Q2 2015 C1 Financial Inc Earnings Call

Jul 17, 2015 AM EDT
Thomson Reuters StreetEvents Event Transcript
E D I T E D   V E R S I O N

OZRK - Bank of The Ozarks Inc
Q2 2015 C1 Financial Inc Earnings Call
Jul 17, 2015 / 12:30PM GMT 

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Corporate Participants
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   *  Trevor Burgess
      C1 Financial, Inc. - President and CEO

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Conference Call Participants
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   *  Stephen Scouten
      Sandler O'Neill & Partners - Analyst
   *  Joe Fenech
      Hovde Group LLC - Analyst
   *  David Feaster
      Raymond James & Associates, Inc. - Analyst
   *  Jefferson Harralson
      Keefe, Bruyette & Woods, Inc. - Analyst

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Presentation
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Operator   [1]
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 Good day, and welcome to the C1 Financial, Inc. second-quarter 2015 earnings conference call and webcast. (Operator Instructions) I would now like to turn the conference over Mr. Trevor Burgess, President and Chief Executive Officer. Please go ahead.

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [2]
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 Good morning, and thank you for joining us for our second-quarter 2015 earnings call. I am joined today by our CFO, Cristian Melej, and our Chief of Staff, John Carlin.

 This quarter demonstrated the power of our business model, and it was one where we made a number of decisions that we strongly believe were in the long-term best interest of our shareholders.

 In the second quarter, we originated $177 million in new loan commitments, which brings year-to-date loan production to more than $353 million. This is up nearly 70% from the $208 million in originations during the first half of 2014.

 This pace is above our expectations, and we continue to be acutely focused on onboarding only those clients that meet our strict credit criteria. As the recovery continues, we will be ever vigilant at cash flow and loan-to-value metrics of our clients.

 C1 Bank-originated loans outstanding grew by 13% during the quarter and 57% year over year. At the end of the second quarter, C1-originated loans comprised more than 77% of the total loan portfolio, up from 74% at the end of the first quarter.

 Net loan growth during the quarter was $105 million, resulting in total loans at the end of second quarter of $1.361 billion. We saw balanced originations from our primary markets of Miami and Tampa Bay, with promising growth from our Orlando loan production office. Our unfunded commitments of $238 million are primarily construction draws which represent a clear opportunity for near-term loan funding.

 Net interest income for the second quarter totaled $16.8 million, up 7.9% or $1.2 million from the first quarter of 2015. While average loan balances grew during the quarter and helped drive this increase, we continue to see new loan funding very late in the quarter, which lessened the immediate impact of these new loan relationships.

 In the second quarter, our net interest margin rose 15 basis points to 4.71%, up from 4.56% during the first quarter. We achieved 15 basis points higher yield on average running assets as we were able to redeploy lower-yielding cash investments into higher-yielding loans. We also benefited from a high level of loan fees which included late-in-the-quarter loan prepayment fees.

 An improved deposit mix reduced overall cost of deposits by 3 basis points, which was offset by continued execution on our long-term borrowing strategy through the federal home loan bank. In the second quarter, we increased our FHLB borrowings by $59 million as a result of fixed-rate borrowing, which further improves our asset sensitivity, helping reduce interest rate risk.

 During the second quarter, core deposits grew $28 million, now comprising nearly 79% of the total deposit mix, which is up from 77% at the end of the first quarter. Total deposits increased 1.3% during the quarter. The shift in deposit mix helped reduce our overall cost of deposits by 3 basis points to an average for the quarter of 44 basis points.

 Non-performing assets decreased by $4.9 million in the quarter, $2.6 million of which was a result of direct OREO sales. Our Texas ratio fell to 22.4% to quarter end, down 3.3%. While the vast majority of non-performing assets are attributed to the acquired portfolio, C1 Bank-originated non-performing assets accounted for less than 1% of our total non-performing assets.

 Our non-interest income during the quarter totaled $4.3 million, which is up $2.6 million when compared to the first quarter. The increase was primarily due to a $2.6 million gain on the sale of excess land at our Wynwood branch. This sale presented an amazing opportunity for us to do the right thing by our shareholders.

 Non-interest income also benefited from strong gains on sale of SBA loans, up $354,000 versus the first quarter, and $166,000 higher income from BOLI investments, which was still in the ramp-up phase during the first quarter.

 In a quarter where we saw such extraordinary gain from the sale of the Wynwood land, we increased the general reserve of our allowance for performing loan losses $1.2 million, above what was necessary based on our loan growth during the quarter. In total, our allowance is up $1.9 million quarter over quarter.

 Our reserve expense was partially funded from strong net recoveries of $612,000. Our allowance for loan losses at the end of the second quarter was $7.7 million, which represents 56 basis points of total loans. This is up from $5.8 million or 46 basis points at the end of the first quarter.

 On a non-GAAP basis, if you include the remaining discount from acquired performing loans, our allowance plus discount totaled $10.7 million, or 79 basis points on total loans.

 Our efficiency ratio improved to 56% in the second quarter, down from 69% in the first quarter of 2015, impacted by the sale of the excess Wynwood land and by core improvements to our net interest income and disciplined control of expenses. We actively track our assets and revenue per employee as measures of efficiency, both metrics that showed strong improvement during the quarter. When compared to the first quarter, total assets per employee increased to $6.6 million, up from $6.5 million, and revenue per employee improved to $384,000 per employee, up from $326,000.

 On April 14, we opened our 31st banking center located in the Doral area of Miami. Also during the quarter, we unveiled our mobile client service vehicle dubbed the C1 Bank Mobile. This 45-foot custom freightliner truck has three ATMs on board, LED displays; and one not used as a disaster recovery vehicle will participate in community outreach and marketing events.

 Our focus on entrepreneurs continues to resonate with the clients, and our entire organization is determined to serve the needs of Florida's businesses in a first-class way with speed, service and certainty. We have been able to identify and onboard exceptional new talent during the quarter that embodies this commitment, and we are excited about the new business and performance that they will be able to generate.

 And with that, I'd like to open it up to questions, Andrew.

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Questions and Answers
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Operator   [1]
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 (Operator Instructions) Stephen Scouten, Sandler O'Neill.

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 Stephen Scouten,  Sandler O'Neill & Partners - Analyst   [2]
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 A question for you. Could you give a little more color around the loan growth and maybe the originations? Was there any sort of a differentiation in terms of competition this quarter? Obviously with the unfunded commitments going down quarter over quarter, I was wondering if it was maybe less weighted towards construction than it was previously. And then just kind of what the actual composition was there and what you're expecting based on what you're seeing in the pipeline for future originations.

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [3]
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 Sure. I think one of the interesting things -- I think it was probably the first quarter where Miami took the lead in terms of loan originations. So about 44% of our loan originations came out of our Miami network. I think a lot of that has to do with just that we now have a critical mass there -- 4 branches and a good team -- and we continue to do some great hiring in that market. Just under 40% came out of Tampa Bay, so we're really balancing nicely.

 We have taken an ever-more conservative approach to construction lending as the recovery continues in the state of Florida, especially in Miami. Looking for lower loan to values and stronger and stronger borrowers. And so some of the decrease in the unfunded commitments was in part due to good funding of the existing construction loans but also probably a bit of a mix shift towards the type of relationships that we're onboarding.

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 Stephen Scouten,  Sandler O'Neill & Partners - Analyst   [4]
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 Yes, that's great. And then in terms of the originations at the $177 million, is that kind of the pace guys would continue to feel comfortable with? Or based on your pipeline, do you think that could still move higher, or just as you said the need to be conservative and maybe some irrationality in terms of competitors' pricing will keep that in the $170 million-ish range?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [5]
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 So if you remember back to our first quarter, we did about $175 million in the first quarter, and that was way above our expectations. Normally the first quarter is a very slow quarter, and for a number of reasons we far exceeded our own expectations in the first quarter.

 So the way that I like to think about it is that we are trying to onboard the very best relationships, the very best business relationships, in the state of Florida, and we are able to pick and choose the points and the clients that we want to onboard. And the pace of $500 million to $600 million a year of client onboarding is something that we are very comfortable with. Obviously, for the first half that's more like a pace of $700 million.

 But we are not focused on a particular loan production number. We're very focused on what's the quality of the clients that we're onboarding. If I had to -- if I look at competitive behavior in the marketplace, I think that it has maybe become a little more rational around pricing as people fear rate increases or are preparing themselves for rate increases. But we continue to see sort of irrational loan structures at long-term fixed rates being offered to our clients, which we do not do.

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 Stephen Scouten,  Sandler O'Neill & Partners - Analyst   [6]
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 Okay, yes, that makes sense. And maybe one last one for me. Can you talk about the new loan yields that you're seeing, maybe as well as the rate you're paying on those new FHLB borrowings? And kind of on the loan yields, how that compares to what you're seeing in terms of the runoff yields and if that gap is still as large as it was given that the acquired loan book continues to be a smaller portion.

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [7]
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 Sure. If you look at it at a moment in time and look at sort of the last day of the second quarter, we were picking up about 84 basis points on new loan yields versus roll-off acquired yields. So that's a very big gap, and it obviously differs by acquired bank. But we are in good shape as those acquired loans roll off and as we make new loans, both due to the loans being underwritten under our credit scenarios. And two, the differential in yield.

 Our new yields in the second quarter ticked up a bit from the first quarter. Some of that has to do with the very, very specific use of our smart loan calculator. The second generation of our smart loan calculator actually gives suggestions to our lenders, our client managers, as to ways that they can improve the risk-adjusted return on equity of the loans we're making.

 And one of the ways to do that is to offer shorter maturities at a fixed rate. So we began to onboard a number of relationships at non-traditional terms. For one reason or another, most community banks in the country make all of their fixed-rate loans at five years regardless of the client need.

 We've been able to look at the yield curve, pick our points better, and use our technology innovation to make recommendations to clients to look at things like doing two- and three- and four-year fixed rather than always doing five-year fixed just because that's the way it's always been done before.

 So I suspect that that may in some cases lead to potentially lower yields but actually increases our risk-adjusted return on equity.

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 Stephen Scouten,  Sandler O'Neill & Partners - Analyst   [8]
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 That's great. Thanks, Trevor. I appreciate it.

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Operator   [9]
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 Joe Fenech, Hovde.

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 Joe Fenech,  Hovde Group LLC - Analyst   [10]
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 Good morning. Trevor, it looks like the margins should see some residual benefit here from the mix shift in the third quarter, just given when the fundings took place and the average balance of cash in the second quarter here. But with the excess cash pile dwindling here, what do you see for the margin looking out beyond this third quarter into next year?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [11]
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 In the second quarter, we definitely benefited from some fairly hefty prepayment penalties that took place very late in the quarter. So that's obviously the goal in time. When you earn on the loan for the entire quarter and it pays off in the last week and you get a big prepayment penalty, that's about as good as it gets. Yet we still saw very, very strong loan growth.

 So we were definitely helped in the second quarter somewhat by those fees.

 As I look out, the competitive dynamics are definitely changing a bit in the marketplace as we look at the CD rates that our competitors are posting even for fairly short term. People are definitely positioning themselves for increases in rates in the future.

 We have used the federal home loan bank, we have used the nationally marketed CD marketplace as a way to go much, much longer -- three, four, five years -- at obviously higher costs but, we believe, great reduction in long-term risk. So we're really looking to how do we create a long-term sustainability in healthy net interest margins rather than how do I maximize the net interest margin in any one quarter.

 We do think that there are opportunities. Obviously, averages help. Any additional prepayment penalties will help. And the conversion of OREO to cash and out into loans again will also help. So we have a number of drivers, but the cap on that will definitely be the competitive dynamics of the deposit marketplace, especially on the CD side.

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 Joe Fenech,  Hovde Group LLC - Analyst   [12]
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 Okay. And on the expense front, Trevor, you had some nice operating leverage this quarter. Are we at that inflection point where now more of that top-line growth continues to drop directly to the bottom line without much incremental expense growth? Or were there some unusual items this quarter you think that held down that expense growth bit?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [13]
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 No, if you look, really the savings were in areas related to our non-performing acquired assets -- less professional fees, less OREO costs, less loan collection expense. And so we do believe we're at a nice inflection point.

 We do always see a little tick-up in the number of employees every July as we onboard our new management associate class. This year we have 6 amazing young men and women who have joined us from across the country. University of Chicago, Temple, great schools in Florida have joined us, and really we are excited about what they can bring into the organization in the long-term.

 But no, we do believe that we're at a nice inflection point, and certainly the pace of OREO sales is exciting. And we believe that will continue as the economy continues to improve here, and that will position us nicely for continued leverage. I'd love to trade off OREO expense for bringing on great new talent, keep expenses pretty flat.

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 Joe Fenech,  Hovde Group LLC - Analyst   [14]
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 Okay. And with respect to credit, the increased provision, as you mentioned, doesn't seem reflective of any specific credit issued this quarter. There don't seem to be any concerning trends based in your comments. So you're at, I guess, about 73 bps on a non-acquired basis in terms of the reserves. Longer-term, even without any emerging credit concerns, should we expect to see some additional reserve build, Trevor, or do you think the action you took this quarter was more of a one-time boost?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [15]
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 I'm very careful about using terms like one-term -- one-time with given all of the rules and regulations around it. But we certainly had a quarter with some pretty extraordinary events making $2.6 million on sale of some excess dirt.

 These were originally highly decrepit houses that I knocked down simply to improve the neighborhood where I was putting my new branch. And, unsolicited, someone came along and offered me an outrageous amount of money, which we took and ran. And then you sit back as a management team and you say, let's look at what do we do with that money. And you can let it all drop to the bottom line, or you can take a careful look at your assumptions and we did that. And for our performing loans we increased the reserve $1.2 million beyond what would have been standard growth related to new loan growth.

 So, we do believe that our reserve is adequate, and we do believe that that was a pretty interesting quarter that's now behind us.

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 Joe Fenech,  Hovde Group LLC - Analyst   [16]
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 Okay. Thank you.

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Operator   [17]
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 David Feaster, Raymond James.

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 David Feaster,  Raymond James & Associates, Inc. - Analyst   [18]
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 Kind of piggybacking on your comments about the new training class, could you maybe talk about your thoughts on hiring new lenders going forward? You've mentioned that you started hitting a critical mass in Miami with your team. But just what are your thoughts on additions going forward?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [19]
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 I think we have probably about the right number of lenders covering the state of Florida, and the number of lenders we have relative to our asset size is very high. And that's in part how we are able to have to growth we're able to have.

 The key question now is how do we optimize the performance of those lenders, and how do we make sure that we only have the very, very best people. I mentioned on the last quarterly call that the three lowest-performing lenders are no longer with us. We have since hired new talent to come in, including a very senior woman from SunTrust. We have hired great younger talent due to movement in the marketplace. Any time an out-of-state bank acquires a bank within the state of Florida, it creates dislocation and great opportunity for us to pick up people. So we've been excited by the ability to upgrade talent.

 The other thing which we put out a press release about a couple of weeks ago was the addition of Dustin Symes from City National Bank. He's really going to help us think about how do we use our 31 branches as a lending tool. That's something that we really have not done to date in any large way. And if we can use those, as other banks do and as City National does, to generate meaningful numbers of small business loans and residential credits, that's going to help diversify our portfolio and provide a whole another leg to our lending.

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 David Feaster,  Raymond James & Associates, Inc. - Analyst   [20]
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 Okay, great. Could you maybe talk, too, about what you're seeing within your core markets of those 31 branches? More specifically, some of the newer markets for you such as Orlando -- Miami is clearly doing well given the large proportion of your originations coming from there. What's kind of what your pulse on the market -- on your markets?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [21]
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 On the lending side, I think that our brand is starting to really permeate the minds of Florida's business owners. And we are getting a lot more inbound inquiries as a go-to bank to talk to in part due to our size, our scope and our success working with very prominent entrepreneurs across the state. And so I think we're hitting a really neat point at being a go-to bank for Florida businesses.

 Orlando, just the loan production office now, one lender there doing a bang-up job, and we are currently active in looking for sites for potential branch operation. You remember this is what we did in Miami. We led with the loan production office, established a beachhead, established a client base and then opened with our first branch; now up to 4 in Miami. So we are looking to replicate that strategy in Orlando.

 Miami is doing great for us, and we have signed a lease and are under construction on a branch to open in Fort Lauderdale which we hope to have opened by the end of the year, although you can never tell with a renovation. But we are excited about the growth in what is Florida's largest business marketplace; you know, the Miami-Broward market.

 I would say as well, though, I continue to be very excited by Tampa because Tampa Bay is such a fundamental marketplace where the dollar per square foot of a commercial building that you can buy here is still below its replacement costs. And as a bank making a loan against that sort of office building or manufacturing facility or lawyer's office or doctor's office, you feel very good about that the cycle has not fully recovered. And we like working with those sort of fundamental markets.

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 David Feaster,  Raymond James & Associates, Inc. - Analyst   [22]
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 Okay, great. Last one for me, could you maybe talk about what you're seeing in your SBA lending business and your thoughts going forward? And maybe comment on the success you're seeing with your app.

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [23]
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 Sure. The SBA marketplace is definitely one that's in flux due to the interest rate environment. And as I mentioned last quarter, we definitely see many, many more of our owner-occupied businesses choosing to use the 504 product rather than the 7a product. The 7a product is the one that you can sell and get a gain on the sale for. And the 504 one is the one where you end up holding a first-mortgage position and the SBA is behind you in second position, and you end up at about 50% loan to value, so it's a very, very good and relatively safer product for banks to do.

 We are seeing many, many more choose that 504 product that you don't sell, and that's definitely a continuing trend because they can longer-term fixed rates as opposed to a quarterly adjustable rate with the 7a product.

 So while we had a very good quarter in the second quarter with gain on sale, because we did have a number of those quarterly adjustable 7a loans that were sold, the long-term trend definitely seems to be in the 504 direction. Which is fine with us; we are totally indifferent to that. I'm just as happy as I think about the long-term as a shareholder to have great, high-quality, low-risk loans on the balance sheet. That's a very positive thing for the long-term.

 The app is something that we are very excited about. It has generated a number of smaller leads for our team. But the real power we're seeing for it is as a tool to be used by our branch network to educate business owners as we are talking to our clients and prospective clients to really differentiate a tool that allows us to have a competitive advantage in terms of our knowledge of the SBA product, our reach with the SBA product and our ability to execute quickly.

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Operator   [24]
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 (Operator Instructions) Jefferson Harralson, KBW.

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 Jefferson Harralson,  Keefe, Bruyette & Woods, Inc. - Analyst   [25]
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 I just want to reach out on your balance sheet strategy going forward now that we're going to phase 2 I suppose with the cash sopped up. It may put more pressure on your funding strategies. I guess what is change in strategy, if there is one, as there's not excess cash there anymore to sop up?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [26]
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 Sure. So a couple of things. One, we are obviously looking at new branch locations and very populated areas. So we opened Doral in April. We'll open Fort Lauderdale late this year. We are actively looking for Orlando; close behind that will be Naples. Right use of the locations I've talked about before, but we have more concrete plans in place with each of those, with Naples being -- bringing up the rear. But we're excited about the potential for good core deposit growth from our existing branch network and from the new branches.

 Now, if you look at our CDs, for example, year over year we're down about $100 million as we look to use up that excess cash both by letting CDs run off and by making loans. Compared to our peers, if you look at a UBPR basis, our CDs are about half of what our peers are. So we have very good room to increase our time deposits.

 And, again, we do things a little differently. So the way we're looking at increasing time deposits is really by somewhat looking at the nationally marketed CDs where we can get much longer terms at very competitive rates, competitive with federal home loan bank borrowing rates. So we pick our places there in the three-, four- and five-year terms. And if we can put on nationally marketed CDs at or near federal home loan bank rates, we're going to take advantage of those opportunities. It provides a great increase to our asset sensitivity and another venue to do so.

 And locally, we will look for CDs, but we are a relationship-focused bank. So when we're looking for CDs locally, that is tied to a core product. We just haven't had to run any CD specials or do anything like that in a long time. We are very good at doing it, and we'll look for opportunities to really build the relationship nature of our deposits on a go-forward basis.

 But we definitely will increase CDs in the future while we continue to work to increase our core. So do I think that the cost of deposits will continue to fall quarter after quarter after quarter after quarter? Probably we'll see some moderation in that.

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 Jefferson Harralson,  Keefe, Bruyette & Woods, Inc. - Analyst   [27]
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 All right. And my follow-up -- when I think about your recovery strategy and how well that's been working, should I think about that as getting to the bottom line, or should I think about that as funding reserve building as we go forward?

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [28]
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 You know, our core strategy of signing up people who didn't pay the banks we required back to long-term payment plans, we've gotten to the point where we have this recurring sort of monthly income, if you will, from the recoveries, and that is definitely helping to fund reserve growth. Because it is just a -- we literally send them a bill off of the Fiserv system, and they send in a check, and we process that month after month. So there's this sort of standard recurring level, and that's helping to fund reserves.

 To the extent that we have excess gains or surprise one-time large gains or the like, which do happen time to time and certainly happened in the second quarter, those are one way or another going to make it to the bottom line unless we see clear opportunities to increase other reserve if you have something unique happen.

 But I think at this point, having done what we did at the end just prior to the IPO and now again in the second quarter, as long as our credit quality stays as it is, we feel very comfortable that our reserve is adequate.

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 Jefferson Harralson,  Keefe, Bruyette & Woods, Inc. - Analyst   [29]
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 Okay, great. Thank you.

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Operator   [30]
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 This concludes our question-and-answer session. I would like to turn the conference back over to Trevor Burgess for any closing remarks.

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 Trevor Burgess,  C1 Financial, Inc. - President and CEO   [31]
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 Well, I thank everyone for your time today, and we are very excited about the long-term trends here in the state of Florida. The demographic trends are extremely positive, with 300,000 population increase in the last year, the growth of our brand across the state of Florida, and our ability to onboard the very best new clients and attract the very best talent to work with us here at C-1 Bank. We're excited about things to come, and I thank you for joining today.

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Operator   [32]
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 The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.




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