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Edited Transcript of BMRC earnings conference call or presentation 24-Jul-17 3:30pm GMT

Thomson Reuters StreetEvents

Q2 2017 Bank of Marin Bancorp Earnings Call

Novato Aug 12, 2017 (Thomson StreetEvents) -- Edited Transcript of Bank of Marin Bancorp earnings conference call or presentation Monday, July 24, 2017 at 3:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Russell A. Colombo

Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin

* Tani Girton

Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin

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Conference Call Participants

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* Alex Morris

* Donald Allen Worthington

Raymond James & Associates, Inc., Research Division - Research Analyst

* Jeffrey Allen Rulis

D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst

* Schalise Nicole Vancura

Keefe, Bruyette, & Woods, Inc., Research Division - Assistant Analyst

* Timothy Norton Coffey

FIG Partners, LLC, Research Division - VP and Research Analyst

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Presentation

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Operator [1]

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Good morning and thank you for joining us for Bank of Marin Bancorp's Earnings Call for the second quarter ended June 30, 2017. My name is Jarrod Gerhardt, I'm the Senior Vice President and Director of Marketing for Bank of Marin. (Operator Instructions) As a reminder, this conference is being recorded on July 24, 2017. Presenting this morning will be Russ Colombo, President and CEO, and Tani Girton, Chief Financial Officer. You may access the information discussed from the press release, which went over the wire at 5 AM Pacific Time this morning, and on our website at bankofmarin.com, where this call is also being webcast. Before we get started, I want to emphasize that the discussion you hear on this call is based on information we know as of today, July 24, 2017, and may contain forward-looking statements that involve risks and uncertainty. 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 the earnings press release we issued earlier this morning as well as Bank of Marin Bancorp's SEC filings.

Following the prepared remarks, our team will be available for question. And now I would like to turn the call over to Russ Colombo.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [2]

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Thank you, Jarrod. I'll apologize in advance for my hoarse voice, I have a cold. I will do the best I can. We are pleased to review our results with you for the second quarter of 2017. In general, we had a solid quarter of earnings growth and saw significant progress on both our hiring and strategic initiatives.

Let's start with some highlights. Second quarter loan originations totaled $56 million versus $24 million in the first quarter and $45 million in the second quarter of 2016. Our year-to-date originations were $80 million and as the same period last year, which were $74 million. Gross loans increased by $14 million over the prior quarter in total approximately $1.5 billion at the end of the second quarter. We continue to have substantial commercial lending opportunities in the San Francisco Bay Area and our pipeline remains robust. Our credit quality continues to be outstanding. There was no provision for loan losses taken in the first quarter. We monitor the portfolio carefully to identify any potential borrowing issues and address them proactively.

Loan payoffs for the quarter was $48 million, up from $33 million in the first quarter and $40 million in the second quarter last year. The largest portion of payoffs came from the successful completion of construction projects and the sale of assets underlying other loans. Total deposits grew by $61 million to $1.8 billion during the quarter. Noninterest-bearing deposits continued to be a strength of the bank, making up 48.5% of total deposits. The total cost of deposits dropped 1 basis point from the prior quarter to 0.06%, down 2 basis points from quarter ended June 30, 2016.

In the second quarter we made considerable advancements on our strategic initiative. In a matter of weeks we will be opening our 21st branch in Healdsburg, an important strategic market for us as we sharpen our focus on wine industry businesses.

We continue to expand our commercial banking team with 5 hires in the second quarter. We are also on track to open an East Bay commercial loan office by the end of the year. Diluted earnings per share increased to $0.84 in the second quarter of 2017, and our Board of Directors has increased the quarterly cash dividend to $0.29, an increase of $0.02 per share. This is the 49th consecutive dividend paid by the bank.

Now let me turn it over to Tani for additional insights on our financial results.

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [3]

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Thank you, Russ, and good morning to everyone on the call. We had an excellent second quarter with net income of $5.2 million, up from $4.5 million last quarter and $4.8 million a year ago. The tax-equivalent net interest margin was 3.85% in the quarter compared to 3.79% in the prior quarter and 3.77% in the same quarter a year ago.

The increase over the first quarter of 2017 came from higher yields on earning assets and increased acquired-loan income, while the improvement over last year came primarily from asset growth and the early repayment of FHLB borrowings in June of 2016.

The positive impact of federal funds rate increases on investment securities, interest-bearing cash and variable rate loans yield is manifesting in the improving trend in our margin. As a result, net interest income of $18.3 million this quarter was $683,000 higher than last quarter and $1.1 million more than second quarter 2016. Noninterest income of $2.1 million was virtually unchanged from the first quarter. Quarter and year-to-date declines from last year relate to gains on securities sales booked in 2016. Noninterest expense of $12.6 million was down from $13 million in the prior quarter, mostly due to the 208,000 reversal of reserves for off-balance-sheet commitment. While salary and benefits were also down from the first quarter due to seasonal factors, year-to-date salaries and benefits were up $1.3 million over last -- over 2016, as open positions related to our organic growth initiatives have been filled. Nonaccrual loans remain at 0.08% of Bank of Marin's loan portfolio, down from 0.19% a year ago.

Classified loans fell slightly to $29.3 million and accruing past due loans fell to $393,000. The loan loss reserve is over 1% of total loans and almost 13x nonaccrual loans.

The efficiency ratio improved to 61.9% from 65.9% last quarter and our return on average equity was 8.74% for the quarter, up from both the prior quarter and the same quarter a year ago. We have a very strong capital position and a low cost deposit base, which position us well for future growth. Now back to Russ for some closing comments.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [4]

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Thank you, Tani. Before taking your questions, I want to provide an update on the San Francisco Bay area market and the impact of the Fed's recent rate increases. The economy in the San Francisco Bay area remains strong in large part due to continued strong growth in the technology sector. We have almost no direct exposure to the technology industry and focus on industries where we have the expertise. And while the market remains very competitive, we continue to succeed in taking market share and expanding our relationship with existing customers by leveraging our relationship banking model.

Turning to interest rate. We are finally starting to get some relief, thanks to the Fed's recent rate increases, which should help stabilize and likely expand our net interest margin.

This is a welcome change from the razor-thin margins banks have had for years. However, increasing rate environments also brings pressure to rate deposit rates.

At Bank of Marin, we're well-positioned to manage that pressure. We are asset-sensitive and continue to have a solid, low-cost deposit base of only 6 basis points. In fact, this is a great time to be a relationship bank that drives value based on service and community involvement rather than rates. In the second quarter, we made considerable progress on our strategic growth initiatives. In a matter of weeks we will be opening our 21st branch, which will be located in Healdsburg in Sonoma County, an important strategic market for us as we sharpen our focus on companies in the wine industry. We continue to expand our commercial banking team with 5 hires in the second quarter. We are also on track to open an East Bay commercial banking office by the end of the year. We're very pleased with our results this year and the opportunities ahead for Bank of Marin.

We are investing in our people and our client relationships to capture market share, while remaining true to our underwriting discipline. We're also successfully executing on our organic growth initiatives: returning capital to shareholders and looking for M&A opportunities. Above all, as we grow, we'll stay true to the strategy that has made us successful over the last 28 years: our relationship banking model, industry expertise and underlying discipline.

Thank you all for your time this morning, and now we'll open it up to answer your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question over the phone comes from Jeff Rulis with DA Davidson and company.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [2]

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Question on the -- maybe a follow-up, Russ on the -- just the temperature on M&A discussions in your remark that you've mentioned that still on the lookout, and I guess is it any -- with the dividend hikes, any indication that options are somewhat limited out there on for capital use? Or maybe just a touch on the M&A landscape.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [3]

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Well, I think there's a couple of questions here. I think that -- first of all, from our perspective is to look at where we are and the markets we're in and the contiguous markets, it's a fairly limited group of banks that are potential M&A opportunities. So we continue to have conversations with every one of them. I wish it was something imminent I could tell you, but there's nothing at this point. But we continue to have conversations with banks that would enhance our franchise. In the capital side, we have a lot of capital. And despite M&A activity -- and most M&A these days is likely to be done with the stock as opposed to cash, so frankly I wouldn't use capital in that respect anyway. So we think it's important to returning capital to our shareholders and still our payout ratio is in the mid-30s. So we think that's appropriate level.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [4]

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Okay. And then maybe, Tani. What are your thoughts on the expense outlook with these 5 hires in some of the branch openings going on but -- anticipate any tick up on the operating expense line?

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [5]

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Yes, so that -- you can see that the staffing salaries and benefits have bumped up a little bit. That is indicative of where we will be. We still have a couple of more hires that we're looking for. And additionally, with the addition of the new branch, you'll see some occupancy and expense increases as well as we did have lease renewal in San Francisco and the price of that lease has gone up. So that's in this quarter's numbers and that will continue going forward at least for a year.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [6]

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So I guess a question on -- oh, go ahead.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [7]

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I’m going to add just to that. Lease hires and the opening of branches and things like that, our investment's in the future. And while they may be an impact on short-term, and our short-term result, from a negative standpoint, because they are adding expense of course, we firmly believe it's important to make these investments to grow the organization long-term and to continue to grow the value of this franchise.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [8]

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Okay. I guess I was just trying to get a sense for what maybe is already incurred in Q2 run rate. Or would you effectively see a little bump as we get to the back half of the year? Is that kind of what you're implying?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [9]

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Yes.

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [10]

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So I think it's going to appear as a gradual increase. I'd say, we got some new hires in over the course of the quarter, several of them were early in the quarter. And then again the increase in the San Francisco was probably mid to late quarter. So I would say expect a gradual trend, but again we're -- most of what we need to do is in there, we've got a few more new hires to go.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [11]

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And I will say that the competition for quality loan officers is very intense. And so you will -- the cost of good people is high. But I would say that good people, regardless of salary, are cheap, because they return their -- they return their earnings or their costs pretty quickly. Not as good people are expensive because they don't. And so we're really looking for the best of the best and try to build a team. And you definitely will see some run-up in those numbers over the next couple of quarters.

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Operator [12]

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Our next question comes from Tim O'Brien with Sandler O'Neill + Partners.

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Alex Morris, [13]

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It's actually Alex Morris on. Maybe just a follow-up question, Russ, You give some good color in your prepared remarks about the margin and vast defensive position of Bank of Marin's balance sheet. So kind of given that position and the benefit you guys showed this quarter following the June rate hike, should we expect may be kind of a similar level of benefit here in the third quarter? And I'm sure, may be you can't predict everything exactly, but is that your outlook?

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [14]

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Yes, I think -- so while the variable rate loans were able to benefit from rate increases immediately, we do have a fair amount of adjustable rate loans that adjust over time. So we should see some of that repricing come through the portfolio as those loans reprice.

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Alex Morris, [15]

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Okay. And Tani, just about the adjustable loans. Would some of those be benefiting from the December rate hike as well as that kind of the repricing time frame on those? Or would that all be March and June rate hike benefit?

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [16]

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Yes, it could be all 3 rate hikes, because some of these have repricing periods of anywhere from a year to 5 years so.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [17]

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But you know, obviously, we get the benefit of the rate hikes that we have on the variable rate loans like primary. And so in our construction activity, which is primarily prime-plus type activity, we're going to get benefits right away. But longer-term market, despite the short-term rate increases, haven't seen a lot of movement in the long-term rate. So it's kind of a -- certainly that yield curve is flattening and we're now at -- as we bid for things we're would be -- we're requiring some kind of fixed rate for a period of time, it's still very competitive -- extremely competitive. And so the benefits really come from not that activity, but more from the prime floating type of activity.

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Alex Morris, [18]

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Sure, that's great color. And then just kind of related on the construction portfolio, Russ, you just mentioned. Seen balances kind of trend down over the last couple of quarters, has that been kind of an intentional runoff given what you're seeing in the market, or just draws on commitments? Or any color you can provide there?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [19]

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Sure. It's actually not an intentional decline, we have a lot of good activity. We've booked a number of big loans recently, but we had one in particular large construction project that was completed and sold and we got repaid. It was a -- in the mid-teens payoff. So that had a big impact. But that being said, we have a number of new projects that take time to run up. So you're going to see those numbers start to go the other -- back up again. So we're very happy with the portfolio. They're doing very well and we're excited about 2 or 3 new projects that we've got in that portfolio.

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Operator [20]

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Our next question comes from Tim Coffey with FIG Partners.

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Timothy Norton Coffey, FIG Partners, LLC, Research Division - VP and Research Analyst [21]

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Russ, if you look at kind of the higher interest environment and the potential pace for payoffs, would you expect that, that payoff level become a lot more predictable versus when rates were lower and the payoffs would come on big refinancing?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [22]

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Yes, I've been hoping that, that would be the case for last 5 years. But you would think as rates rise, it would be more predictable, because although -- you know we still have very high valuations on real estate. And so we have a lot of activity where owners and projects -- owners of properties decide to sell at a very high valuation, and we get paid off. That's not predictable. It's just really there's -- it's hard. You have to generate a significant volume of loans to show growth. And you saw the numbers and you've seen the numbers and it's a little better than it was, but it's not -- I wouldn't put in substantially better. We still would -- but the good news is, we got a lot of volume and our lenders all around the bay are doing a good job of generating new opportunities.

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Timothy Norton Coffey, FIG Partners, LLC, Research Division - VP and Research Analyst [23]

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I agree. I think one of the pleasant surprises this quarter was the origination activity. And then in the press release you talked -- discussed fluctuations in deposits. Are you anticipating a big increase in deposits the next couple of quarters that you normally wouldn't see?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [24]

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No. No, nothing. We just have -- we have a number of depositors -- large deposit relationships that their business is -- deposit activity is quite volatile. And the reason for that is, as an example, we have a number of contractors that do a lot of municipal work. So they'll bid on projects and the project will get funded and it will sit with the contractor and then it'll decline over time as they do the work. That's hard to predict those deposits. So -- and we have ad agencies and things like that, which have large inflows of cash and then the cash disappears. It's all great business. We haven't lost customers in any case. It's all about just these deposits kind of come and go, and it's hard to predict where they end up each year, but the good news is our depositor base continues to grow. And if you looked at it over the period of years, you'd see a very nice progression of growth in our deposit base.

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Timothy Norton Coffey, FIG Partners, LLC, Research Division - VP and Research Analyst [25]

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Okay. So that was more of a comment of kind of just the general flow of the deposits in the -- at this company and not a, "Hey we've got a client whose given a size of legal benefit coming to them."

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [26]

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Right, no. There's -- I mean there's just -- so another thing that happens is if customers' experience -- estates that need to be settled, sometimes those accounts will get bumped up while the estate is being taking care of, and that takes some time. So I think that might be what you're referring to, Tim.

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Operator [27]

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(Operator Instructions) Our next question comes from Schalise Vancura with KBW.

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Schalise Nicole Vancura, Keefe, Bruyette, & Woods, Inc., Research Division - Assistant Analyst [28]

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It's Schalise on for Jackie. Most of my questions have already been asked. I just have a couple of clean-up questions. You guys were able to lower your deposit cost again, are you seeing any pressure from customers or from competitors in your marketplace in order to rise -- or raise your deposit pricing or are your relationships just quality enough that you're not seeing any pressure at this point?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [29]

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We haven't really seen too much. There's been a couple of random situations where depositors have been offered at higher rates, but we've had really no real pressure from our customer base to raise rates. And you know the thing about our deposit portfolio is it's relationship based and so it's not customers seeking deposit -- higher deposit rates for the most part, it's more because they're operating accounts and they bank with us because of the relationship not because we pay high rates. That being said, of course, everybody can look for a little bit higher rate as rates were high, but so far, knock on wood, we haven't had a lot of pressure from any of our customers dealing rate substantially.

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [30]

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And I might add that, that decline is not so much from raising rates as it is a change in composition of the portfolio. So when you have such a high percentage of noncosting deposits, the larger that gets the more it pulls the rate -- the average rate down.

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Schalise Nicole Vancura, Keefe, Bruyette, & Woods, Inc., Research Division - Assistant Analyst [31]

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And just what was the driver of the growth in the other residential bucket? Was it tenants in common loans or was it something else?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [32]

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It was TIC. TICs in San Francisco that -- there's very few competitors in that market, and we've done really well with our TIC portfolio. And I think we've been in the business now 12 or 13 years and we've had 0 defaults. And so we continue to actively pursue TIC loans in San Francisco.

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Operator [33]

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And our next question comes from Don Worthington with Raymond James.

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Donald Allen Worthington, Raymond James & Associates, Inc., Research Division - Research Analyst [34]

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In terms of the tax rate, where do you see that going in the back half of the year?

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Tani Girton, Bank of Marin Bancorp - CFO, Executive VP, CFO- Bank of Marin and Executive VP -Bank of Marin [35]

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So it did come down a little bit because we have more tax-exempt assets that we put on the books, the composition. It's really hard to tell where it's going to go, but those -- that decline is related to a pretty substantial increase in tax-exempt loans and securities.

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Donald Allen Worthington, Raymond James & Associates, Inc., Research Division - Research Analyst [36]

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Okay. All right. And I think previously you’ve mentioned that you would like to get the loan to deposit ratio more up towards 90%. Is that kind of still in the plans as you go forward?

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [37]

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Well the loan to deposit ratio of 90% I think is the perfect position to be in because you still have plenty of liquidity, but you're not pushing that too far and you're getting the best out of your assets -- your earning assets. So it's where you want to be. We're not there. Loan growth is always a challenge because of the payoffs, which are primarily from a good reason. And deposit growth has been real strong. We obviously want to continue the deposit growth, but the loan growth is always a challenge, and I think historically you can look at the nation-wide, loan growth is just not -- it's pretty anemic from banks across the country.

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Operator [38]

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We have no further phone questions at this time.

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Russell A. Colombo, Bank of Marin Bancorp - CEO, President, Director, CEO - Bank of Marin, President - Bank of Marin & Director - Bank of Marin [39]

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Again, thank you all for joining us this morning and we look forward to talking to you again next quarter. Thank you very much.