Good morning and thank you for joining Bank of Marin Bancorp’s Earnings Call for the Third Quarter Ended September 30, 2019. I am Andrea Henderson, Director of Marketing for Bank of Marin. [Operator Instructions] As a reminder, this conference is being recorded on October 21, 2019.

Joining us on the call today are Russ Colombo, President and CEO and Tani Girton, Executive Vice President and Chief Financial Officer. Our earnings press release which we issued this morning can be found on our website at bankofmarin.com where this call is also being webcast.

Before we get started, I want to emphasize that the discussion on this call is based on information we know as of today, October 21, 2019 and may contain forward-looking statements that involve risks and uncertainties. Actual results may differ materially from those set forth in such statements.

For a discussion of these risks and uncertainties, please review the forward-looking statements disclosure in our earnings press release as well as our SEC filings. Following our prepared remarks, Russ and Tani will be available to answer your questions. And now, I would like to turn the call over to Russ Colombo..

Thank you, Andrea. Good morning. Welcome to the call. By any measure, our third quarter performance was once again excellent. We produced strong deposit and loan growth while maintaining exceptional credit quality. These results demonstrate the success of our organic growth initiatives and our discipline in the way we operate.

The investments we have made in banking account are driving consistent loan growth and enhancing our reputation across the footprint. Our business development activity is strong across our Bay Area markets, Marin, Sonoma, Napa, the East Bay and San Francisco. And we have a strong pipeline of new opportunities to fuel continued growth.

Now, I will walk you through some of the highlights of the third quarter. Net income was $9.4 million, up from $8.2 million in the second quarter and $8.7 million in the third quarter of 2018.

Diluted earnings per share, was $0.69 in the third quarter of 2019 compared to $0.60 last quarter and $0.62 in the year ago quarter after adjusting for the 2-for-1 stock split last November. Loan originations increased to $77 million in the quarter from $53 million a year ago.

This drove $33.8 million of loan growth for the quarter resulting in total loans of $1.8 billion at September 30. Deposits increased $122.5 million in the third quarter primarily due to normal cash fluctuations in some of our large business accounts and total deposits were $2.22 billion at quarter end.

At September 30, non-interest bearing deposits accounted for 50% of total deposits and our cost of deposits remained very low at only 21 basis points for the quarter. We have been at or near these levels since the beginning of 2018 making our deposit franchise one of the strongest among our peers. Our credit quality remains excellent.

Non-accrual loans declined to only 0.02% of the total loan portfolio at September 30, which was down 1 basis point from the prior quarter. We recorded a $400,000 provision for loan losses in the quarter, which is in line with our loan growth.

Recognizing the bank’s continued solid performance, our Board of Directors declared a cash dividend of $0.21 per share payable on November 8, 2019. This represents a 30% payout ratio and a 2% dividend yield based on our September 30, 2019 share price. Now, let me turn it over to Tani for additional insight on our financial results..

Thank you, Russ. Good morning. As Russ mentioned, Bank of Marin delivered another quarter of strong performance with earnings of $9.4 million. Earnings increased $1.2 million or 15% over the second quarter of 2019 and $768,000 over the third quarter of last year.

Year-to-date earnings of $25.2 million translate into a return on assets of 1.33% and return on equity of 10.4%.

In addition to solid loan and deposit growth, there were two items that benefited net income in the third quarter, one, a $562,000 bank-owned life insurance or BOLI benefit and two, a $327,000 tax adjustment related to the true-up of our deferred tax liability.

Taken together, these items accounted for $0.06 per share of net income and without them return on assets and return on equity for the quarter would have been 1.35% and 10.28% respectively. Net interest income of $24.2 million was up $362,000 from last quarter and up $612,000 from third quarter 2018.

The increase from last quarter was largely due to interest recovery on a land development loan. This recovery combined with higher average loan balances and higher yields across interest-earning categories accounted for the year-over-year increase in net interest income and was only partially offset by higher rates on deposits.

The tax equivalent net interest margin of 4.04% was unchanged from the second quarter and up 7 basis points from the year ago quarter. The 7 basis point increase over third quarter of last year as well as the 12 basis point year-to-date increase over 2018 were both due to higher interest rates and loan growth.

Non-interest income was $2.7 million, an increase of more than $400,000 from both the second quarter 2019 and the third quarter 2018. The increase was due to the BOLI benefit, I mentioned earlier.

Year-to-date non-interest income was up by a smaller amount due to the underwriting costs on new BOLI policies purchased earlier this year and lower deposit network income in 2019.

Non-interest expense in the third quarter decreased by $716,000 to $14.2 million from the second quarter, primarily due to severance paid in the second quarter and increased deferred costs associated with higher loan originations in the third quarter. Importantly, we completed our transition to an enhanced digital platform in the third quarter.

As a result, we are no longer absorbing the added cost that come from running two digital banking platforms in parallel. In addition, last quarter’s FDIC assessment was reversed in the third quarter since the insurance fund was above its required reserve ratio.

With the first nine months of the year, non-interest expense was up less than $100,000 from last year. The modest increase coupled with revenue growth resulted in an efficiency ratio of 56.8%, which is a testament to our ongoing focus on expense control.

In conclusion, our strong operating fundamentals, excellent credit quality, steady balance sheet growth and prudent expense management should continue to position Bank of Marin for long-term success. Now, Russ would like to share some closing comments..

Thank you. Tani. We are optimistic about the balance of the year based on our strong performance in the third quarter, which is a direct reflection of our consistent business practices. We are gaining traction in all of our key markets and our team is successfully winning new business.

We have an exceptionally strong base of low cost, non-interest bearing deposits that should allow us to deliver consistent performance in any interest rate environment. We are disciplined in our underwriting and our focus will always be on building long-term customer relationships, based on service and market expertise.

Before I open up the call to questions, I want to comment on my plans to retire. As you may have seen, we recently announced that our Board of Directors has engaged Korn-Ferry to conduct a search for my successor. No date has been set for my retirement and I plan to continue to serve as CEO until my successor is appointed and in place.

It has been a privilege to lead Bank of Marin for more than 13 years and I’m committed to making sure that we have a smooth and successful transition. Thank you for your time this morning and now we will open it up to answer questions..

[Operator Instructions] Our first question comes from line of Jeff Rulis with D.A. Davidson. Please proceed..

Thanks. Good morning..

Good morning, Jeff..

Question on just the expense line, it seems like you have got some moving pieces in there.

I guess the first question would be can we anticipate any further synergies or from the systems transition? I would assume also the FDIC reversal normalizes in the next quarter, but any thoughts on expense levels and ability to achieve any further synergies there?.

So I think we pretty much now gotten to steady state in terms of our conversion on the technology front and our core processing and digital platform.

And so the third quarter expenses are indicative of the future on that line, of course there are a lot of other expenses included in that data processing line besides the core processor and digital platform, but in general, those synergies, have all been recognized.

With regards to the FDIC assessment, as long as the fund remains above the threshold, we will not have to pay those assessments, but we have to wait for them to measure each quarter..

Alright.

So a manageable level and modest growth from here is it okay to estimate?.

I think I heard what – I think you said that growth just sort of normal growth from this point is that what you said?.

Right, yes..

Yes, I think that makes sense. I mean we don’t typically have a spike in the fourth quarter in expenses for any particular reason..

There is no projects or otherwise that would indicate any increased expense levels. No new teams that we are hiring right now that will bump that. So in the fourth quarter, we expect it to be relatively normal in that respect..

Okay, thanks.

And then on the margin the interest recovery, I was trying to get maybe to a core number if you had, what 404 reported, but what is the recovery add and then I see the accretion tables have gone, maybe those have just been minimized there, which is a basis point or 2 maybe immaterial, but was there any significant change sequentially on due to accretion?.

No, accretion actually, we took the accretion table out of the release, because both historically and currently, there are not significant contributions from that. So the comparisons are not meaningful. And you saw, I am guessing that the amount of the interest recovery was $388,000 in the press release..

Right.

In basis points, I guess we can calculate that, but I just wanted to get confirm the number?.

Let me get back to you offline on that one. Jeff, I have that but....

Okay. I will step back. Thank you..

Thanks, Jeff..

The next question comes from line of Jackie Bohlen with KBW. Please proceed..

Hi, good morning everyone..

Good morning..

Good morning, Jackie..

Just looking to the deposit fluctuates – debt fluctuations and I know that it can be volatile given the customers that you have at the bank, but were there any temporary balances in there or is it all just normal seasonal fluctuations?.

Is there any what?.

Temporary balances..

I guess operating accounts are always temporary right, because we have a number of large client – a large deposit clients who their normal business that they have inflows of cash and outflows of cash and I will give an example of the type of business.

We have a number of large contractors that do a lot of municipal state kind of work building roads and so they will bid on project. If they win the project, they get funded the money comes in, sit there and as they do the construction, it kind of filters out.

And so you have kind of money coming in and out at the same time from new projects that you really can’t project or predict the reliability of those deposits when they come in. That’s just one example. And we have a lot of them like that.

So sometimes you have these big upswings, sometimes you have downswings, but if you look over history the deposit levels continue to grow pretty consistently over time..

Okay.

So nothing – it’s all very usual course of business, nothing that you would anticipate a specific outflow going forward, just business as it goes?.

Nothing unusual. There will be outflows, but there also will be inflows as we go forward..

Yes, yes. Understood.

And in terms of pricing now that we have some of the rate cuts, I know that your deposit prices have been stable and have obviously performed very, very well as rates have increased, but just wondering if you have seen any sort of a change with the rate cuts than what you would anticipate going forward in terms of pricing on those?.

On the deposit side?.

Yes..

Are you talking about the deposit side or the loans side, the deposit side?.

The deposit side?.

Okay, I assumed the deposit side. Actually, we still see certain banks who maybe don’t have strong of a deposit base as us offering pretty high interest rates kind of counter to the drop in rates, because they are still having to fund their portfolio.

So we haven’t seen that much of kind of backing off, it’s just kind of the usual suspects who were providing the high interest rates. We are pretty flush though. So we don’t have to compete.

We try to – we – like we always say we try to be fair to our good clients and we will pay competitive interest rates to good clients, but we don’t chase deposits with rates.

On the other side of the ledger if you were going to follow through to that, on the loan side, there is incredible pressure from all sides on the interest rates on particularly in longer term financings, you have seen rates under 4% for 10 years pretty consistently across the board from many, many banks.

So it’s hard, you have to pick and choose your battlefield so to speak..

Okay. And that yes, I was asking about the deposits and what’s going to follow-up on both I apologize maybe my headset was having some issues.

So – can you hear me?.

Is anyone speaking? We can’t hear anyone on the call..

We don’t hear anything..

Yes. Are you able to hear? This is the operator. Jackie Bohlen is speaking. Are you….

Can you here me?.

Jackie, I can hear you now..

Okay, sorry. I must be having technical difficulties. I will step back and figure that out. Thank you, Russ..

Thanks, Jackie..

The next question comes from the line of Tim O’Brien with Sandler O’Neill & Partners. Please proceed..

Good morning, Russ and Tani.

Can you hear me?.

We can hear you fine, Tim. Thank you..

Good morning, Tim..

That’s great, glad. Just to follow-up a little bit more on the color you provided on loan pricing. Did you guys make accommodations on the pricing front in order to help support loan growth this quarter? And if so could you give a little bit of color on what you might have done there? And that will be great..

We haven’t – if you are asking if we do very low interest rates to try and drive loan growth, the answer is no. And do we compete with on good customers from time-to-time on more aggressive rate, sure, from time-to-time, but we didn’t do anything new, nothing different than we have done historically, Tim.

So you are not going to see this great swing of the net interest margin downwards because of it. It’s pretty competitive out there, but we pick and choose what we are going to do and when we are going to do it..

Yes. And then in the first – in your opening remarks, Russ, you just mentioned that your pipeline remains strong. So you are – and that kind of bleeds into your optimism for the full year.

So you are feeling pretty good about production opportunities in the fourth quarter, I guess is that another way to translate that?.

Yes, we have a very strong pipeline. I would say that we are significantly higher pipeline today than we were this time last year..

And how about at the end of the – how about at the start of the third quarter, how does the pipeline compares sequentially?.

It’s definitely up. We had – the interesting thing about this quarter was that when I look at where the fundings came. It was across the board and I will throw a couple of names out, San Francisco, Napa, Marin, commercial banking office here in Novato, our office in Oakland, all of them did, had really good quarters.

And they all have very good strong pipeline. One thing I would say, I feel really good about the staffing that we have across our commercial banking offices, we have leadership in all the offices we have.

As any bank does, we have a couple of openings for commercial bankers, but when you have good people in place and you have it staffed properly, you will see loan growth, because these are – we have really good team. So I am very optimistic for the future because of the people we have in place..

And then I would imagine last question, you were coming into the planning season for banks for updated strategic planning and such, can you give some general thoughts about, I guess kind of how you are initially looking at 2020 relative to 2019? Do you – are you more optimistic, do you think you feel like at this time this year relative to a year ago or what are your thoughts there?.

I am still very optimistic. I think that we are pretty disciplined about the way we operate and we don’t, as I have said many times before we don’t stretch to do deals on structure.

We maintain our discipline in how we do transactions and that shows up in our credit quality and that also shows up in our loan volume because of the disciplined approach we have and really building our pipelines and executing on that, we have done really well. From the economy standpoint, I feel okay about it.

It’s always hard to judge what’s going to happen, but in the Bay Area – Bay Area has very strong economy as you know and I haven’t seen big signs that we are going to have a big turndown in the next year. So I am very – I guess I would say I am cautiously optimistic about the year ahead kind of same place I was a year ago..

Okay, great. Well, thanks for answering my questions and congratulations on the quarter..

Thank you, Jim..

The next question comes from the line of Matthew Clark with Piper Jaffray. Please proceed..

Hi, good morning..

Good morning, Matthew..

Can I also have the amount of interest recoveries in 2Q as well? I am just trying to hone in on the core NIM trend X for just accounting accretion and the recoveries?.

The recovery on interest item, I don’t know that we had any interest recoveries in the second quarter, Matthew I think the number is zero..

If at all very small..

Yes..

Yes..

Okay, that’s fine.

And then, can you speak to your plans for the excess cash liquidity, how should we think about the timing and source of redeploying those proceeds?.

So, we take liquidity into account as well as where the market is and since we have had a little bit of a backup in the yield curve, we are at a good point for purchasing right now.

But it’s really, we have to – our primary objective in the investment portfolio is to make sure that we have got appropriate liquidity to account for the fluctuations in the deposit portfolio and to make sure that we have good buying opportunities. So we continue to do purchase investments.

Again, the same types of investments that we have always been purchasing, but we want to make sure that we do it at the right time given liquidity constraints and where the markets are..

Okay.

And then shifting gears to new business on the loan front in terms of given what rates have done, can you give us a sense for where the weighted average rate is on new production, just wondering if it’s still above the portfolio yield or not?.

I don’t think we share that typically. With the new volume – as I mentioned, there is a lot of price pressure coming in on longer term transactions, but a good – we are still getting decent returns on our portfolio.

But as you can imagine, when you have – you have the environment we have, the interest rate environment that we have, longer term financings are being driven – rates have been driven down. And so we are in some of the longer deals, we are seeing rates. As I said, we are seeing rates in the 3 – in the high 3s. There is a little unnerve indicator.

It’s tough to get a 4% NIM if you are lending money at 3.75%. So we are holding the line.

We do this for – we will make exceptions for really good client, but it’s – every transaction is different and we evaluate not only the rate, but what else that customer has, because if a customer comes in and they are asking for rates in 3.75% range I will just say, but they have a lot of deposits and they have other business that we – then we make those adjustments, but if it’s a kind of a one shot deal, it’s pretty hard to do that at that price..

And just to add to what Russ, I think the margin shows that we are holding our own in terms of the new originations and we look at the rates that they came in over the last quarter they were coming in on average pretty much at the portfolio rate..

Okay. And then just last one for me on kind of reserving and provisioning the $400,000 of provisioning for growth on $34 million of net loan growth.

Does that imply that the coverage ratio around – over 115 relative to your reserve of 90 basis points? Should we assume that reserve – your coverage ratios have largely bottomed from here I know it depends on mix in any given quarter, but....

It depends. I guess you are probably right when you say it depends on mix. I can’t say that it’s bottomed. I mean, our credit quality has been so good and 90 basis points is total portfolio and we do have – we have made acquisitions.

So, obviously, if you took the number – we have the number, but against the portfolio that is actually reserving for, that number is higher, right, because we have acquired portfolios. We are closer to 1% if you just apply we deserve our ALLL against the portfolio that it is reserved against and excluded the acquired portfolios from the acquisitions.

So those numbers, I always question the calculation of reserve when it’s actually against a different portion of the portfolio than the entire portfolio. So I can’t make a comment that is bottomed because of the way that the calculation does..

Understood. Thanks..

[Operator Instructions] There appear to be no further questions on the telephone lines..

Okay. Well, I want to thank everyone again for joining us this morning and we look forward to speaking with all of you again next quarter. Thank you for calling in..

Thank you..

Thank you. Bye..