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First Foundation Inc (NASDAQ:FFWM)
Q3 2020 Earnings Call
Oct 27, 2020, 11:00 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Greetings and welcome to First Foundation's Third Quarter 2020 Earnings Conference Call. Today's call is being recorded. [Operator Instructions]. Speaking today will be Scott Kavanaugh, First Foundation's Chief Executive Officer; Kevin Thompson, Chief Financial Officer; David DePillo, President of First Foundation; and John Hakopian, President of First Foundation Advisors.

Before I hand the call over to Scott. Please note that management will make certain predictive statements during today's call, that reflect their current views and expectations about the company's performance and financial results. These forward-looking statements are made subject to the Safe Harbor statement included in today's earnings release. In addition, some of the discussion may include non-GAAP financial measures. For a more complete discussion of the risks and uncertainties that could cause actual results to differ materially from any forward-looking statements and reconciliations of non-GAAP financial measures, see the company's filings with the Securities and Exchange Commission.

And now I would like to turn the call over to Scott Kavanaugh.

Scott F. Kavanaugh -- Chief Executive Officer

Hello and thank you for joining us. We would like to welcome all of you to our third quarter 2020 earnings conference call. We will be providing some prepared comments regarding our activities and then we will respond to questions.

It was another strong quarter for First Foundation. Our business model of providing banking, private wealth management services has performed very well. Lending, Deposits, Investments, Wealth Planning and Trust Services, are each contributing in meaningful ways. While many other financial service firms have reduced activities due to the shutdowns, our team has used it as an opportunity to gain ground in the markets we serve, as we continue to find that our clients want to work with a single provider of services, which allows us to build long-standing and meaningful relationships. This really speaks to the value proposition of our firm.

As highlighted in the press release this morning, we delivered another quarter of strong financial results. Our earnings for the third quarter were $30.9 million or $0.69 per share, a 78% increase over the third quarter of 2019. Total revenues were $75.3 million for the quarter, an increase of 32% year-over-year. Our tangible book value increased to $0.1305 per share. Our efficiency ratio for the third quarter improved to 40% and 49% year-to-date. As we mentioned on previous calls, our target efficiency ratio is 50% for the full year. So we are well on our way to reaching that important metric. We also declared and will pay our quarterly cash dividend of $0.07 per share and anticipate the continuation of the dividend in future quarters.

Over the last nine months, we have experienced strong loan and deposit growth, and this quarter, our assets under management increased to pre-pandemic levels. Loan originations for the quarter were $414 million, and overall deposits have grown by $573 million year-to-date. We have also decreased our wholesale deposits by 56%, and our Federal Home Loan Bank advance is 64% year-to-date, which is a part of the successful repositioning of the liability side of our balance sheet, that we have spoken about in the past.

Loan demand remains strong in our markets, and our pipeline and credit underwriting continue to be robust. We successfully completed a securitization of $553 million of multifamily loans, our fifth such deal to-date, and we are already starting the process for next year's securitization. Our digital platforms continue to perform well, allowing us to deliver products and services to our clients in new and efficient ways. As mentioned in the past, we have made important investments in this area, and are continuing to see a strong payback. This is highlighted by our year-to-date growth of over 323% in our online savings channel. This has become a valuable complement to our retail offering.

Now, our savings clients can engage with us online or in the branch, whatever is most convenient for them. The increase in assets under management for our private wealth management business was, thanks in large part to our Trust business. Our Trust offering, which recently eclipsed $1 billion in assets continues to differentiate us against other wealth managers and financial advisory firms. I also want to say I'm very grateful to our employees, who've worked tremendously hard during these challenging circumstances. We know there is much uncertainty in their own lives, with school enclosures, or teams being upended, and everyday life put on hold, which makes the results we reported today, that much more meaningful. It is truly a testament to the great work we have in place here at First Foundation/ I would also like to thank all of our clients, who entrust us with their financial needs.

Now let me turn the call over to our CFO, Kevin Thompson.

Kevin Thompson -- Executive Vice President and Chief Financial Officer

Thank you, Scott. With the successful execution of our securitization and the continued momentum of our customer-centric model, we experienced strong profitability in the quarter, with a diluted EPS of $0.69 per share. The efficiency ratio decreased to 40%, with the return on assets of 1.79% and a return on tangible common equity of 22%. We completed a securitization of $553 million of multifamily loans in the quarter, as is our practice to do annually, achieving a very healthy $15.1 million gain. As part of the transaction, we also recognized a mortgage servicing right of $3.9 million. Loans held for investment, decreased in the quarter due to $513 million of loan balance being transferred to the held-for-sale category in preparation for a securitization next year. Absent this, transfer loan balances increased slightly in the quarter. The cost of deposits decreased from 84 to 57 basis points in the quarter, and was 48 basis points in the last month of the quarter.

Our brokered deposits have decreased to over $670 million or 56% year-to-date. Our strategy of increasing core deposits has gained traction, as our core deposits increased from 76% to 90% of our deposit base year-over-year. Deposits from PPP activity only accounted for $18.5 million of our deposits this quarter, as we are seeing that most of our PPP borrowers have already put that money to work, to reopen or continue their business.

We were also able to pay off $500 million of FHLB advances in the quarter, at a rate of 1.77%, which as Scott mentioned, is part of our successful strategy to reposition our liabilities. The net interest margin expanded 7 basis points to 3.03%, as a result of the success we have had in lowering deposit pricing. Credit metrics remain strong in all our loan portfolios, and the allowance for credit losses for loans decreased by $3.9 million, resulting in an allowance of 52 basis points of loans. This change was largely a result of the decrease in loans held for investment, as well as a slight improvement in the economic scenario, we utilized for the CECL calculation.

With the current interest rate environment and the increase we have experienced with prepayment speeds in our interest-only strip securities, we increased the allowance for credit losses for investments by $5.7 million, which represents the change in expected cash flows on these securities. Also related to prepayment speeds, we recognized the $1.3 million valuation allowance of mortgage servicing rights. With strong expense management and the investments we have made in our infrastructure, we are seeing the benefits from improving operational leverage and efficiencies. We have also begun to take steps to improve our tax profile going forward, including investments in low-income housing tax credits, municipal lending, and other strategies.

I will now turn the call over to David DePillo, President of First Foundation.

David DePillo -- President

Thank you, Kevin. First I want to reiterate my gratitude to all our employees. Thanks to their efforts, we had another great quarter, even with the uncertainty in the market. As Scott mentioned, during the quarter, we originated $414 million of loans, which keeps us on track for another strong year of loan originations. Related to our securitization of $553 million a month of family loans, our total assets decreased for the time being, as we opted not to retain lower yielding securities associated with this sale, but rather to use the proceeds to pay down balance of borrowings, and fund new originations from our strong pipeline.

Looking at our pipeline, the current pipeline exceeds $700 million and is at peak levels. We expect to have another record year for loan originations. The composition of our loan originations are as follows; multi-family, 53%; C&I, 37%, single family 9%, and 1% in other. For the third quarter, the weighted average interest rate on our loan originations was 3.6%.

I also want to reiterate some items about credit quality in our loan portfolio. As mentioned, our NPA ratio is low at 32 basis point, with a slight increase due to, in large part a smaller loan portfolio. Also delinquency rates, which are typically a leading indicator for credit quality, have declined significantly from previous quarters. Again approximately 82% of our portfolio is secured by real estate. Across all segments, the loan-to-value is low, averaging below 55% and our average debt service coverage ratios or multifamily non-owner occupied commercial real estate remains strong.

So we had mentioned in the last quarter, we have low exposure to industries hit hardest by the pandemic, specifically hospitalities, restaurants. In addition, we have no exposure to oil and gas, aviation, or the cruise industries. Forbearances are down by 58% or $77 million, to only 55% since last quarter, which represents a little over 1% of the loan portfolio. There are no forbearance in our multifamily consumer and land, and construction portfolios and the majority of the forbearances we did approve, were three months, both payment deferrals.

Deposits grew year-to-date by -- excuse me, $573 million. We saw growth in both the retail and specialty deposits, and our online deposit activity has contributed to the success of our strategy to increase core deposits. And as stated before, our core deposits grew to 90% of total deposits in the quarter.

Now I'd like to turn the call over to John Hakopian, President of First Foundation Advisors.

John Hakopian -- President of First Foundation Advisors

Thank you, David and good morning. Our assets under management closed the quarter at $4.5 billion. Our profit margin for the quarter increased to 14%, and as we finalize the implementation of our new portfolio accounting system, we expect additional cost savings for 2021 and beyond. Although there is still uncertainty in the financial market, our investment strategies have performed well for the year, which is quite remarkable, given the broader U.S. economy was in recessionary territory just six months ago. Good performance is a leading indicator for client retention in new business going forward.

We are seeing a strong pipeline and we expect to continue to be successful in attracting new clients and servicing our existing clients, as we close out the year. As Scott touched on, our Trust department continues to be instrumental in our ability to build and maintain relationships with our clients. These client relationships tend to be larger and more complex relationships. We have also seen an uptick in referrals from and to our retail bankers, who are often the first point of contact for clients working with First Foundation. We continue to produce valuable content and advise, to help our clients better navigate the various aspects of their financial life. And our experienced team of investment and Wealth Planning professionals provide solutions for some very complex client situations.

Through the pandemic, we have found ways to connect with clients using virtual technologies, that we already had in place. With a significant portion of our team still working remotely, this approach has proven to be very efficient for us, and has created more flexibility for our clients. I am very pleased with how our team has been able to operate during this year.

At this time, we are ready to take questions and I will hand it back to the operator.

Questions and Answers:

Operator

Thank you. [Operator Instructions]. Our first question comes from the line of Matthew Clark of Piper Sandler.

Matthew Clark -- Piper Sandler -- Analyst

Hey, good morning.

Scott F. Kavanaugh -- Chief Executive Officer

Good morning.

Matthew Clark -- Piper Sandler -- Analyst

Maybe just starting on the gain on sale this quarter, to be honest, [Phonetic] sales are lot higher than I think we previously expected. I guess, what drove that related increase? I guess how much of it was the margin and how much of it might have been hedging related, if any?

Scott F. Kavanaugh -- Chief Executive Officer

Well, the hedge cost was slightly less than in last year. It was about $13.8 million I think if I remember correctly...

Kevin Thompson -- Executive Vice President and Chief Financial Officer

No, it is about $12 million.

Scott F. Kavanaugh -- Chief Executive Officer

$12 million? Okay. And you know, frankly, our margins proved to be a little better than we had initially thought. Early on when we were modeling, we have modeled spreads I think slightly over 100 on each one of our two, APT1 and APT2, and I think they came in at like 61 and 71 or 62 and 72, very close to that. So a little bit was margin and a little bit was -- the hedging cost was slightly less than the year previously.

Kevin Thompson -- Executive Vice President and Chief Financial Officer

Also the value of the pilot strip was significantly higher than what we had forecasted.

Matthew Clark -- Piper Sandler -- Analyst

Okay. And then on the reserve on loans held for investment, down a little bit linked quarter. I see the reasons in the release. But can you give us a sense for what your reserve is on non-commercial real estate and multifamily, maybe just the C&I portfolio, just to isolate that?

David DePillo -- President

Kevin, if you can bring that up?

Kevin Thompson -- Executive Vice President and Chief Financial Officer

Yes, you bet. It's segregated into various categories, but typically it's anywhere between 1% and 2%.

David DePillo -- President

Yeah, and it's about 1.3% on those portfolios.

Matthew Clark -- Piper Sandler -- Analyst

Okay. And then on the core NIM, up largely in line with expectation, 3.03%, or at least in reported NIM. I guess, what are your thoughts on the new trajectory from here? Can that continue, with funding costs continuing to come down? And also, do you have the impact of PPP and purchase accounting accretion and any other kind of prepayment fees in the margin this quarter?

Scott F. Kavanaugh -- Chief Executive Officer

It is really not a factor at this point. We're amortizing the fees associated with the PPP over a two year period. What did we say? 6 basis points...

Kevin Thompson -- Executive Vice President and Chief Financial Officer

This quarter is about 4 basis points. [Speech Overlap].

Scott F. Kavanaugh -- Chief Executive Officer

So funding costs, as you said, are continuing to come down. I think we can continue to increase our margin. But there has been pressure on loan origination yields as well. We've obviously been able to save more on the funding costs, than we have with loan yields coming down. But I think we can continue to increase, I think we should be -- I think previously, we had stated we would maintain a NIM above 3, and we felt confident that that's still the case, and maybe get up as high as 3.10% to 3.15%.

David DePillo -- President

September was a lot higher than the end of quarter number, due in large to the fact that we had a significant portion of borrowings rolling off, and at 3.67%, our average yield of new assets going on, that should be kind of a low point for new assets coming on. So you can kind of do the math with funding cost on the margin, relatively low, it should be relatively easy to stay there. Yeah, 3.67%. Yeah. And you had asked about accretion income, that's really immaterial, probably not really impacting.

Kevin Thompson -- Executive Vice President and Chief Financial Officer

We don't have much of anything less than accretion income.

David DePillo -- President

That's right. And just to correct something I'd say, I mean, it's more around 1%, the C&I impact to our credit reserve.

Matthew Clark -- Piper Sandler -- Analyst

Okay. Okay. And then just the uptick in non-accruals, what drove that this quarter and what's the plan for resolution?

Scott F. Kavanaugh -- Chief Executive Officer

It's clearly more of a downtick than -- and loans -- the loan portfolio overall, was the majority of the uptick.

David DePillo -- President

So there was same quarter of fee growth potential loans that had ticked over 90 days, we don't expect any loss from those. One is going to be resolved momentarily the properties for sale by the owner and that will be completed. There's approximately $7 million of residential mortgage relationship that our expectations is it may go to sale or being reasons stated and that would happen this month, one way or the other. Outside of that, the expectations are as the loan portfolio builds that number as a ratio will come down, but it was primarily residential related with just a handful of properties. The -- but if you look at our delinquency pipeline, you could see that there is not much on the horizon.

Operator

Your next question comes from the line of David Feaster of Raymond James. Hi, good morning, everybody.

Scott F. Kavanaugh -- Chief Executive Officer

Hi, David.

Operator

I just kind of want to get a pulse of the market. I'm glad to hear the originations are improving, the pipeline is holding up really well. Just curious, what you're seeing out there. It sounds like pricing is pretty tight. Just curious, your thoughts on the market across the Board multifamily and co-commercial and what you're seeing.

David DePillo -- President

Sure. Multifamily, the velocity of the market has certainly picked up and it's approaching levels we saw in the first quarter when we originated at record levels that we've seen. And I think just from an indication of our pipeline, it's exceeding what even we thought going into the fourth quarter, where we would say reaching capacity in our current production environment through year end. The velocity of the market is we think is a really good thing. It led to -- it will lead to a little bit higher CPR rate than we thought we would experience. We didn't think the snapback would hit us this quickly, which will lead to higher prepayment fees earned over the next few quarters.

It did impact our IO strips that Kevin had mentioned because we've run those CPR rates that are higher than what we've experienced in the last quarter, but in line with higher historical rates that we are experiencing in the latter half of last year into the first part of this year. So, multifamily is very robust, competition is there. Pricing in the market has, I think solidified. And at this point, we feel good about our expectations are we're going to stay about where we're at over the next foreseeable future.

On the C&I side, we've really picked up in a couple of areas. Our corporate banking group is doing very well, as well as our public finance group. Equipment finances picked back up and that's really -- pipelines are at levels we haven't seen in quite some time. And our -- what we would call our core C&I and business banking is picking back up as well. So, and interestingly enough, single-family, which is one of our smaller areas, we're now experiencing huge demand on that side as everyone I think in the industry has experienced that. So it's pretty much been across the Board and that's kind of when you add all the components together, we should see originations next year at levels certainly well in excess of this year.

Operator

Okay. That's good color. And just do you guys always kind of saying on this, this macro topic. You guys always have a really good pulse on the broader landscape. So I just wanted to get your thoughts on some of the pending legislation specifically like Prop 15 and Prop 22 and implications on CRE and multifamily in California.

David DePillo -- President

Yeah, 15 is kind of an interesting one, certainly would have some impact, but less than it would in the multifamily because most of the CRE that we lend on, it doesn't have a historically low legacy tax based on it. So not a lot of companies that we do Industrial owner occupied have a kind of a old Prop 13 basis. So we don't see a tremendous effect, even if it did past for that. On the rent control, it's kind of -- it's one way or the other there's already some rent control ordinance there or add more of the state level this data obviously doesn't want to see that pass an order because it delegates it to the local community level. So, and there is a fear that rents would increase dramatically across the Board because of that. So we are -- we feel good either way, we don't anticipate it passing, but we don't see it having a material impact. If it does pass, it will probably just put a little more pressure on rents in a lot of these markets that are already well below market.

And again, in some of the areas that have had more social impacts, such as San Francisco, where you've seen rent deterioration, again, we don't really lend on those properties, those have been kind of the South, the market tech boom where they were running efficiency in studio units for 4,000 and now those are 3,000. So it looks like a dramatic decrease, but compared to the average rent that we get in the city in the surrounding area, we don't see much impact. So we're kind of watching the legislation, we don't really -- bottom line is we really don't expect much of any impact in the foreseeable future.

Operator

Okay, that's good color. And then just, you guys have done such a tremendous job managing expenses. As we look forward, I mean, do you think you've got opportunity to kind of offset some of these inflationary pressures, and kind of keep cost stables in this $30 million to $31 million level? Or are there any upcoming investments maybe on the tech front, just to keep up in new hires, anything that might put pressure, just any thoughts on the expense side.

David DePillo -- President

So obviously technology is -- it's an evolving item for us and we probably have 60 some odd projects, some of which don't cost a lot, some of which costs a little bit more. For technology spend for next year, including capital items, we're expecting to be slightly less than this year. So we don't really see a huge impact of that. And I think a lot of our front-loading in the last five years absorbed the majority of that part.

On the employee side, we've been holding right around 500 employees. There is a few opportunities that come with significant revenue opportunities as well. So again, we don't see the impact. So could it go up marginally? We always plan for it to go up marginally year-over-year, somewhere between 5% and 10% just kind of our range. But...

Scott F. Kavanaugh -- Chief Executive Officer

But that being said, David, the last two years, I think we've held pretty constant at 500 employees. So we're very cognizant of human capital and expenses and we're really trying to manage to that side of the equation.

Operator

That's helpful. Thanks, guys.

David DePillo -- President

Thanks, David.

Operator

Your next question comes from the line of Steve Moss of B. Riley Securities. Hey, good morning, guys.

David DePillo -- President

Good morning.

Operator

Just to tie up the originations, David, I think you mentioned the pipeline of $700 million, you did about $1.7 billion, $1.8 billion [Phonetic] so far year-to-date. So we think about this checking out in the $2.4 billion to $2.5 billion origination range for this year?

David DePillo -- President

It could be as high as that. We're probably on that, looking around $2.3 billion to $2.4 billion. At $700 million, there is always, I wouldn't say fall out but delay. So some of that could bleed into the first part of next year anyways. So we typically apply about an 80% rate to that. So you're probably looking if we hit $2.5 billion, I'd say that's about what we expect to do next year. So -- but some of that is timing of borrowers and just getting it through our system. But yes, you can see we're going to be up probably at least what's that 15% from the prior year.

Operator

Yeah. Great. Okay. And then on interest-bearing liability costs just kind of curious where cost were at quarter end relative to the average of 90 bps?

Kevin Thompson -- Executive Vice President and Chief Financial Officer

They were settling down into the mid 70s at quarter end.

Operator

And last question from me, on capital here just kind of curious capital moved nicely higher here profitably stronger. What are your thoughts with regard to maybe a possible buyback?

Scott F. Kavanaugh -- Chief Executive Officer

Yes, it could be put into the place, I think it really depends on the reaction to our earnings and banks have struggled recently and I think if our stock declines and we start trading either below book value or near book value, I would say, the chances are pretty strong that we will continue our buyback.

Operator

All right, thank you very much, good quarter.

David DePillo -- President

Thank you.

Operator

[Operator Instructions] Your next question comes from Gary Tenner of D.A. Davidson. Thanks, good morning.

David DePillo -- President

Good morning.

Operator

Hey, a question on balance sheet management. I think, the last couple of years when you've done the securitization you've retained the securities. This year as you pointed out, you did not -- it looks like you may have put a little bit of additional securities on over the course of the third quarter. So I'm just kind of curious how you're thinking about balance sheet mix.

Scott F. Kavanaugh -- Chief Executive Officer

Yeah, we bought about $58 million of our own securitization, A, just to show that we wanted to participate in our own securitization. And B, frankly I think these are some of the best yielding mortgage backs, out there in the marketplace. We are expecting to keep about 12% on balance sheet liquidity and we were starting to get a little bit low. And I think we felt some need to just buy a little bit to maintain on balance sheet liquidity. That being said, we're right now, we're selling cash we've been so successful in raising deposits that I think, when you combine cash we're closer to 18% on balance sheet liquidity, which is stronger than we necessarily want. But...

David DePillo -- President

If we look at what was the yield was -- if you look to the yield last year, it was about 3%.

Scott F. Kavanaugh -- Chief Executive Officer

It was 2.70%.

David DePillo -- President

2.70%. So the yield on the securities was significantly higher and loan opportunities at the time weren't that much greater because of cost of funds on the margin was pretty high. What was the yield on these, less than 1%?

Kevin Thompson -- Executive Vice President and Chief Financial Officer

About 1% on average.

David DePillo -- President

Yeah. So we feel, if we can book loans at 3.5% or greater, and we expect to do that, putting securities on a 1% doesn't make a lot of sense. And if we didn't have a pipeline as strong as we do, and the ability to replace assets that quickly, we may have kept more.

Scott F. Kavanaugh -- Chief Executive Officer

Yeah, I think we may have lean toward the securities portfolio more, but the reality is we see more opportunities on the loan side than we do the security side at this moment. Frankly, I've said this in the past and I'll say it again. We have stayed very plain vanilla on our securities portfolio, we deem that to be a liquidity portfolio and not an investment portfolio. So we could have bought some municipal bonds or sub debt or other things that yield way more. But if you look at March 30 of this year, you couldn't find a bid on any of that stock and we're using it as a liquidity portfolio.

Operator

Okay, thank you. And then, on the origination trends, my recollection was that the trends in the back part maybe in June for the second quarter had gotten quite a bit stronger. So was there any, A, am I misremembering that I guess, but B, was there anything over the course of the third quarter that kind of drove any headwinds on production?

David DePillo -- President

So if you kind of step back, we had a record first quarter, so if rates were starting to come down and people are taking advantage of that than the pandemic had. And really around the time of the lockdown, it was when the markets kind of retracted. And when I say markets, not only lenders, but also borrowers took a step back to say we don't know what's going to happen. Well that was relatively short-lived around 60 days, but that's really when you build your pipeline for the third quarter during the second quarter.

So it was probably a couple hundred million below what we thought we would have done in a normal course of business, but because of the loan in the market of pandemic that kind of impacted us in the third quarter. It's kind of interesting that pent-up demand is now catching up in the fourth quarter. So I would say the majority of it was pandemic related. And there's always a little bit of loan in the summer time anyways just people go away and well now lock themselves in their houses, but there is typically less demand in the summer time, but mostly pandemic related.

Operator

Okay, got it. Thanks guys. Thank you. That was our final question. I will now return the call to management for any closing comments.

Scott F. Kavanaugh -- Chief Executive Officer

Thank you everyone for taking the time today. We certainly appreciate it. For additional resources about what we covered on today's call, you can view our Investor Presentation, which is located on our Investor Relations portion of our corporate website. Overall, we're pleased with our results and we look forward to speaking with you next quarter. Thank you again and have a great remainder of your day.

Operator

[Operator Closing Remarks]

Duration: 36 minutes

Call participants:

Scott F. Kavanaugh -- Chief Executive Officer

Kevin Thompson -- Executive Vice President and Chief Financial Officer

David DePillo -- President

John Hakopian -- President of First Foundation Advisors

Matthew Clark -- Piper Sandler -- Analyst

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