SVB Financial Group (SIVB) 2016 Q3 法說會逐字稿

Welcome to the SVB Financial Group Q3 2016 earnings call. My name is Sherry, and I will be operator for today's call.

(Operator Instructions)

Please note that this conference is being recorded. And like to turn the call over to Meghan O'Leary. Meghan, you may begin.

Thank you. Thanks everyone for joining us today. Our President and CEO, Greg Becker; and our CFO, Mike Descheneaux, are here to talk about our third quarter 2016 financial results and will be joined by other members of management for the Q&A. Our current earnings release is available on the investor relations section of our website at www.SVB.com.

We will be making some forward looking statements during this call and actual results may differ materially. We encourage you to review the disclaimer in our earnings release, dealing with forward-looking information, which applies equally to statements made in this call. In addition, some of our discussion may include references to non-GAAP financial measures. Information about those measures, including reconciliations to GAAP measures, may be found in our SEC filings and in our earnings release. We will limit the call, including Q&A, to an hour, and with that I will turn the call over to our CEO, Greg Becker.

Thanks, Meghan. Good afternoon and thanks everyone for joining us today.

We had a strong third quarter, delivering our highest ever quarterly earnings per share of $2.12 and net income of $111 million. These results reflected solid performance across our business; healthy loan growth, continued core fee income growth, and stable credit quality. They also reflected significant venture-capital and private equity related gains. Since we are approaching the end of the year, I'm going to let Mike give you the details in our third-quarter performance and I will focus primarily on the market environment and our expectations for 2017.

Overall, the market for us and our clients are healthy, despite some lingering impact from the VC market recalibration in the first half of 2016. Venture-capital continues to perform strongly, although activity remains concentrated on larger funds and larger later stage investments. The national venture capital Association stated 2016 is on pace to be a record-breaking year for raising capital based on the $32.4 billion raised to-date; a quarter of that concentrated in six funds larger than $1 billion each. Likewise, 2016 is expected to be the second biggest year in a decade for venture investment, with $56 billion invested year-to-date in nearly 6000 companies. This is despite a decline in the completed financings in the third quarter.

Consistent with prior quarters, investors in the third quarter wrote bigger checks to fewer companies, with a sustained focus on later stage companies. By comparison, the dollar run rate for 2016 is just below 2015's peak of $79 billion, although the number of investments is down by about 20%.

In spite of an emphasis on later stage companies, early-stage investing is alive and well, although it has been dominated for the last few quarters by a growing group of [angels] and micro funds making seed investments. In addition, corporate strategic investments are becoming mainstream as established companies invest in new technologies, products and delivery mechanisms in order to remain relevant and competitive. In a growing number of instances we have seen entrepreneurs bypass traditional venture-capital altogether to accept large, strategic investments from corporates.

Turning to exits. The IPO markets thawed noticeably in the third quarter with 12 venture backed tech and life science IPOs, 6 of which were SVB clients. So the IPO markets appear to be picking up and while we do not expect them to get back to the 2014 levels, a growing number of clients are positioning themselves to go out in the next 18 months. Of course, the majority of venture backed companies exit through acquisitions and buyouts, which accounted for 91% of venture exit activity in the third quarter.

Median M&A values have increased significantly from last year, primarily due to acquisitions of such high-profile companies as jet.com and Dollar Shave Club, each of which was acquired for more than $1 billion.

While the number of acquisitions was down in the third quarter, our high-growth clients continue to acquire and be acquired at a brisk pace. From our perspective, and quarterly fluctuations notwithstanding, these signs point to continued strength in the innovation market, with healthy new Company formation, strong capital raising, growing funding options for our entrepreneurial clients and an improving exit potential. This healthy level of activity overall reinforces our optimism about our prospects for growth in our business.

Our priorities for enabling our long-term growth have not changed. We remain focused on enhancing our client relationships and building our brand, expanding our platform capabilities and reach, and strengthening risk management to help support our growth. We continue to strengthen our unique position in the global innovation market and our ability to meaningfully impact our clients' success through our networks, advice, and insight. We do this by building deep and long-term relationships of entrepreneurs and influencers in our industry, creating a platform that allows us to offer a great client experience, providing our clients with unique events and valuable introductions and doing it all globally. These efforts have enabled us to add clients at a healthy pace over the long-term, including more than 1000 new corporate clients in the third quarter.

As we have grown our client base and continue to work with larger, global companies, we made numerous investments in our platform, capabilities and global reach. These investments support our efforts to grow by enabling us to build deep, substantial, long-term client relationships that offer significant revenue opportunities over the long-term.

Our payment strategy is a piece of these efforts that includes allowing clients to streamline and automate their Accounts Payable through our multi card platform, cutting the time it takes for clients to integrate their systems with ours from weeks to days through our API banking system, offering clients the ability to receive payments globally on any platform through our partnership with First Data and providing the core banking and payments infrastructure for a growing group of [syntec] and e-commerce companies. The ability to do this all globally is another essential part of our equation.

To this end, we continue to build out our capabilities, expertise and platform to meet the needs of growing client base in the UK. We remain focused on building client momentum over the long-term, in our China joint-venture bank, and we are investigating potential new areas of global expansion such as Germany and Canada, subject to regulatory approvals. Underpinning these efforts to enhance our brand and expand our capabilities and reach is our continued focus on investing in, enhancing risk management and compliance to meet regulatory requirements and expectations as we grow.

We continue to invest and build our risk managing function. We recently hired a new Chief Risk Officer, Laura Rosetti, who is significant experience in financial services and enterprise risk management, having most recently served as Chief Risk Officer for Capital One's retail and direct bank.

We continue to invest in and prepare for enhanced credential standards related to risk management, capital, liquidity and other areas relevant to financial institutions larger than $50 billion. We believe we are making meaningful progress in all these efforts as evidenced by our continued strong financial performance and we are confident in our ability to continue to drive these priorities in 2017.

With that in mind, I would like to turn our preliminary business drivers outlook for 2017. We are expecting solid performance with trends similar to those in 2016 and making the following assumptions: continued healthy activity among our clients; gradual recovery by the early-stage markets from the effects of the recent VC recalibration; a stable US economy and no dramatic changes in the regulatory environment.

At the same time, we expect a low rate environment and persistent competition to provide continued headwinds. Consistent with our recent approach and irrespective of the forward curve, we assume no market interest rate increases between now and the end of 2017. Nevertheless, we expect solid performance with potential upside if rates do increase.

There are six basic drivers of our 2017 outlook I want to highlight. First, average loan growth in the high teens. We expect this growth to come across our loan portfolio with continued strength in private equity and the private bank, due to our continued efforts to increase our market penetration with middle-market private equity firms and individual influencers in the innovation economy.

Second, average deposit growth in the mid-to high single digits. This assumes diminishing effects from the recent VC market recalibration and a healthy pace of client activity overall.

Third, net interest income growth in the low double digits. This assumes continued growth in high-quality, but lower yielding loans and a smaller investment securities portfolio compared to 2016. If rates did rise, consistent with the forward curve, it would increase our net interest income outlook to the mid-teams.

Fourth, stable credit quality overall. We expect full year net charge-ups to be between 30 and 50 basis points of average total gross loans, consistent with our expectations for 2016.

Fifth, core fee income growth in the mid-to high teens. This would largely be driven by foreign-exchange in credit cards and payments.

And finally, noninterest expense growth, net of NCI, in the high single digits, consistent with our expectations for 2016. So, we are optimistic about 2017, assuming no significant deterioration of the US or global economies and our markets. And if rates did rise, consistent with the forward curve, we would expect to see upside in net interest income and NIM.

Let me close by saying that we are pleased with the continued strength of our core banking business and improvements in the VC backed exit market. Our performance is a testament to the power of our platform, the resilience of our markets and our ability to execute and drive solid results even in challenging markets. We believe our focus on the most vibrant industries and the best clients around the globe will continue to provide growth and opportunities over the long-term. Thank you and now I will turn the call over to our CFO, Mike Deschenaux.

Thanks, Greg and good afternoon, everyone. Today, I will highlight and focus on the following items. First, healthy loan growth, driven by private equity, capital call lines, and private bank. Second, stabilization of total client funds. Third, higher net interest income and a higher net interest margin. Fourth, stable credit quality. Fifth, significant gains from warrants and PE and VC related investment securities. Sixth, higher core fee income. Seventh, higher expenses driven by incentive compensation and finally, increased capital ratios across the board.

Let us start with loans. Average loans grew by $448 million or 2.5% to $18.6 billion, driven primarily by private equity capital call lines and the private bank. This reflects relatively healthy growth despite the headwinds from some loan repayments related to certain clients being acquired, as well as the impact of Brexit on exchange rates on our foreign currency denominated loan balances. While we could see some repayments of private equity capital call lines of credit, given the significant growth we have had over the last four quarters, our pipeline remains strong. For the full year 2016, we expect to come in near the lower end of our recently increased outlook range of percentage growth in the mid-20s.

Now, let us move to total client funds, consisting of on-balance-sheet deposits and off-balance-sheet client investment funds. Average total client funds were flat in the third quarter at $81 billion, reflecting a much smaller decrease of $250 million in average deposits, compared to a decrease of $1.1 billion in the second quarter. This was largely offset by an increase of $222 million in average off-balance-sheet client investment funds.

The decrease in average deposits continue to be impacted by the recalibration of venture capital investment levels and activities from the first half of the year. Specifically, we saw slower VC funding for certain early-stage clients, a higher proportion of new, early-stage clients putting funds into off-balance-sheet investments, and a relatively high pace of acquisitions of corporate finance clients.

Foreign currency denominated deposit balances were also impacted by changes in exchange rates post Brexit. Nevertheless, we believe we are starting to see a stabilization of deposits or possibly shift back toward positive deposit growth as September average deposit balances were approximately $900 million greater than August balances. Additionally, period-end deposits increased by $593 million and period-end off-balance-sheet client investment funds increased $272 million due to a solid pace of new client acquisition and robust inflows from private equity clients. For the full year 2016, we expect deposit growth to come in at the high end of our mid-single digits growth range.

Turning to net interest income in our net interest margin. Net interest income increased by $5.8 million to $289.2 million in the third quarter, compared to growth of $1.9 million in the second quarter. This increase was primarily related to loan prepayment fees and one additional day in the quarter.

For the full year 2016, we expect net interest income to come in at the low end of our mid teens growth range. Interest income from loans increased by $8.9 million, of which approximately $4.4 million was related to higher average loan balances. Fees from two large loan prepayments and one extra day in the quarter accounted for the remainder of the increase.

Gross loan yields decreased by 4 basis points, primarily due to growth in lower yielding capital call lines and private bank loans. Interest income from investment securities declined by $3.2 million, primarily due to lower average balances. These lower balances reflect the effect of the second quarter sale of $1 billion of investment securities and use of portfolio cash flows in the third quarter to support loan growth and repay short-term borrowings. Overall, investment security yields remained at 1.62% in the quarter.

Our net interest margin increased by 2 basis points, to 2.75%, due to the shifting mix of our average interest-earning assets toward higher-yielding loans versus investment securities. For the full year 2016, we expect our net interest margin to be in the middle of our range of between 2.6% and 2.8%.

Now let us move to credit quality, which was stable in the quarter, with the early-stage portfolio showing fewer signs of stress than in the previous two quarters, and the rest of the portfolio performing well overall. As a reminder, it is important to note that our early-stage portfolio continues to be only about 6% of our total loans.

Our allowance for loan losses with $240.6 million at the end of the third quarter, or 1.25% of total gross loans, an overall decrease of $4.2 million compared to the second quarter. The decrease in the allowance is primarily driven by a decrease in specific reserves for nonperforming loans, mainly due to charge-offs of nonperforming loans that were previously reserved for. This was partially offset by additional reserves for loan growth as well as a shift in the mix of our performing loan portfolio.

Our loan-loss provision was $19 million, compared to $36.3 million in the second quarter. This amount reflects provisions of $8 million for performing loans, $5.5 million for charge-offs not previously reserved for, $4 million for nonperforming loans and $2.8 million for loan growth. The provision for nonperforming loans is net of a $5.5 million partial reserve release for one of our nonperforming sponsored buyout loans due to credit improvement.

Net charge-offs were $22.5 million or 48 basis points in the third quarter, compared to $19.4 million or 43 basis points in the second quarter. This reflects $24.6 million of gross charge-offs. Nonperforming loans decreased by $18.4 million to $106.2 million or 55 basis points in the third quarter. The decrease was driven largely by charge-offs of $19.1 million, of which $18 million was previously reserved for and repayments of $15 million, partially offset by $15.9 million in new, nonperforming loans, primarily coming from a mix of early stage companies and one late stage company.

We had no new additions to nonperforming loans from our sponsored buyout portfolio during the quarter and in fact, we resolved one of the three last week to a sale of the loan. The impact of the sale in the fourth quarter will be a charge-off of $7 million, a reduction in nonperforming loans of $22.2 million and a reserve release of $3.3 million.

Regarding our credit quality outlook for the full year 2016, our allowance outlook remains unchanged. We expect to come in near the top of our net loan charge-off range of 30 to 50 basis points.

Finally, we are decreasing our outlook for nonperforming loans as a percentage of total gross loans to a range of 40 to 60 basis points. We now expect to come in at the middle of that range.

Now let us move to noninterest income, which is by primarily composed of core fee income and net gains from warrants and PE and VC related investment securities. I will discuss certain non-GAAP measures in my comments and we encourage you to refer to the non-GAAP reconciliations in our Press Release for further details.

GAAP noninterest income was $144.1 million, compared to $112.8 million in the second quarter. Non-GAAP, noninterest income, net of noncontrolling interests was $139.5 million, compared to $111.2 million in the second quarter. The increase was mainly related to warrant gains of $21.6 million, compared to $5.1 million in the second quarter. These gains were driven by primarily by evaluation gains on our warrant portfolio, related to the improving IPO and M&A activities. In particular, we saw $10.3 million of unrealized gains related to the IPO of Acacia Communications in the third quarter.

We also had non-GAAP net gains on investment securities, net of non controlling interest up $18.4 million, compared to $21.6 million in the prior quarter. This reflects unrealized gains of $7.2 million related primarily to our investment in one fund, which reflects the significant new funding round at a higher valuation in one of the underlying investments and $4.3 million in unrealized gains from our managed funds of funds, reflective of M&A and IPO activity of the investments held by the funds.

Additionally, we had $6.3 million of distributions from our PE and DC related investments. On a related note, we also recognized $6.7 million in carried interests related to the fund that drove the $7.2 million of gains previously mentioned. This income is reflected in other noninterest income.

Moving on to core fee income, core fee income increased $6 million or 8.2% to $80.5 million in the third quarter. This increase was driven primarily by higher credit card, foreign-exchange, and letter of credit fee income. As a reminder, core fee income also includes deposit service charges, lending related fees, and client investment fees.

Credit card and payment fees increased by $2.9 million to $18.3 million, compared to $15.4 million in the second quarter. This increase reflects a one-time reclassification of $1.8 million in expenses related to certain merchant services client contracts to other noninterest expense, as well as an increase in interchange fee income due to higher volumes.

In general, we continue to see lower spending on our business credit cards by some clients as a result of the lingering impact of slower early-stage investment in the last few quarters and continued client focus on expense management. While this appears to be easing somewhat, the impact is still noticeable, although long-term, we believe we will continue to see growth in this area. Foreign-exchange income increased by $1.9 million to $25.9 million, an all-time high for a quarter, driven primarily by strong activity among our global clients.

As a result of lower spending on our business credit cards and lower client investment fees due to the VC recalibration in the first half of the year, we are lowering our full year 2016 core fee income outlook from the low 20s to the high teens and expect to end the year near the top of that range. To put that in perspective, the actual dollar difference we're talking about between our original and revised outlook is approximately $8 million.

Moving on to expenses, noninterest expense increased by $21.4 million to $221.8 million. This increase was almost entirely due to higher incentive compensation and benefits related to our significant warrant and PE and VC related investment gains in the third quarter. This included the following components. A $16 million increase in incentive compensation expense related to our current expectations for our full year performance relative to our internal targets. And an increase of $2.7 million in other employee incentives and benefits related to the incentive compensation increase, and finally a $2.3 million increase in salaries due to a higher average number of employees in the third quarter. For the full year 2016, we expect to come in at the top of our expense outlook range of the high single-digits due to higher incentive compensation related to our out performance on warrant and investment securities gains year-to-date.

Turning quickly to capital. Our capital ratios increased across the board by 20 to 30 basis points at the Holding Company level and 18 to 20 basis points at the bank level due to earnings.

Now onto the closing. Overall, we delivered a very strong quarter. Activity among our clients remains healthy, in spite of some lingering effects on the first half of the year. Moreover, we are seeing signs of increased confidence as evidenced by stronger exit market activity and growing momentum relative to the first half of the year.

Although market pressures can sometimes present challenges from one quarter to another, over the long-term, we believe our focus, platform, and execution will enable us to deliver solid results. In the meantime, we remain focused on delivering high-quality balance sheet growth, growing fee income, maintaining stable credit quality, and continuing to position ourselves for the long-term. Thank you and now, I will ask the operator to open the line for Q&A.

Thank you. We will now begin the question-and-answer session.

(Operator Instructions)

Ken Zerbe, Morgan Stanley.

Great, thank you. Good evening. I guess maybe just first question on credit, and it probably relates to the 2017 preliminary outlook that you gave of the 30 to 50 basis points. I get how this year, right, with the turmoil we had in the tech market earlier in the year that it drove up higher credit losses and you ended up taking -- you're at the higher end of your range. But when you look out to 2017, the ultimate charge-off guidance really doesn't change much, but I would have thought that the underlying environment would've actually been a better credit environment for SIVB. Am I thinking about that the wrong way?

Ken, this is Greg. I will start and then Marc will, I'm sure, want to add. The first thing is if you think about the range of 30 to 50 basis points, although it doesn't weigh 30 to 50 basis points, on a percentage basis that's a pretty wide range. And so this year maybe, at the higher end of the range and clearly, if things are better, things perform better, we could be at the mid range or even the lower part of that range. But you also have to look at -- there is still the recalibration that's going to happen with early-stage and it didn't stop in the third quarter, it just kind of diminished in the third quarter. So we still may see, we may expect to see more of that in 2017.

I have nothing to add.

All right. Perfect. And then just the other question I had, can you help reconcile in terms of the net interest income, I think was low double digits growth for 2017, do you expect high-teens loan growth -- deposit growth? If I heard right, it was actually getting better either late in the quarter or early this quarter, I forget which. What is the expectation for deposit growth in 2017, because presumably you have to have some sort of either sharply lower margin or sizable deposit outflows to bring that NII lower than loan growth? Thanks.

Well, I'll start there. You mean the one thing to remember, Ken, is that when we are adding on some of these loans, a lot of our strength of our loan growth over the last couple years has come from the capital call lines of credit and the private bank mortgages which are at a lower yield than the overall portfolio, so I think that would be at least - when you do the math that's going to be one of the largest drivers of that.

So presumably just we're going to see lower NIM, all things equal.

You could potentially see higher, slightly higher NIM, right, because some of those loans are presumably going to the issued about the current NIM levels; but what I'm trying to say is that you're going to have some pressure to keep the NIM down or not moving as aggressively up because of these loans are just lower yielding loans compared to the rest of the loan portfolio.

Alright. Okay, thank you very much.

Yes.

Steven Alexopoulos, JPMorgan.

Hey, everybody.

Hey, Steve.

I wanted to start on the capital call business. I know the pace of VC investment trailed off a lot in the third quarter versus second quarter and I would have thought the capital calls under $20 million would have actually declined, but they are up really nicely. Did you guys have smaller private equity capital calls hitting this quarter? Or did you just have VC's that remain very active?

Steve, this is Greg. I will start and Marc I am sure will want to add. The growth wasn't that different, part of this is just utilization, so you had utilization drop a few percentage points. When you have that large of a portfolio, a few percentage points makes a pretty big difference. So that was probably the main driver of it. And that, as you know, that's not something you can sit back and predict, because it does vary from quarter to quarter. Looking at what you would say, the growth rates and total borrowings has been for the first three quarters is what I would look at and that has been robust throughout the first nine months.

On the other thing I would add, Steve, it's Marc Cadieux, the correlation between the pace of venture investing and borrowings on our capital call portfolio is the becoming less and less over time. Today, almost 80% of the total capital call line portfolio is private equity funds versus venture capital funds.

Okay, got it. Okay. That's helpful. And then, when I think about the guidance, obviously what happens at the exit markets are going to dictate what happens with the guidance and this year was two different years, the first half was soft, third-quarter very strong. When we think about this, what's the general assumption for the exit markets you're making to hit this outlook? Do we need a better year than what we saw this year in 2016 or about the same?

So from an exit perspective, so the drivers, when you think about the six drivers that we talk about, that really doesn't have that dramatic of an impact on the drivers, whether it is loans, deposits, core fee income. Most of that occurs within securities gains and warrant income and Steve, you know, we don't give guidance on that. What I would say on that is, if you look at the year that we had, this year -- we expect to have this year, that's just a function of what are your expectations for next year. As I said in my comments, today, right, and it can change quickly as we all know, we see more of our clients that are looking to -- they are preparing for an IPO in the next, as we said, in the next 18 months. If that plays out, that will be positive. But again, it is such -- it changes so quickly, which is why we don't give guidance on securities gains or warrants.

Okay, and if I could squeeze one more in, Meghan, please. On the fee income guidance, in the third quarter you guys actually had a really nice improvement in card revenue, yet you're taking down the full-year guide on the fee income and then next year looks a lot like the reduced guidance for 2016. Can you help me reconcile what's changed from that original guidance?

Steve, this is Mike here. First and foremost, when you look at the longer-term picture of core fee income, we believe that's going to go at a strong pace that you see in 2017. And it certainly going to be driven by the card fee income and the payments fee income as well as the FX income. You know what happened in, let's say during 2016, we also had some slow down in the spend on that as well too, and when you get more pointed to Q3 of this year, we had, as I mentioned in my prepared remarks, we did have a reclassification of some expenses and that one particular line item which made it look a little bit healthier than what it really was. But nonetheless, the fundamentals are still strong, at least for us in the long-term. So that I think is just the one delta, just that one anomaly here in Q3 coupled with definitely a slowdown in spending. The other thing to think about as well too, with the recalibration in the VC markets here this year, we did have a -- I would say a lower than expected amount of earnings from our client investment fees, the fees from off-balance sheet instruments and that certainly held certainly back some of the core fee income growth as well too.

Okay, thanks for all the color.

Steve -- give you a little more perspective on the card stuff. If you look at the growth for the year, it's been actually healthy for the year, but it really is that the average spend for business credit cards has grown and actually it's dropped, so that growth, collectively during the course of the year, even though we are adding a lot of clients, it's only up about 4%. So cards as a platform, that business has actually been healthy and so we expect it will get back to a little bit more normal level in 2017.

Okay. I appreciate all the color. Thanks.

Thanks, Steve.

Jared Shaw, Wells Fargo Securities.

Hello, good afternoon.

Hey, Jared.

I guess on the salaries, if we're looking at fourth quarter, should we be looking at excluding most of that $16 million from the warrants? Or is that going to -- is that more of a catch-up or is that going to be dependent upon what we see for warrant gains next quarter?

Good point and good observation to exactly what you're saying. Q3, because of our outlook for the full year, was that we're going to come in higher on the net income line, it actually drove a higher accrual for the incentive compensation. So to your point, we did had them go back and make a catch-up for the Q1 and Q2, so that's why you have an elevated expense in Q3. So all things being equal, we would not expect that same level incentive compensation in Q4.

Okay. So this is three quarters worth of accrual there. Okay.

If you look at the math or kind of compare it to the prior quarter it's probably up anywhere around between $10 million and $14 million versus the last quarter, so that just gives you a little bit of ballpark. Now there was some adjusts in Q2, kind of a similar thing to try to true up or be consistent with the outlook for the full year, but that's generally where you're going to come out with that range.

On the securities portfolio, should we expect to continue to see around that $800 million per quarter cash flow range?

Yes, currently at the moment, that's right. As you know, we haven't been adding to the investment securities portfolio, in fact we've had some of the runoff in the reinvestments, we've been putting it back in to support loan growth.

Great. Okay. And finally, for me on the sponsor led loan that improved, is that improved enough to move off of MPA, is that the one that you were speaking about, that has worked out or is there a potential for additional improvement in those handful of loans that are nonperforming?

It's Marc. On the one for which we had a reserve release, the way to think about this I think, is there is day one of the turnaround and you don't know what's going to happen and on the other end of the spectrum would be a loan that's just like any of the other good loans in our buy-out portfolio where leverage levels are reasonable and they are able to service and fully repay their debt within a commercially reasonable period of time. We are on that journey and for the one that we saw a reserve release, we saw sufficient performance to their turnaround plan to support a partial reserve release. I still believe that there is at least another quarter or two that we would want to see of that continued progress before we would be in a place where we could say that restoring it to accrual and releasing the rest of the reserve, the specific reserve is the appropriate thing to do.

Okay. Thank you very much.

Aaron Deer, Sandler O'Neill.

Good afternoon, everyone.

Hi, Aaron.

I wanted to, I guess going back to the guidance, the alternative guidance that you gave, Greg, with respect to net interest income under higher rate scenario, I think you said mid-teens, a mid-teens increase with rates up. What does that assume in terms of rate hikes? Is that one hike, two hikes?

I am going to go to Mike for the forward curve estimate, but it's 25 basis points assumed in December and I'll ask him for what is assumed in the -- .

It's pretty much, the assumption would be that there is a rate hike in December. That's the heavier lift. So the way to look at it, Aaron, is the number when you think about it is for every 25 basis points, roughly, using a static balance sheet as a point in time, gives you about $28 million, $25 million to $28 million of net income, bottom line net income. That's kind of basic rule of thumb currently right now based on the profile of our balance sheet.

Right, okay. And then, going to fee income, client investment fees were flattish with the prior quarter, I guess that makes sense given that those balances really don't move much. How sensitive are those fees to rate? So if we do get another 25 basis point hike in rates, is are going to be any benefit to the fees there?

So this Greg, I'll start. So there will be some benefits, clearly, but it won't be much of a pickup as there was with the first 25 basis points, partially because we basically were going from such a low number that it was in the 3, 4 basis points. So if you're going up to 5, 6, 7 basis points, on a percentage basis that's a very big jump. If there's another 25 basis points that occurs, or 50 basis points, it won't be the same percentage sharing, so maybe it's 1, 2 or 3 basis points. Clearly, it will help, It will help if there's more rate increases. But the big driver, once we get that first lift of a few basis points is going to come from growth in the off-balance-sheet.

Okay. Great. Thanks for taking my questions.

Yes.

Ebrahim Poonawala from Bank of America.

Good afternoon, guys.

Hello, Ebrahim.

I just had one question in terms of deposits. I wanted to get a sense I think -- when I think about deposit growth I guess one side is VC funding, which would be more clients, more deposit growth and the other is just sort of balancing, sort of channeling deposits on-balance-sheet versus off-balance-sheet. When we think about diverting deposits to the balance sheet, can you talk about just in terms of customer preference today? Are you seeing your early stage clients having a bit more sensitivity to pick up that extra yield and stay off-balance-sheet or should we see that then move as we look into fourth quarter into 2017?

Yes Ebrahim, this is Greg, I will start and Mike may want to add to it. Deposits clearly are impacted by venture capital, that's one of the drivers. It's also as you said, where the preference for the direction of the products that we actually have to offer, so at the early-stage, right now, we're looking at more of an on-balance-sheet both checking account, money market account; and even though rates increased 25 basis points last December, there still is very little desire to focus on what the yield actually is, and the other part is you have to look at the whole relationship. It's not just what you're charging on the overall money market account, but it is what services you're giving, what are you charging for those services and from our standpoint of early stage have a very, very competitive bundle package. So it's not just one thing, you have to look at the whole thing, the whole thing overall. From a deposit perspective, again, as Mike articulated in his comments, we feel better about where we are. We think the decline is either stopped or definitely reduced and that is why we are giving and outlook in 2017 it has some modest growth.

Got it and I guess just a separate question, in terms of when we think about the sort of competitive environment and the covenant structures in terms of lending to these early-stage companies, has it gotten better over the last 12 months, in terms of sort of the warrants you're getting as part of these relationships? Or has it not really changed?

This is Greg. I will start. When I think about the competitive landscape, Ebrahim, it has been extremely competitive for the last several years and we expect that it will continue to be competitive as other markets, other industries, clearly don't have the growth rate that technology market has, and that's part of our expectation. We've have that. We believe we get premium pricing in general because of the whole platform and what we provide and how we provide it; but it is competitive. When you think about warrant coverage or just pricing in general, I would say that it continues to be under pressure and I would expect that it will continue to be that way for the foreseeable future.

That's helpful, thanks for taking my questions.

John Pancari, Evercore ISI.

Good afternoon.

Hello, John.

Just a question back on credit. On the sponsor buyout portfolio, now that you are seeing some improvement in some of the credits that have surfaced in that portfolio, is your view there that was still one-off type of issues that you were seeing and somewhat idiosyncratic? Or was there a commonality at all that you can say at this point now that you are seeing some of the issues abates, that drove some of the problems that you had in that portfolio?

It is very much the first one. These were Company specific issues that resulted in each of them becoming nonperforming and by extension are not indicative of any broader or systemic trend in that segment of our portfolio.

Okay, alright, thanks. And then on the same topic there on credit, are there portfolios that you would say you are watching closely? I would assume early-stage still, just given some of the color you gave in your prepared comments, given the flows from the venture-capital and private equity community into early-stage so that would clearly be one. But any other areas of the portfolio that you are watching closely in terms of credit?

Sure. So I'd say first that we rigorously monitor the entirety of our loan portfolio. The ones that I think, to your point, have gotten the most attention as they should and as they historically always have, is the early-stage segment. Certainly buyout continues to be an area of focus, just because they are larger loans and we've seen some stress there in the form of the handful of nonperforming loans. But having said that, continue to believe that credit quality in that segment of the portfolio is stable overall and don't see any signs of challenges elsewhere in the portfolio hence the reaffirmation of our guidance for 2017.

And do you have nonperforming ratios by portfolio? Do you have the nonperforming ratio for your early-stage book and then for the buyout book?

We do not.

Okay. And lastly, if can ask one more, back to the margin benefit question, the 25 basis point hike I heard you say in terms of the net income benefit, what would that be in terms of your margin, if we did see a hike in December of 25 basis points, what would the margin benefit be?

You know John, I don't have that right in front of me, but you can work out the math pretty easily if I had one or two minutes I could probably do it but --(multiple speakers).

Okay, that's fine. So we can use our typical math there, nothing else that impacts -- ?

Yes exactly, there's not a whole lot of rocket science there.

Yes, okay, good. Thanks, Mike.

Chris McGrattty, [CBW].

Close, afternoon guys. (laughter)

KBW, we know you are.

Okay. Question on the VC book, it's about -- the capital calls pushing 40%, obviously very low risk. What's the internal cap that we should be thinking about in terms of how large you let it be?

Chris, this is Greg, there's a couple ways to think about it. One is, as you said it's roughly 40%, 39% of the overall loan portfolio and it is incredibly high-quality which is why we are comfortable with it clearly at this level and comfortable with it going to a higher level. Another way to think about it is just the overall size of that relative to the asset, assets of the overall bank, which gets you down to kind of that 17% to 19% range, another way to look at it. And so, where could we end up watching this go to before we want to pay even more attention to it? To me that number is kind of in the high 40s maybe even approaching 50%; but at the same time we are looking for growth in the other parts of the portfolio to include the private bank and so that still allows for ample growth from our standpoint in overall private equity services portfolio.

Okay, great. Maybe a follow-up. Assuming the range on charge-offs next year and based on what you're putting in the portfolio in terms of risk, you had been providing, call it a 75 to 90 basis point range over the past two quarters because of the stress. Is there any reason why that proportion of provisioning shouldn't abate or converge closer to the charge-off next year?

This is Greg, Chris. When you think about the 30 to 50 basis points, that's for charge-offs. The overall loan provision is a function of that reserves against loan and also loan growth. And so if you go back and look at the provision, part of the reason the number is higher is because the loan growth has been so strong. And so, I would extract from our guidance of 30 to 50 basis points that is, again, similar to this year and depending upon what loan growth does that would provide the higher levels of what the provision would look like.

Okay. Thanks.

Yes.

David Long, Raymond James.

Hello, guys.

Hello, Dave.

The one question I have remaining is regarding sponsor abandonments. You guys have given a number on that the last couple of quarters on your calls. Do you have a number for the third-quarter, the amount of sponsor abandonments that happened?

By sponsor abandonment do you mean -- ?

VC abandonment in the early stage.

Exactly.

In the form of charge-offs or nonperforming? Maybe getting specific on what is meant.

Mike had talked about in the past about -- I think the first quarter, the number was 15 basis -- 15 companies and I want to say it was around 11 last quarter, I just wanted to see if that's still coming down here at this point?

Right. Okay, thanks for that. So yes, 15 companies in the first were -- so here talking about charge-offs, it was 15 companies in the first quarter, 11 in the second quarter. It was 11 again in the third quarter, but to give you a little more color on that, there was 9 of the 11. We're in the very, very, very granular category and so the early-stage charge-offs was about $6.3 million in the third quarter versus $13.9 million in the second. Going to nonperforming loans, which would be another, I will say, related to your abandonment question, the number of companies, the pace has been very steady over the course of this year, with the higher stress we saw in the first quarter being a function of a higher incident of MPL -- early-stage MPLs in the fourth quarter 2015.

Got it. That's the color I was looking for. Thank you.

Thank you.

Brett Rabatin, Piper Jaffray.

Hey, good afternoon. I wanted to ask, capital call lines of credit PE growth, you mentioned earlier the call there could be some payoff activity there. Could you give us an idea of the magnitude of what you think might be potentially paying in that portfolio over the next year versus the pipeline?

So I'll start, Greg or Mike might want to add. It is difficult to predict what payoff or utilization activity will be. Having said that, loan growth in the first half of 2016 was assisted by some borrowings in the fourth quarter of 2015 that stayed outstanding and we actually saw some significant repayment in the third quarter, which is one of the factors in the muted loan growth. At the same time in the third quarter, unfunded commitments increased by around about $800 million, the vast majority of which were capital call lines of credit. What we tend to see when we look at a new capital call line of credit is utilization within a one to two quarter period. So that would be an indicator, if you will, of why we would have some confidence in the loan growth outlook.

Okay. That's good color. And then the other thing I was just curious about was, the expansion in San Francisco, can you maybe give us any color or thoughts around just how much of an initiative that will be and how much that adds to growth as you think about it for the next year or two?

So Brett, this is Greg. We have been growing our presence up in San Francisco just based on the number of employees because there is a lot more activity up there. There is also not just our client facing teams, but parts of our employee base in different areas that are also located up there. And so we've been very tight on our quarters up in San Francisco, so we're looking at the relocation just to provide future growth of the next many, many years. That's one point. The second point is just taking an approach that we have done in more and more offices, which is a very open environment, so actually although the footprint is bigger, it effectively pretty much doubles our capacity for growth up in San Francisco. So that is a great market for us not just from a client perspective, but it's a great market for us to retain and attract employees. And we are kind of excited about the move coming up next year.

Okay, great. Thanks for the color.

Yes.

Jennifer Demba, SunTrust.

Thank you. Good evening. Just wondering if you can give us some color on possibly going into Germany and Canada. Can you give us whatever color you can there?

Yes, it's Greg. Very early, early days in both, in both markets. As I said, obviously this is more or less just to give it a highlight that it's something we are pursuing, but it's early and obviously subject to regulatory approval both domestically and in those local markets. So the question is really, why are we looking at those markets?

If you look at venture-capital activity, in Germany as an example, Germany is one of the strongest European economies from venture-capital activity. The other part we look at is not just how many early-stage companies or startups are there, but how many mid and later stage companies are there and again Germany ranks very high, nearly the highest in Europe. And we've had some requests to lend money for a few buyouts and things like that in Germany based on sponsors that we know and trust and have worked with a long period of time.

So the market is attractive and because of our success in the UK, this allows us to look at that market as well so we are just working on that right now. Canada is very, very similar. We have been pulled into Canada by again, clients, innovation companies for years and quite honestly it's kind of reached a critical mass that we believe it's something we need to consider opening up. Both of those offices, just to clarify, would more than likely be lending only offices to allow us to have a very light footprint in both markets. But we are right now, again, in an exploratory stage and if something were to happen it really would be late 2017 into 2018 where you would hear a lot more about it.

Thanks so much.

Yes.

Chris York, JMP Securities.

Good evening guys and thanks for squeezing me in here. Just one question, just wanted to talk a little bit think about investment, as Greg, you talked again about strengthening the brand, investment platforms. So clearly, historically, FPEs have been a source of that investment, but where else is that showing up? Is that in premises and equipment? And then could you quantify how much you think the investment is in the noninterest expense, and maybe how much that might be in your high single-digit guidance gross guidance in 2017?

So, Chris, I wouldn't say that we are doing anything new. We continue to invest in both infrastructure, in client facing roles and geographic expansion as I just outlined. So on a global basis, continuing to invest in the UK as that continues to expand, investing in Asia, investing potentially in Germany and in Canada, so the geographic is one area. The second area is just overall infrastructure. We need to continue to put money into our digital platform, our systems infrastructure, the regulatory compliance, all those areas. So it is very difficult, I would say nearly impossible to say how much of that is investment for where we are today versus keeping up for growth, but clearly, the high single-digit growth in expense levels that we're forecasting for 2017 is not just for today, it is very much building for the future.

Makes sense and that's fair enough. That's it for me. Thank you.

Great. Thanks, Chris.

Geoffrey Elliott.

Hello, thank you for taking the question. You mentioned a few times the capital call loads being lower yielding than the rest of the portfolio. Can you put numbers around that differential?

This is Greg, I will start. When you look at capital call loans for private equity firms, you're looking at prime minus, I'd say, half to maybe in that general range with 25 to 50 basis points on either side of that range. So clearly it is lower yielding then our overall loan portfolio, which is why the average loan yield is coming down mainly. But another point, I just want to make sure, this is really important, is that when you look at it, the reason that we are comfortable doing that from a return on capital perspective is the fact that the overall credit quality of that portfolio has been exceptional and we certainly expect that it will continue to be exceptional for the foreseeable future. It's a big market, we have a very strong competitive advantage and so we still expect that to see nice growth.

And just to follow-up, you sound pretty positive on the growth outlook there, what sort of environment would it take for the capital call loads to stop growing?

It's an interesting question because you have to look at it in two different ways. Marc Cadieux would say the vast majority of that portfolio now is in broad-based private equity, so it's a little bit less depending upon, what I would say, is the innovation economy or the tech industry overall. That being said, it is acceptable to the market overall and activities around the globe; but it's kind of funny in the sense of, in one way, it can be impacted negatively to existing companies but their willingness to put more money to work, actually the function of the price of what they're going into and so if the economy starts to slow, some of them actually look at the market as being a great time to be in the market. A great example of that is what you see in the UK. Over the last six months you can look at what's happened with the pound to dollar ratio, so we're seeing a lot of (multiple speakers) private equity firms coming in and actually looking at that as a good opportunity, roughly 20%, 25% discount.

Thank you.

Yes.

Gary Tanner, D.A. Davidson.

Thanks. Just a quick question regarding your loan portfolio, kind of rate orientation towards LIBOR base loans. Is there any impact this quarter, is there any lag of -- [within] LIBOR that would impact the fourth quarter and beyond?

So just to give you a little bit of color, first that the answer would be it's very modest. The second answer -- about 88% of our portfolio is loading rate versus fixed-rate and it's about 60% tied to prime versus 40% LIBOR.

Okay. And would there be any -- just a lag in terms of impact to where there wouldn't have been much 3Q, maybe more in 4Q?

Maybe one other thing to add on there, certain parts of our portfolios do have floors roughly around 100 basis points of LIBOR, particularly in the sponsored buy-out portfolio which is roughly about $2 billion of our loan portfolio. So that will put some hesitation and then you've got the 30, 60, 90, one year type LIBORs as well too in the reset. So that is why, as Marc described it, it's actually quite a modest thing. But once we do break through a floor of 100, then you would start to see more of that impact.

Okay. Thank you.

Tyler Stafford, Stephens, Inc.

Hey, good afternoon guys, just one last one for me. Meghan, apologize for taking us over the hour.

Is quite all right, Tyler.

Do you have the global loan and deposit balances at quarter end and any change in those, in either of those call it from pre- Brexit?

This is Greg, so when you look at it in dollar terms, it actually has changed a little bit but not much. Which is interesting because if you looked at it on constant dollar terms you would've seen roughly a 15% growth rate. So the flatness may appear not to be a great number. We look at it as a positive and clearly hope the pound to dollar has stabilized.

Okay. Thanks.

Yes.

And that is all the time we have for questions today. I will turn the call back to Greg Becker for closing remarks.

Great. Thanks. I just want to thank everyone for joining us today. We had a great quarter that we are extremely proud of and an outlook that we expect to continue to drive solid growth into 2017. I want to thank all our employees again for doing such a great job and taking care of our clients and for our clients again, as always, putting their trust in us, we don't take that trust lightly. And I also have a special thanks, this is my close. Today, I just want to do a special shout out to Joe Morford. Joe has been an analyst that's covered Silicon Valley Bank for the last 24 years, pretty much my entire tenure at Silicon Valley Bank. He recently stepped down from RBS and I just wanted to say Joe -- RBC, sorry, Joe. I just wanted to say thanks, Joe, for all the great work over the years and best wishes for whatever your next step in your career is.

Here, here.

Thanks, and have a great day.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.