equity activity is growing as well, demonstrating that there is ample growth capital for good companies. Investment in India in the first quarter of 2006, at $1.4 billion, was triple what it was in the same quarter last year. U.S. venture capital investment, while not growing dramatically, remains stable and we expect it to do so for the next several years. Many of our client industries are experiencing positive trends. The technology sector has benefited from stable growth and profitability for several quarters now and average profit in the medical device and biotech sectors jumped 61% in 2005. The semiconductor industry had a better than expected year with sales of the largest Silicon Valley chip makes risking 11% in 2005. And although I don’t often talk about wine trends during this call, I thought it was notable that in 2005, California wine sales in the U.S. reached a record high of 441 million gallons with a retail of $16.5 billion . Two out of every three bottles of wine purchased in the U.S. were from California.

While we’re encouraged by these trends and remain confident in our strategy, the coming quarters will not be without challenges. We’ve spent the last 5 years managing effectively through recession, rock bottom interest rates, and slow new company formation, only to emerge into an era of challenging regulatory and compliance related scrutiny. In response to this environment, we are reviewing and improving many of our internal process with the objective of reducing the potential costs of regulatory compliance. That, we hope, will allow us to continue to direct the greatest possible time and resources toward creating business growth and stockholder value.

With that said, our performance in the first quarter suggests that we are managing the challenging landscape effectively and making the right decisions in implementing our strategy. We intend to continue making those good decisions. SVB Financial Group has always been about embracing the future and we believe we have done a good job positioning ourselves to do just that. We’re focused on what we do best. We’re global, and we have the right service offerings to help our clients accomplish their investment, growth and liquidity goals, whatever they may be. In other words, we’re ready. Thank you. And now I'd like to turn the call over to our CFO, Jack Jenkins-Stark.

Thank you Ken. I, too, would characterize the first quarter of 2006 as excellent, but one that also reflected the impact of two new accounting changes, both of which decreased our reported net income compared to the fourth quarter of 2005. First the excellent. We continued to deliver strong performance, experiencing meaningful growth in net interest income, net interest margin, average loan volume, average non interesting bearing deposits, and income from our client investment activities. Our credit quality remains stellar and our capital and liquidity positions are very strong. As for the accounting changes, the impact on EPS this quarter from stock options expensing, although significant, was less than what we had displayed in our prior proforma. Second, we made a change in the accounting related to our fixed to variable interest rate swap. That change also had an impact on EPS. I’ll get into more detail about the accounting changes in a few minutes, but let me start with some fundamentals.

Diluted earnings per share were $0.58 in the first quarter of 2006, within the range of guidance we provided last January in spite of the accounting changes I just mentioned. This number compares to $0.67 per share in the fourth quarter 2005 and $0.59 per share in the first quarter of 2005. As I will describe later, absent these two accounting changes, our EPS would have exceeded the outstanding results of Q4, 2005.

Quarterly average loans reached another record high of 2.7 billion in the first quarter, an annualized increase of about 11% over the previous quarter. As a result of this continued loan growth, net interest income increased in the first quarter by 2.9 million to 83.9 million. This increase was partially offset by a slight rise in interest expense related to other borrowings. Increases in average loans and higher short term interest rates both contributed to higher yields on our loan portfolio which resulted in an increase in net interest margin to 7.25% in the first quarter. That's up significantly from 6.78% in the fourth quarter of 2005. So those of you who have been wondering whether and when we would achieve the hole grail of 7% net interest margin can now turn your attention to other burning questions.

And those of you who have followed us for some time, know that we expect to see further growth in our net intercedes margin, even as short term interest rates flatten out as we continue to grow loans while reducing the size of our securities portfolio. Turning to sources of non-interest income, client investment fees were up nearly 13% annualized to 9.6 million in the first quarter. This rise stemmed from a $1.4 billion increase in client investment funds which were $16.4 billion as of March 31, 2006. This increase, and the overall level of our client investment funds activity, is one more sign of the strength of our target markets.

Corporate finances from SVB Alliant were lower this quarter at 2.4 million compared to 7.3 million in the fourth quarter of 2005. Compared to Q4 2005, net income was down by 3.3 million in the first quarter to 22.3 million and here's where I'm going to talk a little bit about those accounting changes. This net income reflects approximately 4.4 million in additional, non-interest expense owing to higher compensation and benefits expense, a result of the stock options expensing requirement for which we've been preparing which became effective on January 1, 2006. We estimate the impact on EPS of the new share based accounting rules, more commonly known as stock options expensing, and including expenses for our employee stock ownership plan, was approximately $0.10 per share in the first quarter Since a portion of these expenses do not results in an immediately recognizable tax deduction, this change also increased our tax rate for the quarter to 43.13% compared to 39.43% for the fourth quarter of 2005.

Non-interest income was also affected by a change in the accounting treatment for the fixed to variable interest rate swap related to our $50 million subordinated debt which we implemented in 2003. The rule covering these sorts of transactions, FAS133, is complex in interpretation as it continues to evolve. Midway through the first quarter, we became aware of a very recent interpretation of this accounting standard that led us to determine that our swap did not meet the requirements of the shortcut hedge method of accounting which we had been using. The shortcut hedge method allowed us to offset the change in the value of the stock with the same expected change in the value of the debt. As a result of this change, we implemented - - as a result of going off of shortcut hedge method of accounting, we implemented the long haul method of accounting for the hedge which will require us to record only the ineffective portion of the change in the value of the hedge instead of the entire change in the value for each reporting period. I know that was perfectly clear.

While we believe the hedge would have qualified for the long haul method in the first quarter, the accounting can't be applied retroactively, so we were required to record the change in the value of the hedge as a loss on the income statement. The hedge was a net loss position of 2.9 million, effectively resulting in a negative non-cash $0.045 per share impact in the first quarter of 2006. This number is reflected in the derivative gains and losses line of our income statement. Fortunately for us, the change was not material for any quarter other than the one we are reporting today. Several other banks have been affected by this new interpretation and some of them have had to restate 2005 results because of it.

Although both changes in accounting impacted consolidate net income and EPS, neither change reflects our cash flows or other fundamental performance metrics which were, in fact, excellent in the first quarter. Moving onto credit quality, this continues to be a stellar area for the company. Non-performing loans at March 31, 2006, were .14% of total gross loans, down from .26% at December 31, 2005 and down from .59% in the first quarter of 2005. We recorded a negative provision of 2.9 million in the first quarter of 2006 compared to a provision for loan losses of 1.8 million in the fourth quarter of 2005.

Also in the first quarter, we experienced a net recovery of 1.7 million compared to a net recovery of .1 million in the fourth quarter of 2005. Excluding the impact of stock options expense, this non-interest expense was about $4.5 million lower in the first quarter of 2006 compared to the fourth quarter of 2005 due to lower professional services fees and lower compliance costs, both of which we anticipated. Total non-interest expense was 70.7 million in both the first quarter of 2006 and the fourth quarter of 2005. We do expect professional services fees to rise for the coming quarters as a result of continued higher regulatory and compliance related infrastructure costs.

As part of our ongoing stock repurchase program, we repurchased 510,000 shares of common stock for an aggregate cost of 25.8 million. We also put into effect a 10B51 plan which allows us to repurchase a predetermined number of shares automatically until our trading window reopens. The impact of our stock repurchases was somewhat offset by a higher than usual volume of option exercises and sales in the open trading window immediately following January 1st. Our capital ratios remain very strong and we continue to review the best alternatives for use of that capital, including returning it to shareholders through share repurchases.

Looking forward to the second quarter, we expect earnings to be between $0.58 and $0.64 per diluted common share. That assumes another 25 basis point increase in the fed funds rate in May and a higher provision for loan losses compared to the first quarter. We expect higher non-interest expense in the second quarter, primarily due to higher professional service and compliance costs than in the first quarter. Our estimate of EPS does not anticipate any change resulting from potential revision to the accounting treatment of our convertible debt securities.

We also expect slightly lower average loan growth in the second quarter, growth in client funds comparable to the first quarter, higher non-interest income related to investment gain, and substantially less impact related to the change in accounting for our fixed / variable interest rate swap. In closing, we continue to be encouraged by meaningful growth in our core income streams, and strong performance on our key financial metrics We had another quarter of record high average loans, high end investment fees are growing steadily, and we passed a significant net interest margin milestone. We're still working hard to achieve the highest possible operational effectiveness by making the necessary investment in systems and infrastructure that will support our growth into new markets and the creation of new income streams. Thank you.

We'd like to open it up for questions, please.

Thank you. [OPERATOR INSTRUCTIONS]. We'll take our first question from Joe Morford of RBC Capital Markets. Go ahead, please.

Thanks. Good afternoon, everyone. A couple of questions, I guess, and maybe if Dave's there, I'm curious to learn a little bit more about the average loan growth. It seemed to slow from kind of the 20%+ pace you were seeing in the back half of last year And it looks like it may continue to slow a little bit from here. And just kind of what's driving that and where's the growth been coming from?

Okay, this is Dave Jones. I will at least start a response to that, Joe. The average growth in the quarter was generally across the board. There's no one area that exceeded the others. In terms of the average decreasing, it's a result as you see from in the period loans being a little less than the end of period for December quarter. And what we saw in terms of end of quarter activity was just the result of a few relatively larger loans that we're paying off. So what was going on in the several quarters before, was that we might have one loan of $10 million pay off, and say two loans of 6 or maybe one loan of 12 that funded and provided growth. And we did that quarter after quarter and just the inevitable catch up of coincidence, that reduced at the end of the first quarter. So obviously we're going to start from a little lower level, making it harder to keep up the same pace of growth that we enjoyed in 2004 and 2005.

Joe, this is Jack. I'd add just a couple things. One is, one of the pleasant impacts of some of the things Dave just described is, as you saw, our net interest margin was up substantially over Q4. And in fact, part of that expansion is related to some of the loan payoffs that Dave mentioned And second is, as we've previously indicated, we did expect loan growth to be somewhat, to come off of the 20% levels in Q4 and in fact be somewhat, a little bit less in the early part of the year and a little bit stronger as we move into Q3 and Q4 from a, I'll call it a quarterly relationship. So we didn't see Q1 as anything different than what we had planned on.

Okay. And then just following up on your margin color, any comments about how it progressed during the quarter or maybe where we ended up either the month of March or the end of period relative to the average as a whole?

You know - - let me take a look at it later, but I don't have any monthly data in front of me from how it progressed during the quarter. I would say it was stronger than we had anticipated overall at 7.25. We knew that we were going to break the 7% level in the quarter, but it was much stronger than expected. And I think there's a couple of factors. One I mentioned with regard to fees. The other is, you’ve got that what I think of as the efficiency of the balance sheet at work here as we replaced securities investments with lending. And further increased the overall efficiency of the balance sheet and that contributed to the expansion in the margin as well.

And would you expect to continue that kind of remix from here in terms of securities to loans?

Well, of course a lot of that depends on what happens with deposits. But in general, that's the direction we absolutely - - and that's why we do expect, even if assuming that fed funds rates or short term interest rates do start to flatten out, even with that prospect, we expect our NIM to continue to grow as we continue to grow loans and increase the efficiency of our balance sheet.

Okay. Thanks so much, Jack.

Thank you. We'll take our next question from John Pancari of JPMorgan. Go ahead, please.

Good evening, guys. I just wanted to ask a couple questions here around the interest rate swap. Should we expect to see some mark to market hits going forward on that and possible to the magnitude, or any way to give us an outlook there?

Sure. Well first of all, no, the answer is almost assuredly no. What you had is essence was a situation where we had to go to this revision, if you will, and accounting treatment, so we had to market at that point. We subsequently put in place documentation that would only have us marking what's called the ineffective course and we expect that not to be any more At this point, we don't expect that to be any more than 10% of any change in the interest rate swap, of value of the interest rate swap or mark on the interest rate swap. So this is something which will fluctuate in what I'll call the well below the noise threshold level of our quarterly results and what we have here is just a one shot change. Now this is something that has been going on behind the scenes obviously This mark has been going up and down ever since we went and entered into the transaction. But under the shortcut method, it was not necessary to flow it through the income statement. So nothing really has changed with the underlying dynamics of the swap. It’s still effective in our judgment, it's still the original economics that we anticipated are still in effect. And so to me, this is one of these let’s pretend accounting types of animals where we have to pretend now that it's no longer, or it is not going to, or it is going to flow through the income statement as opposed to where we were before. So I would measure it in the hundreds of thousands of dollars maybe rather than the millions of dollars that we say this quarter

Right, so now you have the documentation now to achieve the shortcut?

Well, we've put it in place, yes.

All right. And then separately on the corporate finance fees, I wanted to see, what did you see during the quarter that really impacted that number? And what's your outlook in terms of pipeline for that, for the SVB Alliant and where we could see those revenues going for the remainder of the year?

There are a couple of things that happened this quarter at SVB Alliant. One would be that some deals, as is often the case, that were started, got postponed and there were a couple of deals that got started and fell through. And that's always an issue. It's in a sense almost a part of the historical pattern. The other thing that happened was that we lost a couple of employees and that's something that's kind of indicative of this era in the sense that it's a very competitive era that we're operating in right now across the board. And when markets heat up in the way that our markets have heated up in these past few quarters, that sort of this is probably to be expected and probably almost inevitable. It was disappointing, but on the other hand, it's the kind of thing that happens and we're simply having to work our way through it.

And when those things happen, you can always look on the bright side and plan for a better tomorrow. We'll say that we have along term view with respect to this business. We believe that it's an integral part of our strategy and we believe that we can product certain synergies that can't be produced elsewhere. And we're still, over the long haul, very enthusiastic about this business and believe that we're making progress. And certainly we've made excellent progress in these past several quarters, particularly under our new leadership in terms of integrating SVB Alliant into the Silicon Valley Bank, or SVB Financial family of products and services. And the result is that we have, from a long term perspective, a very attractive opportunity here. The other thing that I would add to that is that we are operating in an era of increased activity, the pipeline is a good pipeline. And I should also point out, which I'm sure hasn't escaped anybody, that the overall economic significance of whatever happens at SVB Alliant at this juncture is not likely to make a gigantic difference in terms of our quarterly earnings anyway. So this is more of a long term project and we’re still very enthusiastic about its long term prospects.

All right And the departure of those couple of employees, does that change how you're viewing your comp levels there? Are you reviewing any of your incentive structure at all to retain some, you know, the remaining people?

Indeed. Our compensation program is something which we've been studying for some period of time now in order to arrive at the optimal compensation program. And we are in the process of doing something very much akin to what you've just described. Having said that, I’m not particularly clear in this case that that has anything to do with it.

Okay. Then lastly, then I'll let someone else ask a questions, but I just wanted to see if you can give a little more color on - - I guess your expectation for professional fees further out, I know you indicated that you expect another increase in those costs next quarter, they're already running at a level that I thought would be a bit below that by now, and I just want to see when you expect them to start coming off?

Yeah, good question. It think the way we see it right now, John, is that we're going to have a bit of a peak in Q2 and then we’re going to see some of that trail off in Q3 and Q4. So that's our expectation at this point. We've got some fairly tight time schedule issues that we’re dealing with around non-accounting type compliance and we anticipate getting those well resolved by the end of Q2. So that's creating a bit of a reason for my comment about some of those higher professional services costs in Q2. Once we get that in, I’m not saying it’s going to drop to some 1991 levels, but it’s going to definitely going to come off of a peak level in Q2.

Okay, great. Thank you.

Thank you. We'll take our next question from Casey Ambrich of Millennium Partners. Go ahead, please.

Hi, good afternoon, thanks for taking the question today. Just a few things. So the first quarter results demonstrate kind of core, good core solid trends. But the bottom line doesn’t really capture that. So if we were to add back kind of this $0.14 -- $0.04 for the accounting and $0.10 for the options, is that going to imply $0.72 for the quarter then?

So let me rephrase here, put your question into a comment. Absent stock options expensing being implemented, and absent the change or the modification of our accounting for the interest rate swap, we would have reported something that looked about $0.14 larger than what we reported.

Okay. And then what is the second quarter guidance kind of include in terms of the option expense and - - is that still kind of $0.10 a quarter?

Yeah, I think in that neighborhood, that's right. Maybe a little lower. What you're going to find is ours is going to, in a small way, tend to trend down over the year. I'm not talking about a wholesale trend down, but a modest trend downwards over the year. As we substitute lots of vested, high value vested options with somewhat smaller number of unvested options. So that will tend to trend down and change in other things like volatility and other metrics that go with the calculation. But it will trend down somewhere. That's to be contrasted with some companies that accelerated options last year and theirs are all going to trend up this year. We're not going to have that kind of thing happen for us. So I would expect it to be somewhat lower in Q2, not a lot. Then somewhat lower again in Q4. And maybe by the end of the year a run rate that is maybe as much as a penny lower than what you're seeing today and then continue that trend over some time.

Okay.

Casey, there's one other factor that I think is worth mentioning, although it's probably not as significant as what you did mention, those being the effect of the swap and then the fact of options expensing. And that is like virtually every other bank in this era, we're in the process of making some fairly substantial investments in infrastructure that's pointed at doing a better job with regulatory compliance. In particular BSA which I'm sure you're familiar with. And those things play a role obviously as well in terms of the professional expenses, professional services expenses that you were just citing. And that - - whereas one can reasonably expect that some portion of that is ongoing, one can also reasonably expect that some portion is one time and up front.

Sorry, Casey, I'm going to skip you back to your options question as well. Just as illustrative, I think if you look at out 10K, is that in 2003, options granted that year were nearly 1.8 million and 2005 options granted were $450,000.

Okay, that makes sense. And then just kind of moving onto the margin - - so I know you don't have the quarter end number, period end number, but should we kind of assume on the back of the envelope it's about 15 basis points per 25 Silicon Valley tends to capture for every set increase?

You know, I used to have a quick answer to that, Casey, but it's gotten a little bit more complicated and let me tell you why. And the major reason I think it's getting a little bit more complicated is that those kinds of metrics used to assume that sort of deposit growth was comparable to loan growth. And they also used to assume that we had, we did some changes to our deposit interest rate. I think it's going to tend to be a little bit higher, maybe depending on fees in any given quarter, but I think it could be a little bit higher For now I'd stick with 15 on 25, bit it could go to 20 and don't be surprised if it's 10. But I think 15 on 25 is reasonable at this point.

And then just last question, you commented that you expect kind of loan growth to kind of re-accelerate as the year - - I think you did over 20% last year, your kind of ballpark and your kind of previous discussions, I think you were kind of hoping for 15% year over year. Why would you expect it to kind of accelerate in the back half of 06?

Well we saw that happen in '05. As you might recall, we say loan growth in Q3 annualized was up, it was a big number, I can't put it now - - it was over 30% annualized as I recall. And Q4 was over 20% annualized. So we're coming off a couple of strong quarters and we think that's the kind of pattern and we've said that since our last earnings call that we would see a somewhat similar pattern in 2006. Part of it's related to DC funding. Part of it's related to just overall activity of wanting to get the deal done before year end There's a lot of different things that can go into it.

Okay, so I mean the consensus looks - - I think there's going to be a lot of noise tomorrow. So it sounds like the trends are intact, management seems to be bullish on the outlook, but with these options and some of the accounting issues could really mass the core numbers.

Yeah. Well I think the interest rate swap is one of those things that creates more noise than really anybody should spend time on. But I understand what you're saying.

Okay, thank you very much.

Thank you. We'll take our next question from Kathy Steinbrecher of Wedbush. Go ahead, please.

Kathy Steinbrecher Good afternoon. Most of my questions have been answered, but I was wondering if you could elaborate on your global platform and where you see that coming in at the end of the year, if that's going to have any material contribution?

Well first of all, my answer tends to be, how do we want to define contribution? We believe this global platform is already contributing and fairly significantly. But it's contributing in a way that's somewhat difficult to measure in the sense that a lot of our competitiveness, or a portion of our competitiveness in our market, target markets, is based on our ability to in fact interact easily and provide services easily across multiple geographies. Our average early stage company now is not one, two, or three years away from an international set of activities. They're more one, two or three months away. Either they're looking at international as a target market or they're using international as a significant resource for their own development activities and/or their manufacturing activities. So we believe that it's already critical to the success you saw in Q3, Q4 and this quarter from a financial growth standpoint. Putting a number on it is little bit more difficult, although we are trying to do our best to create some metrics around non direct revenue creation in that indirect revenue creation in that regard

From a pure standalone, try to measure direct revenue in that geography, we frankly don't expect any direct revenue with any substance yet in the next year in certain geographic such as in India or China. That's a matter of driving indirect revenues more than it is direct revenue although we think it sets the stage for some very interesting let's call it options on our part to develop business in those areas. In the UK, we do expect more direct revenue both from direct lending as well as from investment banking activities on the European continent. But again, in that regard, the direct lending is relatively modest at this point and we expect to grow it very measurably over the next year. And the investment banking activity is really one where we do expect to see some revenue, but it will be, of course, like all other M&A advisory activity, somewhat volatile in terms of the way it lands in any given quarter in a year. So I think what we'll do is we'll come back and give you some sense of what's going on in the UK perhaps in our next call and be able to point out any direct revenue. But in terms of how these things support the platform, they're absolutely integral to supporting our platform at this point I believe.

Let me just underscore what Jack is saying by, in a sense this is a repeat in my own words, but it's becoming, as the markets are evolving, it's becoming increasingly difficult to differentiate between revenues that are domestic and revenues that are international. And the other thing I would say is that as the markets are evolving, that there is no choice, that those who are not moving in the direction of becoming global will become irrelevant over time.

Great. Thank you for that color. Just a couple other questions. On that, what are your expectations for the tax rate for the remainder of the year?

Part of that tax rate increase, that's a really good point, I'm glad you brought it up. Part of the tax rate increase, as I said in my direct comments, is related to the nature in the beast of stock options expensing in terms of what can be, what is considered recognizable expense. We would expect that tax rate to trend down each quarter over the next 3. And as the effect on the tax rate of stock option expensing, the adoption of stock options expensing and the way it interacts with the tax rate, it diminished over the next 3 quarters. So I would expect it to trend down maybe in the 41% range over 3 or 4 quarters.

Okay, and I just missed your second quarter earnings range. Could you repeat that, please?

Sure, what did I say? 58 to 63, I think. 58 to 64, Sorry.

58 to 64, okay, thank you.

Thank you. We'll take our next question from Andrea Jao of Lehman brothers. Go ahead, please.

Good afternoon. Back to the margin, how much did fees and warrants, if any, contribute to this quarter's expansion?

Warrants not very much at all. In fact, if it was anything, it was closer to zero than anything. But fees we estimated about 10 basis points of the expansion

How much, if you can, how much did the mix shift in the balance sheet contribute? And if you can share with us if this mix shift continues, how much will it contribute in coming quarters?

That’s a good question and there’s a lot of different ways to slice and dice around that question. I have seen some analyses that we've put together on that question that suggest almost half of the margin increase was due to that mix shift that you're describing. That is, substituting securities investments, or substituting loans, lending for securities investment. A lot of that gets into what assumptions you have about what have grown, how it would have grown, in terms of what lending would have done, what would have done - - so suffice to say, you can slice and dice it a whole bunch of different ways. Right now, we're at about half the margin. I'd be surprised if it was that high again. But - - and I think that as Casey pointed out earlier, I think a more reasonable assumption, it sounds like 15 on 25 to me.

Okay. Could you share your thoughts on credit cost going forward?

Credit costs? I’ll let Dave speak to credit. As I mentioned in the prepared comments, the credit just continues to be stellar in really every respect. So, Dave you want to?

When I think about credit cost, I’m thinking about the provision. And clearly when we have a quarter with a negative provision of 2.9, it only stands to increase form that level. So there are a lot of things that will impact it. It won’t - - while it will go up substantially from a negative 2.9, it won't go into a substantial positive number in my belief.

So the recent quarters are good to look at for run rate?

I think so.

Perfect. Thank you.

Thank you. We'll take our next question from Justin Livingood of Merrill Lynch. Go ahead, please.

Hi there. I've got a couple of questions on the balance sheet. First one, on deposits, it looks like end of period deposits have declined fro 3 straight quarters. I'm just curious what, if anything, is going on there.

Well, some really good things are going on there. What you're seeing, one of the - - I think the key aspects of our business model that is very important to understand is a metric of what's going on with our client base. You have to look at both deposits as well as our off balance sheet client investment funds under management. Our business model is devoted to using our balance sheet in the most efficient fashion And given the lending requirements that our target markets have, we are inclined to pay less to attract deposits than the typical bank and to encourage those who are interested in market rates, to move that money off balance sheet.

So I think it would be very misleading to just look at those end of period numbers without also looking at the end of period numbers around client investment funds under management. When you do both of those, you get to a very different picture and for good reason. The other metric than I’d encourage you to look at and it's perhaps a little bit more loose than the one I just described in terms of its indicativeness, but DDA activity is also a metric of our customers and what’s going on. So that would be under the non-interest bearing demand deposit category. So we’re just not going to follow the rules of your traditional banking institution. We're going to, in terms of what's going on, why are our deposits growing we don’t particularly want them to grow at this point. We want lending to grow, we want DDAs to grow and what that means for deposits, were relatively indifferent to. In fact, I would say we’re encouraged by the trend you've just described.

So you would expect that trend to continue, deposits drifting down and off balance sheet funds rising?

Yes. Drifting, I think, is the key word. In any given quarter, they could be up, they could be flat or they could be down. But we don't expect any growth in our deposit base. We expect that growth - - in our total deposit we expect growth in our DDA, we expect some drifting down in our interest bearing, and we expect to see continued growth in our client funds under management, all of which combine to give a very good picture . I think we hit over, with this report, we've over $20 billion in client funds under management plus our deposits and that compares to something that probably looked more like 14 billion just two or three years ago.

Right, okay, that's fair. My other question is back on the topic of loans. And I know you said earlier that some of the issues this quarter was just timing for end of period balances and so forth. But can you add any color on whether or not certain end markets, target markets of yours perhaps, have started off the year a little slower or if there’s anything in the market that are perhaps hampering your ability to grow loans?

This is Dave and I will start out with a response. I don't think that there's anything that causes me serious concern. Now at the same time, I’m going to acknowledge that there is competition. And we have to battle others for every piece of business, be it a loan or be it deposits. But the fact is our early stage business is doing well, continuing to do well, we’re growing it. And the later stage business is also doing well. Absent just a point in time of March 31 where there was a down dip for a short period of time.

Okay, so again, you’re confident that that 15%-ish full year number is achievable in spite of this perhaps up tick, to put words in your mouth, in competition?

Yes.

We're not - - the guidance we provided on average, year over average year, we're not changing from that kind of mid teens number.

Okay, thanks.

Thank you. We’ll take our final question from James Abbott of SBR. Go ahead, please.

Good afternoon. If I might just belabor the question on the yields, one of the things that I look at is the change in the yield of loans on a link quarter basis to relative to the change in that fund. Yield on loans was up quite significantly, almost near 50 basis points. And it sounds like it was mostly due to the fee income coming in or being amortized in to that. I was wondering what the risk might be to some of that unwinding in future quarters. What signs should we be looking for to make sure that we're not overly aggressive on maintaining that fee income in that line item?

Well we’ve actually had this kind of impact happen to us, I've been with the bank for 2 years and I've seen it come and go in various quarters where we’ve had pay offs on loans and somewhat more in amortization in a quarter than we might have had in the prior quarter. So in part because some of our loans can be fairly significant in size, you're going to see some of that happen. I don’t think you’re going to see a dip down in terms of that's going to offset any gains we might have in the next quarter for example. Not given what’s going on with the underlying short term rates and the growth in the loan portfolio. So I don’t see that as a major, but I do expect, as I, as we discussed with Casey, in response to Casey’s question, is we do expect to see some volatility where in one quarter it can be 15 on 25, the next quarter it will be 20 on 25 and the next quarter it could be 10 on 25 in terms of interest rate sensitivity.

Okay, thank you, that helps. Then also as a follow up question on SVB Alliant's impact to earnings, it sounds like there may have been a drag on earnings during the quarter. Could you describe what that might be in EPS terms?

Yeah, I think, well one, I don’t know that I’d describe it necessarily as a drag but in comparison to Q4 where SVB Alliant had a really outstanding quarter, Q1 was, of course, we did expect it to be down. But it was of course down more than I think we expected as did the market. So it was less than Q4. As far as a drag goes, if you want to compare it to Q4, I guess you could say there was an element of drag, but that's not really the relevant comparison in our minds because it really was coming off a very good quarter.

The other thing was, there’s a lot of variable compensation tied into a business where you sort of eat what you kill. And therefore, the amount of impact on our bottom line, as Ken described, of a good quarter at SVB Alliant or a bad quarter at SVB Alliant gets diminished considerably. If you do compare it to Q4, we were about just under $5 million less in Q1 than we were in Q4. That probably, after all is said and done, has probably got maybe a $0.02 impact or something of that magnitude. I'd have to get out my calculator and really calculate it though.

Sure. So it's running at a profit, it's just less of a profit than it was?

No, I didn't say that. I didn't say it was running at a profit. It's just compared to Q - - what to you want to compare it to? Do you want to compare it to no revenue? Or compare it to what we saw in Q4? Or compare it to some sort of market expectation? I'm just saying that compared to Q4, it had that kind of impact relative to what we might have achieved if we saw a $7 million number there.

Sure. $5 million being less net revenue or?

That was revenue, correct.

I guess what I was looking for was the EPS drag as far as when I say drag, if it's running, if the business is running at a loss at this point, I was just looking for the magnitude of that.

Probably pretty close to the number I gave, that $0.02 or $0.03 number.

Oh okay, so last quarter it may have been fairly close to breakeven and then this quarter it's a little bit of loss?

Yeah, so call it $0.02.

Okay, super. Thank you.

Thank you. This does conclude our q-and-a session. I will turn it back over to our moderators for any closing remarks.

Thank you all for participating and we'll talk to you next quarter. Thank you.

Thank you. This does conclude today's conference call. I would also like to remind our participants of our replay number at 1-800-677-7320. Again, that number is 1-800-677-7320. We thank you for your participation and have a great day.