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Edited Transcript of RBB.OQ earnings conference call or presentation 22-Oct-19 6:00pm GMT

Q3 2019 RBB Bancorp Earnings Call

LOS ANGELES Oct 28, 2019 (Thomson StreetEvents) -- Edited Transcript of RBB Bancorp earnings conference call or presentation Tuesday, October 22, 2019 at 6:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Yee Phong (Alan) Thian

RBB Bancorp - Chairman, President & CEO

* David Morris

RBB Bancorp - Executive VP & CFO

* Jeffrey Yeh

RBB Bancorp - EVP and Chief Credit Officer

* Larry Clark

Financial Profiles, Inc. - SVP

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Conference Call Participants

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* Aaron James Deer

Sandler O'Neill + Partners, L.P., Research Division - MD, Equity Research and Equity Research Analyst

* Andrew Terrell

Stephens Inc., Research Division - Research Associate

* Kelly Ann Motta

Keefe, Bruyette, & Woods, Inc., Research Division - Associate

* William J. Dezellem

Tieton Capital Management, LLC - President, CIO and Chief Compliance Officer

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Presentation

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Operator [1]

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Good morning, and welcome to the RBB Bancorp Third Quarter 2019 Earnings Conference Call. My name is Sheree, and I will be your operator today. (Operator Instructions) This call is being recorded and will be available for replay through October 29, 2019, starting this afternoon approximately 1 hour after the completion of this call. (Operator Instructions)

I would now like to turn the call over to Mr. Larry Clark, Investor Relations for the company. Please go ahead, Mr. Clark.

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Larry Clark, Financial Profiles, Inc. - SVP [2]

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Thank you, Sheree. Good morning, everybody, and thank you for joining us to discuss RBB Bancorp's financial results for the third quarter ended September 30, 2019. With me today from management are Chairman and President and CEO, Alan Thian; EVP and Chief Financial Officer, David Morris; EVP and Chief Credit Officer, Jeffrey Yeh; EVP and Chief Branch Administrator, Wilson Mach; EVP and Chief Risk Officer, Vincent Liu; and EVP and Director of Mortgage Lending, Larsen Lee. Management will provide a brief summary of the results, and then we'll open the call up to your questions.

During the course of this conference call, statements made by management may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such forward-looking statements are based upon specific assumptions that may or may not prove correct. Forward-looking statements are also subject to known and unknown risks and uncertainties and other factors relating to RBB Bancorp's operations and business environment, all of which are difficult to predict, and many of which are beyond the control of the company. For a detailed discussion of these risks and uncertainties, please refer to the required documents the company has filed with the SEC. If any of these uncertainties materialize or any of these assumptions prove incorrect, RBB Bancorp's results could differ materially from its expectations as set forth in these statements. The company assumes no obligation to update such forward-looking statements unless required by law.

At this time, I'd like to turn the call over to Alan Thian. Alan?

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Yee Phong (Alan) Thian, RBB Bancorp - Chairman, President & CEO [3]

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Thank you, Larry. Good morning, everyone, and thank you for joining us today. I'm going to begin with an overview of our third quarter performance, and then David will provide more details on our financial results. We are pleased with our performance for the third quarter, which was in line with our expectations. We have completed our balance sheet repositioning and have now began to resume our loan growth.

During the quarter, we generated strong productions in both residential and commercial real estate lending, which translated into a 7.4% annualized growth rate. The growth would have been even stronger except that we had a higher level of loan payoffs than we normally experience.

Our focus on increasing core deposits helped drive deposit growth and reduce our reliance on wholesale funding. While our net interest margin was negatively impacted by temporary excess liquidity, our ongoing low credit costs and well-managed expenses enabled us to meet our profitability goal for the quarter.

As we discussed on our last call, mortgage loan sales were significantly cut back in the third quarter. We expect to resume selling mortgage loans in the current quarter and depending on our production levels, we are targeting between [$175 million] (corrected by company after the call) and $225 million for the quarter.

Our integration of First American International bank is complete, and we are now reaping the benefits on both sides of the balance sheet. The acquisition also presented new efficiencies that are resulting in reduced expenses. We are continuing to optimize First American's operational footprints, likely closing another branch or two. We also plan on opening a new branch in Edison, New Jersey, in order to better serve the sizable Asian-American population in that community.

We are also very pleased to be acquiring Pacific Global Bank, which enables us to expand the RBB franchise to the attractive Chicago market and serve its large community of Asian-Americans. We intend to open two new branches in the metro Chicago next year, adding to Pacific Global's existing three branches. We believe that this transaction will position us well for continued growth and is consistent with our goal to grow both organically and through branch openings and strategic acquisitions.

Finally, we will continue to invest in our business in order to diversify our revenue mix and create more opportunities to increase earnings, all with a view of creating additional long-term value for our shareholders.

I will now turn it over to David for more details on our third quarter's results. David?

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David Morris, RBB Bancorp - Executive VP & CFO [4]

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Thank you, Alan. I'll start with our loan activity. Our total loans were up $44 million at quarter-end, due to healthy new production in both residential and commercial real estate. But as Alan mentioned, our growth was impacted by higher payoffs and paydowns. For the quarter, total loan production was $174.8 million, loan payoffs and paydowns were $98.4 million and loan sales were $17 million, the latter consisting of SBA loans and Fannie Mae direct mortgages. This compares to total loan production of $105.9 million, loan payoffs and paydowns of $92.1 million and loan sales of $187 million in the second quarter. Total commercial loan production for the third quarter was $82.8 million, up $27.7 million from the second quarter. During the third quarter, we were still ramping up commercial lending across our branch network, so we expect that production will be at a higher pace in Q4.

Residential mortgage loan production was $92 million in the third quarter, up from $50.4 million in the second quarter. We continue to expect origination volumes to increase in the fourth quarter.

Now turning to deposits. While total deposits increased by $16 million in the quarter, our non-maturity deposits increased by $42 million as our deposit gathering efforts have continued to gain traction. Offsetting this increase was a $26 million decrease in CDs, with brokered CDs declining by $32 million and retail and jumbo CDs growing by $6 million.

Our average cost of interest-bearing deposits was up 3 basis points in the quarter. While we experienced lower cost on our non-maturity deposits given the lower interest rate environment, the cost of our time deposits was up 4 basis points, as the rates that we paid on new CDs, while down from prior quarters, in many instances was higher than rates that were paid on maturing CDs that were longer term in nature, particularly at First American. Going forward, we expect the cost of our deposits to be flat to modestly down, as the gap between the rates that we pay on new CDs and rates we pay on maturing CDs continues to narrow.

Moving on to net interest margin, on a reported basis, NIM decreased by 5 basis points from the previous quarter to 3.59%. Excluding purchase discount accretion, our core NIM declined 4 basis points during the quarter. As Alan mentioned, our NIM was negatively impacted by the temporary excess liquidity we had due to loan sales prior to quarter-end, as well as a modest decrease in our loan yields and the slight increase in deposit costs that I mentioned.

Going forward, we expect that our loan yields will be relatively stable as commercial originations continue to pick up -- and they generate higher starting yields in our residential loans.

Given that we are deploying our excess liquidity and we anticipate a further decrease in our cost of funds, we expect that our net interest margin will be relatively stable to increasing slightly in the fourth quarter.

Turning to noninterest income. As expected, we generated lower gain on sale income due to the curtailment of our loan sales during the quarter. For the fourth quarter, we expect noninterest income to increase significantly as we are targeting between $175 million and $225 million to loan sales for the quarter, once again, depending upon our production levels.

Based on our forecast, we anticipate noninterest income to be in the range of $6.5 million to $7.2 million in the fourth quarter and then return to a more typical level in the first quarter of 2020 when we resume a more normalized schedule of loan sales.

Our total noninterest expense was down $1.1 million from the second quarter. The decrease was due to a number of factors. First, incentive compensation was lower in the quarter due to the absence of loan sales; second, we had lower occupancy and equipment costs and lower data processing costs due to the integration and consolidation that we had in New York; and third, our legal and professional costs were lower. We had a few other puts and takes but those were our three main drivers.

We expect that our noninterest expenses will increase due to merger activity, additional commissions from mortgage loan sales and bonus expense of $400,000. All other expenses will remain stable for the fourth quarter as we continue to focus on controlling our costs.

The efficiency ratio for the third quarter was 52.4%, up from the second quarter due to lower revenues. Longer term, we expect to maintain our efficiency ratio at or below 50%, and it will likely be below 50% in the fourth quarter due to the higher expected amount of loan sales.

Shifting to income taxes. Our effective tax rate for the quarter was 31.5%. This includes the impact of a deduction for stock options exercised in the amount of $38,000. We anticipate an effective tax rate of between 29% and 32% for the fourth quarter.

Now turning to asset quality, which remains solid. Our nonperforming loans increased by $3.4 million during the quarter as we placed six loans on nonaccrual status at the end of the quarter, including $2.9 million of related commercial and SBA loans secured by $2.9 million in real estate collateral, of which $1.5 million of the $2.9 million SBA loan is guaranteed. After taking into account the expected expenses to sell the property, we set aside a specific reserve of $430,000. The other loans all have more than sufficient collateral values, so we do not believe that any impairment exists. Our credit losses remain low.

During the quarter, we had no charge-offs and a small recovery. Our provision for loan losses was $824,000 for the third quarter, up $467,000 from the second quarter. The increase was due to the SBA loan. This brought our allowance for loan losses to 91 basis points of total loans held for investment, up 2 basis points from the end of the prior quarter.

We are not seeing any asset deterioration. We continue to maintain a very strong credit quality culture and will remain vigilant on asset quality.

With respect to our capital, our capital levels remain strong. Our tangible common equity to tangible assets increased to 12.12% at the end of September, up from 12.01% at the end of June. We believe that we have sufficient equity capital to support forecasted growth.

With that, we are happy to take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Aaron Deer with Sandler O'Neill.

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Aaron James Deer, Sandler O'Neill + Partners, L.P., Research Division - MD, Equity Research and Equity Research Analyst [2]

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David, you went through the credit quality stuff pretty quickly there. I'm just curious, it sounded like you -- if I heard you correctly, there were 6 credits that drove the uptick in the nonperformers and you gave some details on the one. Is there any overriding similarities between any of these other credits that are having some challenges?

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David Morris, RBB Bancorp - Executive VP & CFO [3]

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No. We don't think so. No. I've stated, I think, individually, to you and to some others -- it's prior that the loans -- the SBA loans, essentially, going to be three SBA loans, four total related loans that are associated with these hotels that will eventually all go on to nonaccrual. There's still one that is not there at all. So that's -- the only thing that's similar is that there's going to be a total of four loans that are related to one group of people.

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Aaron James Deer, Sandler O'Neill + Partners, L.P., Research Division - MD, Equity Research and Equity Research Analyst [4]

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Okay. And then in terms of the growth, it sounds encouraging in terms of the production that you're getting, not withstanding the paydowns that you had here in the third quarter. Given the volume of loan sales that you have planned for this quarter, where would you expect your total loan balances to end the year, including both your held for sale and held for investment?

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David Morris, RBB Bancorp - Executive VP & CFO [5]

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I'll separate that out into two categories: mortgage -- three categories: mortgage, I would expect our loan balances to be flat, okay? No growth at all. So that's our available-for-sale bucket and our held-to-maturity bucket. For SBA loans, we will probably sell $10 million again. I don't know what's in the pipeline right now for payoffs. But payoffs on SBAs have been around $10 million also. And we produced about $10 million. So I would expect that to go down by $10 million. And then on commercial, it all depends on what our payoffs are, but I would expect commercials to increase for...

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Jeffrey Yeh, RBB Bancorp - EVP and Chief Credit Officer [6]

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About $10 million. Over the...

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David Morris, RBB Bancorp - Executive VP & CFO [7]

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$10 million?

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Jeffrey Yeh, RBB Bancorp - EVP and Chief Credit Officer [8]

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Yes.

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David Morris, RBB Bancorp - Executive VP & CFO [9]

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That's it?

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Jeffrey Yeh, RBB Bancorp - EVP and Chief Credit Officer [10]

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Yes. I mean commercial only. Commercial. Net.

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David Morris, RBB Bancorp - Executive VP & CFO [11]

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It should be more. I was expecting about $40 million, okay?

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Jeffrey Yeh, RBB Bancorp - EVP and Chief Credit Officer [12]

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Well, our agreement within this month. I'm sorry. I'm sorry. I was talking about this month. Okay, sorry.

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David Morris, RBB Bancorp - Executive VP & CFO [13]

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Okay. We're expecting about $40 million. And that's -- we are seeing higher levels of payoffs in all areas, SBA continuing to have high level of payoffs, mortgage popped up really heavily this last quarter and was -- and also, we still expect that to happen.

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Aaron James Deer, Sandler O'Neill + Partners, L.P., Research Division - MD, Equity Research and Equity Research Analyst [14]

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Okay. And then how much would you calculate the access liquidity weighed on the margin in the third quarter? And do you expect that to be kind of fully deployed then as we go into the fourth quarter?

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David Morris, RBB Bancorp - Executive VP & CFO [15]

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Yes. We would have that invested in at least other investments. But I would think it would be -- the NIM would be a couple -- only a couple of basis points, not huge.

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Aaron James Deer, Sandler O'Neill + Partners, L.P., Research Division - MD, Equity Research and Equity Research Analyst [16]

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Okay. And then are there any additional cost saves to be recognized here from the First American deal or is that pretty much entirely in the run rate at this point?

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David Morris, RBB Bancorp - Executive VP & CFO [17]

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Well, we are going to close one more branch sometime in the next six months. It will be in the six months, it'll be next year. So that won't -- that will be added to the cost saves. But as I stated in my talk, because of the lower mortgage and lower income, the commissions and so forth, expenses were not -- were also lower. And I don't think we talked about that the last conference call. So that will be -- we added back. So I would not add $1.1 million deduction ongoing in the month.

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Operator [18]

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Our next question comes from Tyler Stafford with Stephens.

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Andrew Terrell, Stephens Inc., Research Division - Research Associate [19]

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This is actually Andrew Terrell on for Tyler. Just wanted to start on the margin. Going back to the commentary you guys gave around the flat to increasing margin headed into the fourth quarter. Does that include an October rate cut?

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David Morris, RBB Bancorp - Executive VP & CFO [20]

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No. It does not.

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Andrew Terrell, Stephens Inc., Research Division - Research Associate [21]

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Okay. If we dig in October rate cut, could you quantify just what the basis point impact that would be on the margin?

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David Morris, RBB Bancorp - Executive VP & CFO [22]

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I ran a model, a 25 basis point cut and it increases -- I like to just say it's flat because it increases our margin by $45,000 on a quarter. So I will prefer to just say it's flat.

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Andrew Terrell, Stephens Inc., Research Division - Research Associate [23]

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Understood. On the CD discussion, can you give us the rates that these are currently, I guess, rolling off of versus what the new CD price is currently?

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David Morris, RBB Bancorp - Executive VP & CFO [24]

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Yes. Hold on, now let me get a hold of that. I have that information here. Okay, based upon -- I have to do it in 2 different sides, okay? For the Western region, have about $164 million of CDs in the next quarter maturing in the fourth quarter, that's excluding brokered CDs with a weighted average rate of 2.25, weighted average term of 10.5 months. And the projected weighted average rate is 1.79, and the weighted average term is 9.7 months.

Now for the East Coast, we're doing separately. They have $339 million to mature, with a weighted average 2.37, weighted average term of 18 months, projected weighted average rate is 1.87. The weighted average term is expected to be 11 months. And this also assumes no rate decrease.

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Andrew Terrell, Stephens Inc., Research Division - Research Associate [25]

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Got it. That's very helpful. I guess so the new CD rate could potentially go down from the rates you just gave if we do an October cut?

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David Morris, RBB Bancorp - Executive VP & CFO [26]

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They could go further down if we have a rate cut, yes.

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Andrew Terrell, Stephens Inc., Research Division - Research Associate [27]

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Okay. And then just on the commercial loan yields. I saw those moved up about, call it, 15 basis points, up to 6.62% in the quarter. Can you just talk about the dynamics on what you're getting for new pricing in this portfolio?

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David Morris, RBB Bancorp - Executive VP & CFO [28]

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Well, I don't foresee our yields still creeping up on our commercial portfolio because of the pressure on rates and especially if there's another rate decrease because most of our commercial portfolio is prime-based. So it all depends upon our mix. So if we do more construction loans, that's going to be prime plus 1, prime plus 1.5, okay? If we do C&I, that's going to be prime plus -- to prime plus 2 -- 1 -- 0.25. Very small. And even our traditional CREs will be prime -- just basically prime. That's why we are now having -- we're seeing the rates in today's market. So SBA, we could still see a decline plus 1.5 or 1. So that's where we are today with our rates.

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Operator [29]

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Our next question comes from Kelly Motta with KBW.

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Kelly Ann Motta, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [30]

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So I was wondering if we could talk a bit more about your plans in Chicago and your announcement that you're also opening 2 branches there. Just wondering in terms of timing, how we should be thinking about that next year?

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David Morris, RBB Bancorp - Executive VP & CFO [31]

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Okay. The branches -- I mean, we haven't even found the locations yet. So maybe we're a little bit premature in announcing it, but we would like to have -- open up two branches, one in the Westmont area and the other is yet to be decided. So that will be, at least, probably at the earliest, the end of the second quarter or third quarter at the earliest, I would think.

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Kelly Ann Motta, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [32]

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Okay, great. And then going back maybe to one of Aaron's questions. You've mentioned a couple of times that commissions will be higher next quarter, given there weren't any mortgage sales this quarter. Just kind of wondering, how we should be thinking about the incremental step up in expenses and kind of sizing how that -- how big that usually is at quarter to get a better idea?

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David Morris, RBB Bancorp - Executive VP & CFO [33]

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Okay. I think the expenses are well, by approximately $400,000.

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Kelly Ann Motta, Keefe, Bruyette, & Woods, Inc., Research Division - Associate [34]

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All right. Actually, one last one, two. I was wondering where the gain on sale premiums, you anticipate those kind of coming out for your regular mortgage product if those picked up at all?

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David Morris, RBB Bancorp - Executive VP & CFO [35]

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We're seeing -- well, we've seen about 2.5%, [102.5] okay? But they have picked up.

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Operator [36]

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And today's final question will come from Bill Dezellem with Tieton Capital.

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William J. Dezellem, Tieton Capital Management, LLC - President, CIO and Chief Compliance Officer [37]

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I wanted to touch on CECL. Now that we're almost on top of implementation, what are your thoughts relative to the original allowance or initial allowance that you will need to make the adjustment you'll need to make? And secondarily, what are your thoughts on the ongoing provision starting next year?

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David Morris, RBB Bancorp - Executive VP & CFO [38]

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Okay. On CECL, okay, we're an emerging growth company, so we have an extra year. But we are running parallel now and we've tested three different models out. And the biggest issue we have with impact is on the acquired book of business. So the acquired book of business because they -- most of them are not PCIs or in the new world PCDs. We're going to have to put a CECL reserve on them. And so we're projecting anywhere from $6 million to $8 million will be that -- at this time, $6 million to $8 million will be that initial hit to capital.

Now concerning ALLL, even though we run lower than this on average, my -- our view is that ALLL needs to be between 1 and 1.25. And that's what we -- in fact, we budget at 1.20 - 1.25, that's what we budget our ALLL at. And that all depends on the product mix, of course, because construction is more risky than, let's say, a single-family home. So depending on what our mix is, but we said on average, it will be 1.25.

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Operator [39]

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Ladies and gentlemen, thank you for participating in today's question-and-answer session. I would now like to turn the call back over to management for any closing remarks.

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Yee Phong (Alan) Thian, RBB Bancorp - Chairman, President & CEO [40]

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Once again, thank you all for joining us today. We look forward to speaking with you next quarter. Thank you, again.

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Operator [41]

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Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect.