FLG - NYSE

Hello, and welcome to the Flagstar Bank NA Third Quarter 2020 Earnings Call. [Operator Instructions] I would now like to turn the conference over to Sal DiMartino, Director of Investor Relations. You may begin.

Thank you, Sarah, and good morning, everyone. Welcome to Flagstar Bank's Third Quarter 2025 Earnings Call. This morning, our Chairman, President and CEO, Joseph Otting; along with the company's Senior Executive Vice President and Chief Financial Officer, Lee Smith, who will discuss our results for the quarter and the outlook. During this call, we will be referring to a presentation which provides additional detail on our quarterly results and operating performance. Both the earnings presentation and the press release can be found on the Investor Relations section of our company website at irflagstar.com. Also, before we begin, I'd like to remind everyone that certain comments made today by the management team may include forward-looking statements within the meanings of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements we may make are subject to the safe harbor rules. Please refer to the forward-looking disclaimer and safe harbor language in today's press release and presentation for more information about risks and uncertainties, which may affect us. When discussing our results, we will reference certain non-GAAP measures, which exclude certain items from reported results. Please refer to today's earnings release for a reconciliation of these non-GAAP measures. And with that, I would now like to turn it to Mr. Otting. Joseph?

Thank you, Sal, and good morning, everybody, and welcome to our first quarterly earnings as Flagstar NA. We are very pleased with the operating results this quarter. Our third quarter performance provides further tangible evidence that are successfully executing on all our strategic priorities. Our operating results improved significantly throughout the year and during the quarter as many of our key metrics continue to trend positively. From an earnings perspective, our adjusted net loss of $0.07 per diluted share narrowed substantially compared to the second quarter, while our pre-provision net revenue continues to trend higher, putting us on a path to profitability. In addition to the improvement in earnings, we had several other positives during the quarter, highlighted by this was a breakout quarter in our C&I business as we originated $1.7 million in new loan outstandings and realized overall net loan growth of $448 million in the C&I portfolio. Our net interest margin expanded for the third consecutive quarter, up 10 basis points to 1.91% compared to the second quarter. And our operating expenses remained well controlled and were down year-over-year $800 million on an annualized basis, significantly ahead of our plan. Criticized and classified assets continued to decline, down $600 million or 5% on a linked quarter basis and $2.8 billion or 20% year-to-date, while nonaccrual loans were relatively stable. We had another strong quarter of multifamily and CRA payoffs of $1.3 billion, and this has continued the trend over the last couple of quarters where we've been above our forecast on real estate payoffs. And our provision for loan losses decreased 41%, while our net charge-offs declined 38%. Now turning to Slide 3 of the presentation. We have highlighted the key management areas that we have focused on and how we have performed in each category. First, to improve our earnings, we have reported smaller net loss every quarter for the past year due to a combination of factors, including margin expansion and cost reductions. Lee has a slide later on that he'll cover this in detail, but the trend line on this lines up very well with what we've communicated about a return to profitability for the company. Second, we continue to implement our commercial lending and private banking strategy, which I will discuss in more detail shortly. And third, we proactively managed our multi-family and commercial real estate portfolio to continue to reduce our CRE concentration. And fourth, our credit quality profile, which has resulted in net charge-offs as we are starting to see signs of stabilization in the loan portfolio. The next several slides highlight the tremendous progress we've made in our C&I business. Starting on Slide 4, this was a breakout quarter for our C&I lending. Our strategy in the C&I space really began after the June 2024 strategy as we hired Rich Repetto to come in and lead our commercial, private banking and commercial banking strategy. This strategy focuses on 2 primary businesses, specialized industries and corporate and regional commercial banking. Both of those gained momentum in the third quarter, driving C&I loan growth up nearly $450 million or 3% versus the second quarter. This was the first positive growth quarter since early last year. Our 2 strategic focus areas led the growth with total loan growth of $1.1 billion, up 28% compared to the prior quarter. On the next slide, you will see the positive trends in new commitments and new loan originations over the past 5 quarters. Compared to the second quarter, new commitments increased 26% to $2.4 billion, while originations grew 41% to $1.7 billion. More importantly, you can see that the contribution to this growth was from our 2 strategic focus areas was quite impressive. Specialized Industries and corporate and regional commercial banking experienced a 57% or almost a $750 million increase in commitments to $2.1 billion versus the prior quarter. Originations in these 2 areas increased 73% or nearly $600 million to $1.4 billion. Both areas have seen a consistent upward trend since the third quarter of last year, reflecting steady pipeline growth and a high success rate in converting opportunities. Just as important as our C&I pipeline, which currently stands at $1.8 billion on commitments, up 51% compared to the $1.2 billion at this time last quarter, providing strong momentum for the fourth quarter C&I loan growth. Also important is the number of new relationships we've added. Year-to-date, we've added 99 relationships to the bank, including 41 just in the third quarter. I believe these 2 data points reflect the industries we chose to focus on and the talented individuals we brought into the company, most who are mid-career bankers with 25 to 35 years of experience in their respective industries and have impressive Rolodexes. So far in 2025, we have doubled the number of relationship bankers and support staff in our 2 main focus areas to 124 and plan to add another 20 in the fourth quarter. Turning to Slide 6. This provides an overview of our specialized industry business and the growth trends both in commitments and originations over the past 5 quarters. You can see they had strong growth in both commitments and originations during the third quarter. Slide 7 provides a similar overview of the corporate and regional banking business. This business also had a very strong quarter in both total commitments and originations. We believe it has reached an inflection point after successfully building out 4 new segments and reinvigorating legacy businesses, showing that our relationship-based strategy is yielding positive results. We expect to see further growth in the C&I business as existing bankers continue to deepen their banking relationship and the addition of new bankers. Additionally, we see potential opportunities from recent merger activity. Many of these are right in our core markets to selectively add talented bankers as well as winning new business relationships. The next slide lays out the road map we employed to solidifying the balance sheet and reposition the bank for growth. This is a little bit of a down history lane, but we have increased our CET1 capital ratio by nearly 350 basis points, ranking us among the highest, best capitalized regional bank amongst our peers. We also fortified our ECL through a rigorous credit review process where we reviewed virtually every single multi-family and commercial real estate loan. We significantly enhanced our liquidity position and we reduced our reliance on wholesale funding, including flub advances and brokered deposits nearly $20 billion year-over-year, lowering our cost of funds and boosting our net interest margin. And in addition to what the items are identified on this slide, there could be many more. Obviously, our expenses, our deposit costs and our risk governance are other areas that we're heavily focused on. Now turning to Slide 9. You can see the impact on our adjusted EPS from the balance sheet improvements I just talked about on the previous slide. Our adjusted diluted loss per share has consistently and significantly narrowed over the past 5 quarters, including a 50% quarter-over-quarter reduction in the third quarter loss to $0.07. Now with that, I'd like to turn it over to Lee to review our financials.

Thank you, Joseph, and good morning, everyone. During the third quarter, we continued to execute on our strategic vision to make Flagstar 1 of the best-performing regional banks in the country. We achieved net interest margin expansion of 10 basis points quarter-over-quarter, paid off another $2 billion of high-cost brokered deposits as we further reduced our funding costs and continued to demonstrate excellent cost controls, continuing the surgical approach to cost optimization of the last 9 months. Our unadjusted pre-provision net revenue improved by $14 million quarter-over-quarter, while our adjusted pre-provision net revenues improved $6 million versus the second quarter. On the credit side, multi-family and CRE payoffs were again elevated at $1.3 billion, of which 42% was substandard. And criticized and classified loans declined about $600 million or 5% during the quarter and 19% or $2.8 billion on a year-to-date basis. Net charge-offs decreased $44 million and the provision decreased $24 million, both compared to the second quarter. And we ended Q3 with a CET1 capital ratio of 12.45%. As Joseph previously mentioned, we had net C&I loan growth during Q3 of approximately $450 million following the origination of $2.4 billion of new C&I commitments, of which $1.7 billion was funded. We're very pleased with the performance of our C&I businesses. We've surpassed our target of $1.5 billion of funded C&I loans per quarter and believe we can fund $1.75 billion to $2 billion per quarter going forward assuming no change in market conditions. We will also start originating new CRE loans in the fourth quarter that are of high credit quality and geographically diverse. We've also started to experience growth in our health investment residential portfolio, which increased $100 million on a net basis. We're doing exactly what we said we would do, and I want to complement the entire Flagstar team on another successful quarter. Now turning to the slides and specifically Slide 10. This morning, we reported a net loss attributable to common stockholders of $0.11 per diluted share. We had the following notable items in the third quarter. First, we had a $21 million fair value gain on a legacy investment in Figure Technologies following its September IPO. Second, we recorded a $14 million increase in litigation reserves related to the settlement of 2 legacy cyber matters dating back to 2021 and 2022, 1 of which involved a third-party vendor. And third, we had $8 million in severance costs related to FTE reductions. Therefore, on an adjusted basis, after also excluding merger expenses, we reported a net loss of $0.07 per diluted share, significantly better than last quarter and in line with consensus. On Slide 11, we provide our updated forecast through 2027. We tweaked our 2025 noninterest income assumptions resulting in full year 2025 adjusted diluted EPS and in a range of minus $0.36 to minus $0.41 per diluted share. Our guidance for both 2026 and 2027 remains unchanged. One of the highlights this quarter was the double-digit increase in net interest margin. Slide 12 shows the trends in our NIM over the past several quarters which expanded 10 basis points quarter-over-quarter to 1.91% and has now increased for 3 consecutive quarters. In September, our NIM was 1.94% compared to 1.91% for the third quarter, and we expect to see margin improvement going forward, driven by a lower cost of funds as we manage our cost of funding lower lower-yielding multifamily loans paying off a path or if they remain with Flagstar resetting at higher rates, ongoing growth in the C&I and other portfolios and a reduction in nonaccrual loans. Turning to Slide 13. Another highlight this quarter was the decline in noninterest expenses. Our noninterest expenses remained well controlled as they declined another $3 million in the third quarter and are down 30% year-over-year or approximately $800 million on an annualized basis. Slide 14 shows the growth in our capital over the past 5 quarters and the strength of our CET1 ratio. At 12.45%, our CET1 ratio ranks amongst the best relative to our regional bank peers. We will continue to prioritize reinvesting our capital into growing the C&I and other portfolios as we remain focused on diversifying the balance sheet and growing earnings. Slide 15 is our deposit overview. Similar to last quarter, we further deleveraged the balance sheet by paying down $2 billion of brokered deposits at a weighted average cost of 5.08%. Going back to the third quarter of 2024, we have now paid down almost $20 billion of flub advances and brokered deposits. In addition, approximately $5.6 billion of retail CDs matured during the quarter at a weighted average cost of 4.50%. We retained approximately 85% of these CDs and they moved into other CD products that were approximately 30 to 35 basis points lower than the maturing product. In the fourth quarter, we have another $5.4 billion in retail CDs maturing with a weighted average cost of 4.30%. These deleveraging actions, CD maturities and other deposit management strategies have allowed us to reduce deposit costs by 13 basis points quarter-over-quarter and liability costs by 10 basis points. We also saw an increase in interest-bearing deposits of $1.5 billion as a result of increased commercial, private bank and mortgage escrow balances. We continue to actively manage our cost of deposits and are targeting a 55% to 60% deposit beta on all interest-bearing deposits with the Fed rate cuts. Slide 16 shows our multi-family and CRE par payoffs for the quarter, we continued to witness significant par payoffs of approximately $1.3 billion, of which 42% or about $540 million were rated substandard. Approximately $195 million of this quarter's payoffs were multi-family greater than 50% rent regulated. We continue to witness strong market interest for these loans from other banks and from the GSEs. The par payoffs are also leading to a substantial reduction in overall CRE balances and in our CRE concentration ratio. Total CRE balances have declined $9.5 billion or 20% since year-end 2023 to about $38 billion, aiding our strategy to diversify the loan portfolio to a mix of 1/3 CRE, 1/3 C&I and 1/3 consumer. In addition, the payoffs have led to a 95 percentage point decline in the CRE concentration ratio to 407% since year-end 2023. The next slide is an overview of our multi-family portfolio, which has declined 13% or $4.3 billion on a year-over-year basis. Our reserve coverage on the overall multi-family portfolio of 1.83% remains strong and is the highest relative to other multifamily focused lenders in the Northeast. Furthermore, the reserve coverage on those multifamily loans where 50% or more of the units are regulated is 3.05%. Currently, we have about $14.3 billion of multi-family loans that are either resetting or contractually maturing between now and year-end '27, with a weighted average coupon of less than 3.70%. If these loans pay off, we will reinvest the proceeds in our C&I or other portfolios or pay down wholesale borrowings. And if they stay with Flagstar, the reset rate is significantly higher than the existing rate, which provides a NIM benefit. On Slide 18, we've once again provided significant additional information on our New York City multi-family loans where 50% or more units are rent regulated. This tranche of the multi-family portfolio totals $9.6 billion compared to $10 billion last quarter with an occupancy rate of 99% and a current LTV ratio of 70%. Approximately 55% or $5.3 billion of the $9.6 billion are pass rated and the remaining 45% or $4.3 billion are criticized or classified, meaning they are either special mention, substandard or nonaccrual. Of the $4.3 billion, $2 billion are nonaccrual and have already been charged off to 90% of appraisal value, meaning $370 million or 16% has been charged off against these nonaccrual loans. Furthermore, we also have an additional $40 million or 2% of ACL reserves against this nonaccrual population. Of the remaining $2.3 billion that are special mention and substandard loans between reserves and charge-offs, we have 7% or $165 million of loan loss coverage. We believe we're adequately reserved for charged these loans off to the appropriate levels and with excess capital of $1.7 billion before tax we think we're more than covered were there to be any further degradation in this portion of the portfolio. Slide 19 details the ACL coverage by category. The ACL declined $34 million compared to the second quarter to $1.128 billion, a result of lower HFI loan balances and stabilization in property values and borrower financials. The overall ACL coverage ratio, including unfunded commitments was 1.80%, broadly in line with last quarter at 1.81%. On Slide 20, we provide additional details around our asset quality trends. Criticized and classified loans continued to decline, down approximately $600 million compared to the second quarter. On a year-to-date basis, we have made tremendous progress in reducing these loans as they are down $2.8 billion or 19% since the beginning of the year. Our net charge-offs decreased $44 million or 38% compared to the prior quarter to $73 million, and the net charge-off ratio improved 26 basis points to 0.46%. Nonaccrual loans, including those held for sale, were $3.2 billion, relatively stable compared to the prior quarter. I would add that approximately 41% or $1.3 billion of nonaccrual loans are performing. The 1 borrower we moved to nonaccrual status in the first quarter who subsequently filed for bankruptcy remains in the bankruptcy process, but there is an auction in progress that we hope conclude sometime in early 2026, which will allow us to resolve our position sometime during the first half of next year. With respect to the 30- to 89-day delinquencies at quarter end, approximately $274 million of the $535 million were driven by 1 borrower who typically pay subsequent to month end and has done so again. As of October 20, $166 million of their delinquent loans have been brought current. More importantly, after quarter end, we sold approximately $254 million of these borrowers' loans above our book value, thereby reducing our exposure to this borrower. Finally, we continue to review the 2024 annual financial statements for all borrowers. And today, we've completed the review on the majority of them. I'm pleased to report that the vast majority have stayed consistent compared to the prior year, indicating an overall stable trend for our borrowers. We continue to deliver on our strategic plan and are excited about the journey we are on and the value we will create over the next 2 years. With that, I will now turn the call back to Joseph.

Thanks, Lee. Before moving to Q&A, I'm also happy to share that last Friday, we closed on our holding company reorganization after receiving all necessary regulatory and shareholder approvals. As a result of this reorganization, Flagstar Financial, Inc. was ultimately merged with Flagstar Bank NA, with Flagstar Bank NA as the surviving entity. As I mentioned on last quarter's call, this reorganization simplifies our corporate structure, reduces our regulatory burden and lowers operating expenses by approximately $15 million. As always, we remain extremely focused on executing our strategic plan, including transforming Flagstar into a top-performing regional bank, creating a more customer-centric relationship-based culture and effectively managing risk to drive long-term value. Now we would be happy to answer your questions. Operator, please open the line for questions.

[Operator Instructions] Your first question comes from Manan Gosalia of Morgan Stanley.

So I wanted to focus on the NII guide for the year. If I take the guide for the full year, relative to the progress year-to-date, it implies that NII should be up about 5% to 15% Q-on-Q next quarter. You're making good progress on the C&I loan growth side, NIM has been rising consistently and you should benefit from additional rate cuts from here. But at the same time, earning assets have also been shrinking as you pay down some of those broker deposits. So can you talk about how we should think of each of these spots next quarter and into the first half of next year?

Yes, absolutely, Manan. So first of all, what I would say is in terms of the balance sheet, you'll have noticed that it only declined $500 million in despite us paying off another $2 billion of brokered deposits. And so we think at the end of this year, Q4 will probably be the low point. So the balance sheet will be -- and this is total assets $90 billion to $91 billion. And then we expect the balance sheet to start to grow as we move through 2026. So I think that kind of level sets everything first and foremost. We do expect to see continued NIM expansion as we move forward. And we have multiple levers to do that, as you know. So I mentioned in my prepared remarks, as the multi-family loans continue to pay off or as they continue to hit their reset dates, they have a weighted average coupon that is less than 3.7%. So if they stay with Flagstar, with our sort of pricing reset is 5-year flub plus 300 or prime plus 2.75, and we're staying sort of firm to that. So we get a benefit if they reset and stay with Black Star. If they pay off then we're taking those proceeds and investing them into the C&I growth, or we use them to pay down high-cost either broker deposits or we can pay down flub advances. So that's sort of 1 area. We continue to show excellent growth on the C&I side. What we didn't mention is of the new loan originations in the third quarter, the average spread to sofa on all of those was 242 basis points. So a very, very healthy spread on the new C&I loans that we're bringing on to the balance sheet. And we -- you heard Joseph talk about the pipeline. We think that we continue those growth trajectories going forward. We're also going to start originating new CRE loans going forward. And this won't be rent-regulated New York City loans, we're looking for high quality, geographically diversified CRE loans in other parts of that footprint, the Midwest, California, South Florida, and we're starting to see the mortgage health investment portfolio increase, and we think that will increase further in a lower rate environment. I think we've done a tremendous job managing the cost of our fundings down through paying off those high-cost brokered deposits and flub advances, but we've also reduced core deposit costs without Fed cuts. And with Fed cuts, I mentioned, we expect a 55 to 60 beta, and so that's a focus area on the liability side. And then finally, as we reduce our nonaccrual loans, and we do expect to see a reduction in the fourth quarter, that will also help our NIM. So I know that was a long answer, Manan, but there are a lot of moving parts, as you can see.

That was great. That was the detail of that. was looking for. Maybe just a follow-up to your comments on the C&I side. I mean, the originations were clearly really strong this quarter. Can you talk about is this a new -- is this a good run rate for the next few quarters? Should it accelerate from here? And maybe talk about how you're managing risk as you do this because it's a rapid build-out and there is some macro uncertainty out there.

Yes, sure. Thank you. So actually, our viewpoint is that we will continue to see additional growth beyond what we saw this quarter. We do see somewhere between $1.7 billion billion to $2.2 billion is kind of our run rate going forward per quarter. And I'll recall that a number of the people who have joined the company haven't been here for much over 3 or 6 months. And so most of these people are really getting settled into the bank and generating opportunities for the company. So we kind of think we're an engine that's firing on 3 of the 6 cylinders today and have really an opportunity to get really the whole franchise performing at a higher level in the next couple of quarters. That's in addition to we will add 20 people in the fourth quarter, and we'll add probably somewhere around 100 people in 2026. So we'll continue to add. The strategy there really is to -- we highlighted in the slides, we have a specialized industry strategy where we have 12 verticals. Virtually all the people who are leading those verticals and the people that have joined us are 20- to 35-year bankers. So they come to our company with lots of depth and knowledge in those particular verticals from an expertise perspective. And then from a risk underwriting perspective, we have the line unit embedded in the line is what we call the first line of defense and there are credit products people who sit in the first line who will underwrite and do the due diligence on the company independent of the relationship managers. And then those credits that are recommended based from the first line of defense to the actual credit approvals in the bank. That is a separate function that reports up to our Chief Credit Officer, and then who actually directly reports to me. So we think there are good checks and balances in our process to make sure that we're adhering to our credit standards without significant deviations from underwriting policies.

And Manan, 1 thing I would add, again, just looking at Q3, if you look at the average loan size of the new originations, it was just over $30 million. So as we've said before, we are not taking outsized positions in any 1 name or industry. We're diversified in terms of the size of the positions we're taking. We've said before, our sweet spot is maybe $50 million to $75 million. But in Q3, the average new loan commitment size was a little over $30 million, and that gives us comfort as well.

And I will leave at a good point. On Slide 4, it does highlight the other businesses like Flagstar Financial and leasing and the MSR lending and a couple of others where actually, we thought the exposures to a number of individual borrowers were too high. And so we brought down in those portfolios significant amounts of high individual company exposure, and that's resulted in some of the declines year-to-date in those portfolios. We do think that will start to stabilize now as we've made our way through those portfolios in 2025.

That's great. And just a clarification, the $1.7 billion to $2.2 billion that you mentioned, that's originations, correct?

That is correct.

The next question comes from Dave Rochester with Cantor.

On the $1.7 billion to $2.2 billion that you just talked about in C&I production, when do you think you ultimately hit that? Is that a 1Q timing on that or further into next year? And then given that and the restart of the CRE originations and what you're doing on the resi production front, at what point do you expect total loans will start to grow again next year. And then with the 100 people or so that you're planning on hiring for next year, are there any new verticals contemplated in that?

Yes, so I'll take the first part of your question. So as I mentioned to Manan, we think the low point for the balance sheet will be the fourth quarter and will be sort of between $90 billion and $91 billion. And our expectation is we'll see -- we'll start to see a little bit of balance sheet growth in Q1 of 2026, not a lot, but a little bit. And then it will really start to sort of trend upwards in Q2, Q3 and Q4 of next year. So that's kind of how we think about the balance sheet growth and the inflection point.

Got it. So you're also thinking not just assets, but total loans actually stabilizes next quarter. Or no, that's the [indiscernible] and then you go from there stabilization.

That's right. That's exactly right. Yes.

And then regarding your question on the $2.4 billion and the $1.7 billion, we do expect growth on those numbers both this quarter and going forward. So I mean that number clearly can get north of $2 billion on a pretty consistent basis.

That's great. And then just on the elimination of the holding company, I know that, that exempts you from annual stress tests whenever you cross over $100 billion or whatever that threshold is at that point. Any other regulatory relief you get from that as well? I know you save on the cost front, but anything else that you'd point to?

Yes. I mean in a lot of instances, you have examinations that cover the same thing from the OCC to the Fed. So you eliminate that, you also eliminate a lot of staff interaction with the Fed. So there's also caution you can't exactly quantify but frees up resources in time. So we obviously think it's the right thing to do. And for us, we do not do today nor do -- plan to do non-admitted activities. So it was a logical step for us as an organization.

The next question comes from Ebrahim Poonawala with Bank of America.

So I guess, maybe a question around, from an expense standpoint. So you talked about all the hiring over the coming year. When you look at the adjusted expenses, about $450 million in your outlook for next year. It seems like expenses are kind of flatlining at this run rate. Just talk to us in terms of incrementally like what's the cost save opportunity left within the expense base to invest and like the puts and takes around why they could be higher versus lower than what you have forecasted?

Yes. No problem at all, Ebrahim. First of all, again, I want to take the opportunity to complement the entire Flagstar team because as both Joseph and I noted. If you look at the Q3 '24 run rate and the Q3 '25 run rate, that's an $800 million reduction in noninterest expense. And that's a lot of work. It's blood, sweat and tears. But the team has just done an unbelievable job taking that amount of expenses out. As we look forward, you're exactly right. If you look at our sort of existing or current run rate, it's right around $450 million a quarter, which if you look at our guidance, is the top end of the 2026 expense guidance [indiscernible] $1.8 billion. And as we think about further opportunities moving forward, I think they're in 3 sort of areas. One, we think we can continue to reduce FDIC expenses. There's a lot of components to that. We've done a nice job of optimizing the liquidity component with reducing wholesale borrowings and broker deposits, and we'll continue to do that. But there are other measures that come into play as it relates to profitability, asset quality, regulatory relationship. And so we think that on an ongoing basis, we can continue to drive those FDIC expenses down. We also believe we can continue to drive the vendor costs lower. I think we've done a nice job looking at vendor costs over the last 9 months, but I think there's more we can accomplish. And then I think we've got some pretty significant technology projects that are in the works that will be coming to fruition as we move into 2016 and beyond, and that's going to allow us to drive more efficiencies and cost reductions out as well.

Just to note to Lee's question or comment about technology, we talked about -- we had 6 data centers in the company, 2 for each legacy organization. During last quarter, we reduced that down to 4, and we will ultimately get down to 2 sites. So if you think about running 6 data centers, legacy somewhat outdated old technology and moving towards a new platform that allows us to take out significant costs in that process.

Got it. Got it. That's helpful. And I guess maybe just a separate question around all things sort of noninterest-bearing deposits, the balances, seems like they might be stabilizing, and I get it takes time for loan relationships to transfer into core deposits coming on. Just -- but give us a sense of NIB deposit growth from here and just either from a dollar balance or from a percentage of overall mix, how you see that trending? And what's the time line you think between lending relationships coming over from the bankers you brought on to that translating into core depot growth?

Yes, yes. So it does take a little bit of time, and we're seeing some traction. But obviously, as we move forward, we think we'll see a lot more traction. And so as we think of the noninterest-bearing deposit growth, I think it really comes from 3 areas, and you've touched on one. As we bring on all of these new C&I relationships, we certainly want to leverage those relationships to bring on more deposits, including operating accounts ultimately and those noninterest-bearing deposits. We also see growth on the noninterest-bearing deposit side coming from our private bank. As we mentioned on the last call, we've hired Mark [indiscernible] to run the private bank. He has done a nice job of reorganizing the private bank and making sure that all the right product sets are in place. So we look like a real sort of private wealth bank. And so we think that we'll be able to leverage the private bank and those products to drive noninterest-bearing deposits as we move forward. And then obviously, our 360 bank branches, they play an important role in continuing to grow noninterest-bearing deposits with our existing customer base and bringing in new customers as well. So that's how we see the noninterest bearing deposit growth, where it's coming from.

The next question comes from Jared Shaw with Barclays.

Maybe starting on the credit side. Should we think that as we move forward and as you see the runoff in multi-family and CRE, maybe the loans that don't run off tend to have the weaker characteristics. So should we expect to see maybe a continued growth in CRE NPLs, but not corresponding growth in provision like we saw this quarter that you feel like those marks are adequate and sufficient?

Yes. I think this -- first of all, we had a really strong reduction of nonperforming loans in the second quarter. This was a little bit more of a flat and we were working, as Lee referenced, on a large portfolio sale. But in the fourth quarter, we currently have -- we have line of sight on reductions of about $400 million of nonperforming loans. That could be as high as $500 million in the fourth quarter. We've also really like dedicated a team now that's focused on our nonperforming loans where they are still paying and that represents roughly 42% to 43% of our nonperforming loans. So we have a high percentage of the nonperforming loans that continue to pay and per the terms and conditions of the note, it's just our analysis of their cash flows that come off of those single source or repayment properties are insufficient. So those borrowers are drawing on cash flow or liquidity to continue to maintain those loans current. So we're really focused, and we do see a downward trend in those NPAs. Just our classifieds were down, our NPAs were virtually flat this quarter, but we do see a trend line of those going down.

Yes. And again, Jared, as you know, when we did the credit review in '24, we were deliberately punitive on ourselves. And the other point I would add to what Joseph mentioned, and I mentioned this in my prepared remarks, you've got 1 borrower that is in bankruptcy that is $500 million of those nonaccrual loans. And as I said, that's moving into an auction process. And so once that moves through the process and concludes, we feel that we'd be able to deal with a large chunk of those nonaccruals in the early part of 2026. That's in addition to the $400 million pipeline that Joseph mentioned.

Okay. Okay. Great. So that's -- those are 2 separate components. That's good color. And then as we look at guidance and your comments around assets being the low point in the fourth quarter, what's your -- what should we be thinking about in terms of either total asset growth or total loan growth as we look out for year-end '26 and '27 to tie in to that guidance?

Yes. No problem. So as I mentioned, at the end of '25, we think the balance sheet will be sort of $90 billion to $91 billion. We think that at the end of '26, our balance sheet will be around high $96 billion to sort of high $97 billion, right around that range. And then in '27, we think we get it to about $108 billion, $108 billion, $109 billion.

The next question comes from Mark Fitzgibbon with Piper Sandler.

I wondered if you could share with us of the $1.7 billion of C&I originations you had in the third quarter, what percentage was participations? And also curious if you had any tricolor or first brand exposure because I did see a little uptick in nonaccruals in the C&I bucket?

Yes, that was 1 credit. But yes, we're running -- 50% to 60% of our loans are participations. But the difference, I would say, Mark, is the people that are joining the company that are bringing those opportunities, they have direct relationships with management. We have not purchased participations where we are not directly interacting with the management of the company, which is a little bit different than basically have a trading desk and somebody buying loan participations. These are all active relationships that have been ongoing in any of those in our document, we require the relationship manager to do a relationship model of what we expect to get in both fee income and deposits by coming into that relationship. So we have a pretty high standard of what our expectations are, if we're going to get involved in a credit.

Just to confirm, we had no exposure to first brands or Tricolor or any of the other names that have been mentioned this quarter and obviously, we're pleased about that. We've looked at that. We do have a very, very small MDF book. A big portion of that is our MSR lending. So we feel good about that and no exposure to any of the names that have been disclosed previously.

Okay. And then just 1 separate question. What is -- I guess I'm curious, what does the note sale market look like today on sort of modestly challenged New York multifamily loans? Is there much depth to that? And where can kind of notes be sold today? Can you give us any kind of sense on that?

I mean, I would -- the way I look at it is, if you -- the noise that has been sort of emerging over the last 3 or 4 months regarding New York City rent regulated, we still had $1.3 billion of par payoffs in Q3, 42% of which was substandard. So rather than looking at no payoffs, I think there's still a lot of demand for this asset class from other lenders and the GSEs as I pointed out earlier. And I think that's good. And I think in a declining interest rate environment, I think you're probably going to see -- for us, you're going to see more par payoffs as well as we move forward. So that's just going to help us get to that diversified balance sheet of 1/3, 1/3, 1/3, even more quickly.

The next question comes from Bernard Von Gizycki with Deutsche Bank.

Lee, in your prepared remarks, I believe you mentioned that $195 million of the par payoffs of the $1.3 million were regulated over 50%. And I think that total portfolio declined almost $1 billion. Just wondering, were there any asset sales in that particular portfolio? And any updates you can provide on how we should think about the size of this book going forward in the next 6, 12 months?

Yes. Well, I think number one, I think you'll continue to see decline, mainly as a result of the par payoffs that we're seeing each quarter. Joseph mentioned, from a nonaccrual point of view, we do have an active pipeline that is $400 million that we have a line of sight into and hope to close in the fourth quarter. And so that's how I sort of look at the sort of movement in that rent regulated book going forward. And again, the reason we disclose these numbers, Bernie, is we're not seeing any adverse selection. We're seeing par payoffs across the board in every CRE asset class, whether they be market, rent-regulated less than 50% or rent regulated more than 50%. So -- and that is our expectation going forward. We'll continue to see the par payoffs and reductions across all of those multifamily asset classes.

Okay. And then maybe tying the payoffs with loan yields. I know they increased 3 basis points second quarter. We've seen that tick up. But just given the paydowns of the nonaccruals that mix shift from multifamily to C&I and now the growth in C&I that should be coming through nicely over the next several quarters, why not -- are you expecting a higher change in the yields? Or are these par payoffs that are coming at higher yields, holding that back a bit? Just want to get a little bit of sense of the expansion on loan yields from here.

Yes. The par payoffs, it's not every -- the par payoffs are not everything below 3.7%. Some are loans that have already reset. So if you look at the blended weighted average coupon of the $1.3 billion that paid off in Q3, it was 5.7%. So it's a blend of low coupon, but also loans that have already reset. And so that's the phenomenon that you're talking about or you see.

And some of the some of the payoffs also were coming out of some of the legacy C&I businesses, where we're reducing the exposures down in those credits where they're in the LIBOR plus, on average, [ 240 ] range. So some of those payoffs that does have some impact on that.

The next question comes from David Chiaverini with Jefferies.

So your paydown activity has been very strong past couple of quarters. Any line of sight -- you mentioned about the $400 million in NPLs for the fourth quarter. Any line of sight on total paydown activity anticipated for the fourth quarter? And how much of that could be substandard?

I think we have expectations for a similar range of $1 billion to $1.3 billion in the fourth quarter. So I would say that's been somewhat unabated, so to speak, of especially in the market of the regulated New York multi-family. Surprisingly, as Lee commented, that continues to be a robust refinance out by the agencies and a couple of the large banks who continue to add to their portfolios. So we don't see any material change. We had originally modeled at the start of the year, somewhere between $700 million and $800 million a quarter, and that just continued to accelerate in the second quarter. Obviously, the third quarter was the strongest at $1.5 billion. But I think those numbers paying somewhere in that range of $1 billion to $1.5 billion in the fourth quarter.

Great. And then could you refresh us with thoughts on Mamdani and the impact his potential election win could have on provisioning looking out to next year?

Yes. So his -- one of his stated items was that he would freeze the rent regulated rate increases for 4 years. The first impact of that is the decision would be made mid-next year by the commission on those freezes. So it's probably a little bit delayed. But the way we look at it is we go through that entire portfolio, we received 97% of the financials on that portfolio. And we go through property by property analysis, both of the cash flows and then if the cash flows are insufficient, we do an appraisal on the properties. So we feel like we have a pretty good handle on. It would take -- this year, as Lee commented, we're pretty much through that portfolio. We did not see material changes to it. And that's because I think the really big items that impacted those properties, which was -- a lot of insurance was up 30%, 40%, 50% they had increased labor rates, increased HVAC, we did not see that carry through for continued increases into this year. So I think the way you model that out as you just make the assumption they're going to be flat revenues, and you really need just to understand the expense side because that will make the difference whether these properties are positive on a cash flow basis.

I think a couple of other things I would just add to what Joseph said, I mean rent increases for the next 12 months have just gone into effect. So the 3% for 1 year, 4.50% for 2 years. that runs through September of 2026. But I think what will have a bigger impact on these owners are reductions in interest rates. I think that's going to be a big advantage for them. And again, we said this previously, a lot of these owners have benefited from the 1031 tax rules. So they have low tax basis in these properties as well.

The next question comes from Chris McGratty with KBW.

The margin improvement on Slide 11 over the next 2 years roughly 90 to 100 basis points. How much of it is the resolution of credit? Like how much is the margin being suppressed from nonaccruals right now, give a ballpark?

Well, not an example -- but what I would say just to sort of level set is if you sort of -- those nonaccrual loans are obviously doing nothing from an earnings or a capital point of view because they're 150% risk weighted. So you get a release of capital as we reduce them. Even if we put them into a 100% risk-weighted assets, you're going to free up those 50 basis points. But they're not doing anything from an earnings point of view. So if we were to reduce $1 of nonaccruals, even if we were just to put it in cash, you're going to earn, let's just say, 4% on that. And so if we can then use that to invest in C&I and the spreads, as I mentioned earlier, we've got SOFR plus 242 basis points, that will lead to an even bigger improvement. So reducing those nonaccruals is a key part of the strategy. What I would say to you is as we look at 2026, we think we can reduce those nonaccruals by up to $1 billion and $500 million of that, as I say, is tied up in the 1 borrower that's in bankruptcy, and we hope to resolve that in the first part of '26. And then we think we can do another $500 million on top of that throughout the remainder of the year. So that's obviously going to have a big impact on the NIM improvement. But along with all the other points that I pointed out at the beginning of the Q&A, I mean, it's not just nonaccruals. It's the continued resetting of those low coupon multifamily loans. It's growing the C&I book. It's growing other portfolios on the balance sheet. We're starting to originate new CRE loans the mortgage and residential book securities portfolio is an opportunity and then also managing our core deposits and paying off wholesale borrowings. So it all plays a part in that NIM expansion.

That's helpful. And then, Joseph, for you, the last 1.5 years have been really about optimizing the balance sheet, capital, liquidity and you're on a great track with expenses, too. What's the conversation going to be like a year from now? Like is it going to shift -- I assume it's going to shift in terms of strategic uses of capital. But any thoughts on capital between growth, buybacks, other strategic options?

Chris, we really haven't spent time at the Board in discussing that. I think as we get into 2026 and we show significant progress against the nonperforming loans in the overall portfolio, and we get assessment -- a better assessment of how much growth we can create through our business activities, I think that will give the Board the opportunity to sit down midyear and make that assessment of what to do if there is excess capital. But this is a very friendly -- shareholder-friendly board, very focused on earnings and growing the bank and using capital in the most efficient manner.

Perfect. And then, Lee, if I could, on the earning asset, the asset discussion. What's the embedded thoughts on the cash levels and the security balances in the next 1 to 2 years?

Yes. So what I would say, Chris, is you're probably going to see an increase in securities in the fourth quarter. We have some excess cash. And I think you'll see our securities balances increase about $1 billion in the fourth quarter of this year. Then I think we probably hold that level of securities as we move through 2026. So -- and then I would imagine that cash is probably in the sort of $7 billion to $8 billion range as we move through 2026.

Okay. So to get to those asset totals, its contingent really on the loan growth, continuing the momentum Got it.

That's exactly what's driving the growth on the balance sheet, correct?

The next question comes from Christopher Marinac with Janney.

Lee and Joseph, I just want to circle back on deposits from the commercial C&I growth that you obviously had a great quarter. Are there any goals on deposits these next several quarters? I'm thinking more next year than next quarter, but just curious to flesh that out further.

Yes. So we kind of have -- coming out of the C&I group is roughly about $6 billion of new deposits that will be originated both from the lending relationships, and we also have established a deposit-only group to focus on certain sectors, title, HOA, escrow, some of the conventional insurance industry. We have a group that really focuses on those high deposit categories. So we feel pretty good that we're going to start to see some real strong momentum in the deposit side.

Yes. And I would just add, as well as the $6 billion that Joseph mentioned, we do have sort of $2.5 billion that's tied to the CRE book. And so as we start originating new CRE loans, again, our strategy is about relationship banking. It's not us just giving the balance sheet away. We want to establish much deeper relationships, whether that be through deposits or being able to create fee income opportunities. And so that's the model that we're deploying across all businesses within the bank, not just the C&I piece, but with the private bank and the loans that they're originating, particularly the mortgages.

Great. And this is a component again of how an interest margin steps up in the next several quarters, and this is, I guess, a key piece.

Correct because we would expect a lot of these deposits to be noninterest-bearing or low interest deposits because they are tied to the loan.

The next question comes from Anthony Elian with JPMorgan.

The reduction in nonaccruals you expect in 4Q and through '26, is all of that occurring organically outside of the 1 in auction? Or does that include any asset sales as well?

Most of it will be organic.

Okay. And that includes... Go ahead. Go ahead, Lee.

Yes. It's organic, but we deploy a number of strategies. Joseph mentioned but there's work out, some could be through sales. So it's organic, but it's us working the various options and strategies that we can deploy against that nonaccrual book.

Yes. Our approach in what I think we found is you can sell those pools, you, in today's market, take a sizable discount to move that. And who we sell those to are going to do the same things that we would do, which is pick up the phone and see if we can work something out with the borrower. I'll remind you, in a lot of instances, low 40% of those borrowers have never missed a payment with us. So in their mind, they're performing at the terms and conditions of the loan. So we also have a pretty good track record that when we've sold assets or negotiated our way out of those loans, we've generally had a slight gain on the resolutions of those credits, which I think reflects that for the most part, we have those loans marked pretty close to where we're exiting the transactions.

And then on credit quality more broadly. I know you mentioned in the prepared remarks you don't have exposure to tricolor or any of the other names that have come up, but I'm curious if you've done any reviews on procedures or policies, particularly on the asset-based lending vertical within specialized industries after the recent credit events that have surfaced over the past several weeks.

Yes. Great question. We have. Obviously, we made sure all -- like I said earlier, all the names that have been in the press recently, we have no exposure. We reviewed our NDFI book, which is about $2.3 billion, $1.1 billion of that is MSR lending, and we lend to the biggest mortgage REITs and originators in the country. We feel good about that. And then on the sort of lender finance side, we're at about $1 billion of commitments, $600 million of which is drawn, and we went through that book, and we feel very good about it as well. So yes, we did a detailed review just given recent events in other parts of the industry.

The next question comes from Matthew Breese with Stephens Inc.

I wanted to go back to the NIM. What percentage of loans today are pure floating rate? And then second, if you have it, what was the spot cost of deposits either today or at quarter end?

Yes. So the vast -- I would say that when you look at our balance sheet today, the C&I loans are floating. You've got -- I mean, the residential loans that we have are typically 5- or 7- or 10-year arms. So they flow, but only after sort of 5, 7 or 10 years. So you've got a little bit of floating there. So those are kind of the -- obviously, you got cash, you got some of the securities as well. So that's what I would sort of say as it relates to the asset side of the balance sheet. As it relates to our spot rate, we were at -- and I'm just looking at our daily report. So we were at [ $2.82 ] a couple of days ago, Matt.

Great. I appreciate that. And then the second one, within the updated guidance, there was a change in the tangible book value outlook. It now includes the warrants. What drove that change? And could you help us out with the average diluted versus common share outstanding expectations for the fourth quarter and early 2026? I also think there was some thinking, and I was curious on this as well that you'll be profitable in the fourth quarter. I was curious if that holds up as well?

So that is what's driving it. It's the warrants. So the warrants kick in, in Q4, the share count goes from about 416 million to 480 million and then that carries through in '26 and '27. We've also adjusted the total book value on the guidance slide for the warrants as well. So that's what you see, Matt, exactly right.

And that will impact average diluted as well as common shares outstanding?

Yes, that's correct.

Okay. And then on profitability, is the expectation still that you'll be profitable in 4Q?

We expect to be, but there's a lot of moving parts. And I think, again, I'll just point to the progress that we've made quarter-over-quarter for the last few quarters.

The next question comes from David Smith with Truth Securities.

Technical 1 on capital. After the holdco got consolidated down to the bank, I think there were some preferreds that got moved down. Is there any difference in how those are going to qualify for Tier 1 treatment now?

No. No change at all in how they will qualify.

The next question comes from Jon Arfstrom with RBC Capital Markets.

On the CRE pricing, you mentioned earlier, Lee, is that market or acceptable pricing on renewals? Just curious if you're losing deals on pricing? Or is that not really the case?

So I would say, and this is why we're seeing a significant amount of par payoffs that borrowers are able to get better deals at other institutions or the agency. So we've been very rigid in not moving off the 5-year flub plus 300 or prime plus 375. The reason being, as you know, we are overly concentrated in CRE, and we are looking to reduce that concentration. And so I think the reason that you've seen the heightened payoffs that we've experienced is we're being very rigid and sticking to that sort of knitting. And I think other lenders are leaning into the space and those borrowers are able to get better deals than what I just mentioned, and that's what's driving the par payoffs. And we're okay with that because, again, we're trying to reduce our exposure to CRE and multifamily and get to that diversified balance sheet structure.

Okay. Good. I appreciate that. And then, Joseph, for you, maybe kind of a simple question. But when I look at the credit stats, they're kind of flat to down. And I know it's not linear, but in your mind, is there anything new in the legacy credit book relative to a quarter ago? Or is it basically you know where the issues are and it's just timing for these numbers to fall?

Yes. There's nothing new. We obviously went through the entire multi-family portfolio again. And we laid out on Slide 18, really where the perceived risk is in the bank, which is in that greater than 50% regulated. So I think this is more -- the train is on the tracks. It's our responsibility to clean up the credit problems, and I think we're on a really structured path to get that done.

This concludes the question-and-answer session. I'll turn the call to Mr. Otting for closing remarks.

Well, thank you, everybody, and I'd like to personally thank our Board and especially our Lead Director, Secretary Steven Mnuchin. The work and commitment has been really important. And the leadership team at the bank has really valued the Board I think maybe over the last 12 to 15 months, we probably set a record for Board and committee meetings and in a bank. And it really shows in the results. I'd also like to thank the executive leadership team of the bank and the women and men of the company. We really are focused on building a great company. And I thank you for all your work, dedication to the bank and very much important to our customers. And then as a final note, I'd like to thank the Federal Reserve and especially Mona Johnson and her team. While we no longer be regulated by the Fed, she was a source of knowledge and assistance as we navigated our challenges. So thank very much appreciate Mona and the Fed team who helped us. So thank you again for taking the time to join us this morning and your interest in Flagstar Bank.