Popular, Inc. (BPOP) Q1 2016 Earnings Report, Transcript and Summary

Good morning, and welcome to the Popular Inc. First Quarter 2016 Earnings conference call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to the Investor Relations Officer at Popular Inc. Brett Scheiner. Please go ahead.

Good morning and thank you for joining us on today’s call. Today I am joined by our Chairman and CEO, Richard Carrion; our CFO, Carlos Vazquez; and our CRO, Lidio Soriano, who will review our first quarter results and then answer your questions. They will be joined in the Q&A session by other members of our Management Team. Before we start, I would like to remind you that on today’s call, we may make forward-looking statements that are based on Management’s current expectations and are subject to risks and uncertainties. Factors that could cause actual results to differ materially from these forward-looking statements are set forth within today’s earnings press release and are detailed in our SEC filings, our financial quarterly release and supplements. You may find today’s press release and our SEC filings on our webpage at popular.com. I will now turn the call over to Mr. Richard Carrion.

Good morning and thank you for joining the call. I'd like to first address the highlights and key events of the first quarter. Then I'll present an update on our business and our thoughts regarding the fiscal and economic situation in Puerto Rico. Carlos will comment on the quarter's financial results and Lidio will provide an update of credit trends and metrics. So please turn to Slide Number 2. In the first quarter, Popular earned net income of $85 million, down $13 million from last quarter’s adjusted results. We continue to generate strong revenues with capital levels well above peer averages. Tangible book value was $43.55, up from $42.18 last quarter. Our net interest margin of 4.43% increased from last quarter’s 4.39%. Our spreads remain strong relative to peers with our Puerto Rico net interest margin of 4.87%. We’re also encouraged by the trends in our U.S. business, particularly the strong commercial loan production. Total NPAs this quarter of $848 million including covered loans were up $5 million from last quarter’s $843 million mostly due to an increase in OREO balances. Non-covered NPLs were $600 million or 2.7% of non-covered loans down $2 million from last quarter. NPL inflows increased $9 million when compared to the previous quarter, driven by a single commercial borrower in the U.S. Our net charge-offs were $42 million or 76 basis points, down from last quarter’s $83 million or 148 basis points. At quarter end, available holding company liquidity stood at approximately $402 million. This liquidity position provides an excess of two years debt service coverage with no maturities until 2019. In addition the market value of our stake in Evertec is approximately $163 million and significantly exceeds our position's current book value of $35 million. As investors, we will continue to participate in a proportionate share of the Company’s income, while our investment also represents an additional source of capital flexibility and potential holding company liquidity. During last year's third quarter, we reinstituted our common stock dividend and intend to return additional capital to our shareholders over time. Please turn to Slide Number 3. Before I turn it over to Carlos, let me comment on our Puerto Rico Government exposures and the Puerto Rico economy. The majority of our direct Puerto Rico Government exposure is in loans to municipalities and not publicly traded securities of the Central Government or its public corporations. Our underwriting process, the structure, and the size of our Puerto Rico Government exposure relative to our capital base gives us comfort. Our direct outstanding exposure is $565 million down $13 million from the previous quarter and down $248 million from last year. We will continue to monitor developments in this portfolio closely and make future adjustments as needed, while selectively participating in funding the Puerto Rico Government’s capital needs, where we feel the risk reward is appropriate. Regarding the Puerto Rico government's fiscal challenges, we continue to believe that any successful solution will require three things: One, a legal framework for our debt restructuring; two, an effective fiscal control Board; and three, a meaningful economic stimulus plan. This is like a three legged stool. All legs are necessary and no one or two are sufficient. Over the last few weeks the U.S. Congress' House Committee on natural resources has produced draft legislation that would create a fiscal control board on the island and a legal framework and path toward an orderly debt restructuring. This legislation however, has not yet come out of committee. Political processes, however promising are inherently unpredictable. The proposed U.S. Congressional legislation is being pursued in an election year. There are also two related U.S. Supreme Court cases pending, which may have bearing on this issue. While we're encouraged by the possibility of congressional action, we're disappointed at the lack of economic stimulus being discussed within the legislation. Now withstanding these legislative efforts, the Government of Puerto Rico faces multiple fiscal and liquidity challenges in the coming weeks and months, in particular a large GDB payment due next week. We're convinced the Central Government of Puerto Rico will fall short of the liquidity to meet its obligations in the next few months and immediate action is required. While the Puerto Rican economy has been relatively resilient, unfortunately the longer these issues drag, on the more negative an impact they will have. In the interim, the current uncertainty harms both commercial investment and consumer confidence. We will remain attentive to the current situation and the potential impact on our customers. However, our strong market position, significant liquidity, excess capital levels, internal capital generation and risk management practices remain key to our performance. We have operated in a weak economy for the past 10 years. Despite that, the strong revenues generated by our Puerto Rico Bank have produced positive earnings in each of those years. In the last few years, we have shifted the risk profile of our credit portfolio, enhanced our operations in the U.S., increased profitability and grown our capital. With that progress in mind, we're prepared to manage for a variety of potential scenario. The strength of the capital position and the future earnings power of the bank give us the confidence to resume our common stock dividend, which was an important milestone for us. So please turn to Slide Number 4, as our CFO, Carlos Vazquez, discusses our financial results in further details.

Thank you, Richard and good morning. Slide 4 presents our financial summary for the quarter. The prior quarter's results are reconciled to GAAP figures in the appendix to the slide deck. Today's earnings press release details variances from last year's fourth quarter, the largest being lower fee income, which was offset in part by a lower loan loss provision and lower operating expense. Net interest income for the first quarter was $352 million, up $2 million from the fourth quarter. As higher investment and commercial loan income was offset by lower Western Bank income and a slightly higher cost of funds. We continue to deliver organic commercial loan growth in our U.S. operation with quarterly growth of 5%, down slightly from 6% last quarter. Despite this U.S. based growth, our outlook for stable overall loan balances for 2016 remains unchanged. We anticipate that U.S. loan growth will compensate for worst Westernbank run up in Puerto Rico. On the Island, we have offset limited organic growth with selective loan portfolio purchases over the last few years. We will continue to pursue the acquisition strategy if attractive transactions become available. The average yield of our $2.1 billion Western Bank loan portfolio decreased to 8.76% from 8.82% last quarter. We expect similar yields on this portion of our loan book for the next few quarters, slowly declining thereafter as a result of ongoing loan resolutions, repayments and the quarterly recast of the portfolio's expected cash flows. The total cost of our interest bearing deposits were up three basis points to 57 basis points on higher cost of plain deposits and increased money market balances, mostly in our U.S. operations. Non-interest income excluding FDIC lost share activity decreased by $21 million compared to last quarter, but increased $5 million from last year's first quarter. The sequential part of our decline was due in part for the contingent insurance premiums that are recorded every year in the fourth quarter. In addition, a negative impact from our quarterly MSR evaluation and lower mortgage securitization activity also impacted results. Popular's Puerto Rico mortgage business originated $228 million in loans in the first quarter, down from $235 million last quarter and from $340 million in the first quarter of last year. Total operating expenses for the quarter were down $3 million to $302 million. This decrease was mostly driven by seasonally lower business promotion expenses and lower professional fees. We continue to expect quarterly operating expenses to average $305 million to $310 million through the end of 2016. Our effective tax rate for the first quarter was 28% in line with our guidance. For the rest of 2016, we continue to expect our quarterly tax rate to average between 27% and 29%. Our reported $219 million receivable from the FDIC includes $70 million related to the single family mortgage loss share agreement, which expires in 4.5 years. The remaining $149 million represents reimbursable losses that remain in dispute. While we currently expect to collect the disputed balance and the amount remaining in the loss share assets ultimately now collected from the FDIC will be charged off. Please turn to next slide. We continue to enjoy strong capital levels relative to Mainland and Puerto Rico peers as well as with respect to well capitalized regulatory requirements. Our Tier 1 common equity ratio was 15.8%, down from 16.2% in the prior quarter, driven by the facing provision of Basel III, which disallows some portions of our capital that previously accounted as Tier 1. All of Popular's capital ratios remain robust and well above regulatory requirements. As Richard mentioned, in September of 2015, we resume payment of a quarterly common stock dividend of $0.15 per share. We will pursue opportunities to actively manage our capital while being responsive to the challenging environment in our local market. Our future capital actions will take into account development in the Puerto Rico fiscal and economic situation. It continues to be our goal to maintain strong capital levels that are appropriate for Popular's risk profile as we work towards our target of a double-digit return on tangible equity. With that, I'll turn the call over to Lidio.

Thank you, Carlos and good morning. Despite Puerto Rico's challenging macroeconomic environment, we're pleased to report stable credit metrics for the corporation, highlighted by improvements in our Puerto Rico operation and stability in our U.S. operation. In Puerto Rico, our credit metrics reflect lower net charge offs, lower NPLs, lower NPL inflows and stable NPAs. In the U.S., the classification to non-performing of one commercial relationship of $11 million impacted the results for the quarter. Except for this relationship, credit metrics in the U.S. were stable during the quarter. As Richard covered on Slide Number 3, our current outstanding direct exposure to the Puerto Rico Government, municipalities and other instrumentalities is $565 million down $13 million from last quarter. Our total outstanding exposure to the Central Government and public corporations is manageable, representing only 1.5% of total Tier 1 capital. As we have discussed in the past, most of Popular’s direct government exposure is in the form of municipal loans and not securities. Our municipality exposure consists of senior priority loans to a select group of municipalities whose revenues are independent of the Central Government. Our top four exposures are to Carolina where the airport and several major tourist hotels are located. San Juan, the capital of Puerto Rico where now the municipality with the highest per capita income and by amount, the second most Popular’s municipality. These four municipalities comprise approximately 72% of our total municipality exposure and combined have operating surplus of $58 million and debt service capacity in excess of 2.2 times. In addition, these municipalities have meaningful sources of liquidity outside of deposits held at GDV. As discussed in previous earnings calls, we also have indirect lending facilities in which the government acts as a guarantor. The largest social exposure is in the form of receiving its sheer mortgage loans to individual borrowers in which the government providers a guarantee, similar to associate programs in the U.S. Please turn to our next slide to discuss the credit metrics for the quarter. Non-performing assets including corporate loans increased by $5 million to $348 million driven by increase in other real estate own of $10 million offset in part by NPL decrease of $2 million. The OREO increase was mainly driven by the Puerto Rico mortgage portfolio as a result of customized loan closure activity. Non-performing loans held in portfolio decreased $2 million from the first quarter of 2015, mainly driven by improvement of $30 million in Puerto Rico, offset in part by increase of U.S. NPLs of $11 million, driven by the previously mentioned commercial relationship. The NPL improvement in Puerto Rico was mostly driven by lower mortgage NPLs of $15 million, coupled with lower consumer NPLs of $3 million. This was partly offset by increase of $5 million in commercial NPLs. At the end of the first quarter of 2016, NPLs to total loans held in portfolio remained flat at 2.7% compared to the previous quarter. Please turn to Slide Number 7 to discuss NPL inflows. NPL inflows excluding consumer loans increased by $9 million only at linked quarter basis driven by the $11 million previously mentioned single commercial relationship in the U.S. In Puerto Rico, NPL inflows decreased by $2 million due to lower mortgage inflows of $7 million offset by increase of $4 million in the commercial portfolio. NPL inflows in the U.S. increased to $23 million from $12 million last quarter. Please turn to the next slide. Net charge-off excluding write-downs amounted to $42 million or our annualized 76 basis point of average loans held in portfolio compared to $83 million or 148 basis point in the fourth quarter of 2015. Net charge-off in the previous quarter were impacted by $31 million in commercial charge-offs in Puerto Rico related to certain borrowers for which specific research were recorded in prior periods. Excluding this, the net charge offs declined by $9 million quarter-over-quarter mainly due to improvement in the Puerto Rico commercial portfolio. U.S. net charge-offs were $2 million in the first quarter compared to $1 million in the previous quarter. This slight increase was mainly due to lower recoveries. The provision to net charge-off ratio increased to 113% from 70% in the previous quarter, which included the effect of our NPL portfolio sale and the charge off from previously reserved loans. Excluding this effect, the provision to net charge-off ratio increased from 90% to 113%, primarily driven by the Puerto Rico region. In the U.S., the provision to net charge-off ratio was 226% driven by lower losses, coupled with strong portfolio growth in the region. The corporation allowance for loan losses increased by $5 million from the previous quarter driven by the allowance built up in Puerto Rico. The ratio of the allowance for loan losses to loans held in portfolio remained flat at 2.3% this quarter. The ratio of allowance for loan losses to NPL held in portfolio remained stable at 85%. This credit metrics stem from our efforts to adjust Popular's current portfolio mix from that at the end of 2007. The corporation has de-risked its loan portfolio by reducing exposure to asset class with historically high loss content. In the U.S. we no longer have a subprime consumer and mortgage business. Our U.S. bank is now a community and niche lender with a much lower risk profile. Our construction exposure is mainly New York with experienced developers and prudent loan-to-value ratios. In Puerto Rico, our commercial and construction exposure have decreased from 55% of our total loan book to 43%. Construction lending has decreased 91% and now stand at $105 million. In addition to a markedly improved risk profile, our 2015 Dodd Frank stress test results provide us with additional comfort. It incorporated a severely adverse scenario for Puerto Rico in which the unemployment rate picked at 20.4% and economic activity measured by GMP decreased by 6.3% during the first calendar year. Under such a scenario while we forecast over 10 percentage loan losses in a nine quarter period and reflect a 330 basis point impact to our Tier I common equity ratio, we maintain a meaningful cushion in excess of well-capitalized status at all times. In accordance with regulatory requirements, we will file our next DFAST in July of 2016, the results of which will be published in late October. To summarize, despite difficult conditions in our main market, the corporation asset quality remained stable during the first quarter of 2016. While we remain encouraged by such stability, we also remain cautious in our short-term outlook. With that, I would like to turn the call over to Richard for his concluding remarks. Thank you.

Thank you, Lidio. And please turn to Slide Number 9. Before we open the lines to question, let me conclude today's remarks by reviewing the actions we've been taking to drive shareholder value. Our healthy revenue generation and our leading market position in Puerto Rico allow us to earn above average margins. We're encouraged by the progress in our U.S. operation and by the strength of our Puerto Rico franchise. Popular's credit risk profile is meaningfully different from that of a few years ago. In spite of the difficult macro environment, we continue to see stability in our main credit quality indicator, our remaining apprentice to fiscal and economic trends. This improved credit profile together with our strong capital levels are the anchors of our strategy. We also benefit from our Evertec ownership and our stake in Banco BHD León, the second largest bank in the Dominican Republic. Given the fiscal and economic challenges we face on the island we're focused on the current situation, while acting to minimize its risk. We've managed the Bank within this environment for the last 10 years completing several troubled loan sales, refocusing our loan books on lower loss content business line, raising approximately $2 billion of common equity and completing two in market FDIC assisted acquisitions, all while earning positive profits in our Puerto Rico business during the island's prolonged recession. More recently, in the past 24 months we have repaid close to $1 billion in part; have two credits MOU’s lifted, restructured our U.S. balance sheet and back office, purchased $2 billion of assets in the Doral transaction and reinstated our common dividend after six years. We'll continue to seek additional opportunities in the current environment. The next few months will be a defining period for Puerto Rico's future. We remain confident that Puerto Rico will emerge from the current challenges with a more vibrant and diversified economy and we will do everything in our power to ensure this outcome. Throughout its 122-year history, Popular has persevered through a myriad of different challenges on the island. Although our company is intrinsically linked to Puerto Rico, Popular is also a story of a solid organization that has navigated through a complex environment and has emerged as a stronger, better capitalized and a more diversified institution. We look forward to reporting on our progress in the next few months. And with that, I'd like to open the call for questions.

We will begin the question-and-answer session. [Operator Instructions] Our first question comes from Brian Klock of Keefe, Bruyette & Woods. Please go ahead.

So my first question, so Richard, thinking about this environment and how difficult it is and reading the headlines in the papers here, congratulations on a solid quarter and putting up the strong asset quality, the margin expansion and then solid asset quality. So good work on a solid first quarter.

Thank you, Brian.

So my first question really is Carlos, I'm not sure if I missed it on the guidance but there was seasonality in the expense line but it still came in when you take out the ORE charges in line with your guidance. So how do you feel about keeping the expense in line with your overall expense guidance for the rest of the year?

Yes. We confirmed our outlook, Brian, that the expenses, quarterly expenses will average between $305 million and $310 million for the rest of this year.

Okay. So within the personnel expense line that is usually the seasonality in the first quarter so we should see that come down a little bit going forward?

Yes, that is seasonal and if you compare it to what happen in the first quarter last year, it's proportional to what happened last year. It's just $1 a bit different, because the base is a bit different, mostly as a result of the addition of Doral.

Okay. And then just a follow-up on that, it seems you have done a pretty good job like I said keeping that expense base flat even with the moving pieces and seasonality. Is there any ability on the professional fees to bring that down? It has been a little bit steady in around the mid-70s in the last four quarters. Is there any room to move that down?

Yes. Well, the -- keep in mind that some of the professional fees are subject to local taxes in Puerto Rico as well. So the fact that the number is flattish, it actually means that it's slightly down on the core number. We keep hacking at it, Brian. Not all of those are controllable by us as you know.

Plus some legal expenses.

Yes. There are some legal expenses in there as well. So we keep working on it.

Okay. Okay. And just one follow-up again a good solid story in the U.S. franchise. Can you just talk about the loan growth? Seemed like some really good commercial growth and then the non-mortgage consumer maybe you can talk about the growth in the pipeline you've got in the U.S.?

Yes. I think we're very happy with -- on the commercial side. There has been a lot of theory and some multi-family in there as well as specialized lines that we have. So we're very happy with how the operation is growing, particularly after the addition of the Doral folks to our team and I think that's paying off. So we are delighted with the performance so far.

Okay. Good work and thanks for your time.

Thank you.

Thank you, Brian.

The next question comes from Brett Rabatin of Piper Jaffray. Please go ahead.

Hi guys. Good morning.

Hi good morning.

Hi, good morning.

Wanted to I guess first, just again like Brian mentioned, nice quarter with the credit quality trends and some other things. I guess I wanted to just ask first on mortgage banking obviously some industry issues with the first quarter there. But does that rebound over the next quarter or so? Can you give me thoughts on mortgage banking?

Well, we think if you compare it to the last quarter it was fairly flat down only slightly. It's only when you compare it to a year ago, that it's considerably down. Be aware also that the mortgage line over the non-interest line was also affected by the valuation of the year of the MSRs, which are tough to predict on that one. I guess we have been seeing in general, a slower environment for mortgages and I think that's a reflection of the uncertainty that is in the market that I alluded to earlier in my remarks. Both on the commercial side and on the consumer side, people are being a lot more cautious whether it'd be buying a new house or buying an automobile, people are being a lot more cautious and that's just a reflection of that. Aside from that I would tell you that we've probably become a little more disciplined in our pricing in the mortgage area and that's probably costing us some growth, but we're happy to let that go.

Okay. And then maybe you can talk about some of the balance sheet actions during the quarter, the securities portfolio growth which you guys were buying and mortgage backs and then funding costs were a little higher. Can you maybe talk about that and how it affects the margin going forward?

Sure. The securities changes we are running a pretty liquid balance sheet right now and security purchase was more of a movement from cash to better yielding investments. So it was more of a tactical move. With regards to the funding cost, the increase is mostly a reflection of the mix of our funding in our U.S. bank largely. And so the mix change a little bit ended up being a touch more expensive, but we keep working at that and hopefully we can move that down over time. Of course at the end of the day, it may fill up and we will all see those cost going up, but we'll wait for that to happen.

Okay. Is it fair to assume the margin holds at the present level to what you've done in the first quarter?

No, the pressure that affect our margin haven't changed. We have a Westernbank portfolio running up, which is a high-margin portfolio. If you look at the levels and yields in the press release, you'll see that we've been pretty good at holding and maintaining margins or increasing margins in most of our business line. So, so far it looks like it's in the same book, but it will depend on what market rates go obviously. That might be the big delta here.

Okay. Great. Thanks for the color.

Our next question comes from Jesus Bueno of Compass Point. Please go ahead.

Good morning and thanks for taking my questions.

Good morning.

I noted the solid NIM and you noted the benefit of the rate increase in December. My question is I guess related to deposits. I guess how has deposit activity been I guess relative to your expectation ahead of the rate increase?

I think we've seen quite a bit of deposit growth in the last -- in the last quarter and particularly the last few weeks. So we are seeing some growth locally in the market in the more core deposit area. So we're really not out there chasing funds, but by any stretch of the imagination.

Okay. And pricing wise, I guess there hasn't been any factor yet on pricing?

No.

And back to mortgage, you noted -- if you could just do me a favor and break out I know you noted the MSR market, I know there was also kind of a trading account gains and also…

Yes, the MSR mark was I think $6 million compared to zero in the fourth quarter.

A delta of six.

A delta of six, yes.

And I guess the trading account gains that offset the gain on sale incomes, because the gain on sale income look actually fairly strong relative to last quarter. I guess it looks like there's about that $3 million offset. Could you explain I guess what impacts looks like it was hedging, but I guess -- is that the rate movement that impacted that?

This is Juan Pablo, the Treasurer. There is some timing differences between when you close a loan in your -- that's in your pipeline you end up closing and you sell it forward using hedging vehicles. Right now, the loans are accounted for lower cost of market. We did have a decline in rates between December and March. So you did have a hit on the hedge and not necessarily offset, because the loans were closed, but not necessarily securitized yet. There could be some timing differences there.

Okay, great, but not necessarily that these things will repeat next quarter, correct?

It could be up or down, but generally speaking what we -- we do economic hedges on all our closed loans. So we try to maintain our margin over time steady.

Okay. And lastly, if you could just give an update on the -- there has been a lot of attention about medallion books recently. So if you could just provide us with an update on the UPB and also where you have it marked at as well, the book?

We'll let Lidio take that one.

In terms of our taxi medallion, we acquired from the Doral portfolio of approximately $245 million of taxi medallion of which based on our fair value process, we booked them around $0.61 $0.62 on the $1. So in our books at approximately $150 million. When you look at the price on our medallion basis, that deal is about $400,000 per medallion, the book value of our medallion book.

That's great. And do you have the percentage of the book that's still accruing?

This was not our purchase accounting. So the majority of the portfolio will be on an accrual basis because of purchase accounting rules.

Great. That's all the questions I have. Congrats on the quarter. Thanks for taking my questions.

Thank you.

Our next question comes from Gerard Cassidy of RBC Capital. Please go ahead.

Thank you. Good morning, Richard. Good morning, Carlos.

Gerard, how are you?

Richard, maybe you can start. When you guys look at the return of capital and you laid it out very clearly what you've done in the past, a number of items and giving capital back to shareholders or paying off TARP, etcetera. As you go forward, obviously the dividend was declared in the second half of last year, how should we look at you revisiting, increasing the dividend, maybe doing a buyback? Is that going to be done annually or more frequently? I know you are not required by CCAR or anything like that but what is your thinking on that?

Well, I think as Lidio mentioned, we'll get the -- we'll file the results of our stress test in late June sometime, July 1. So we'll file it July and we’ll probably have a better, clear picture certainly of the Puerto Rico situation and how the new stress test impacts our capital and then we will have some capital action there depending on the results of that. So that’s what we’re looking at. We don’t anticipant doing anything before that is out.

Thank you. And then obviously you talked about the situation with the government and what is going on in the economy. I think Moody's came out on Friday expecting the government not to be able to pay off -- make all the payments that are scheduled in May. Can you share with us just from a kind of on the street operational standpoint if the government doesn't make the required payments in May, what happens? Can you give us any color on is it business as usual for everybody or do people stop receiving some transfer payments from the government?

I don't think it's business as usual is what I would characterize it as. But it's probably acknowledge that most of the operational accounts that were at the government development bank have been transferred into the private banking sector. So from that point of view, we don’t anticipant any change in terms of, transfer payments not getting -- not getting received or any of that, but there will be certainly some impact to investors in that whole lease bond and that will be a non-trivial impact on those investors, many of which are local, So we’ll see how that plays out. Our understanding is that they are having some types of negotiations and our understanding is that the plan is to continue to pay interest that the moratorium would be on a principal payment, not on continuing to pay interest payments but we’ll know a week from today.

Sure. In the growth that you guys identified for Popular in North America or NA, you mentioned in the press release that that included consumer loan portfolio purchases of $85.7 million. What were those?

Those were asset incurred personal loans that we have purchased from lending classes.

And do you find the yields in that portfolio are higher than what you can garner yourself?

Well, when you factored in the cost of setting out the operation yeah, at least in the U.S. yeah.

Okay. And you guys give us very good detail on the…

This is normal process, we set up our underwriting criteria, these are things that sit on the running criteria. So, it is not that we originally then ourselves, but we thought it would….

Thank you. One question on credit, you gave us really good detail on the inflows of non-performing loans and I noticed that for the total number when you go back four or five quarters it’s been moving up and down more toward the downside, but within that category your residential mortgage has steadily declined since first quarter of '15. Can you share with us how you're managing that portfolio more aggressively because of the concerns of what’s going on in Puerto Rico to get that downward trend of new inflows on residential mortgage?

I think that is some of the changes in the some of our collection practices. So to be more proactive with our client base, so yeah.

And then finally, Lidio, in terms of and I apologize if you discussed this, can you give us more color on that commercial credit that moved into nonperforming in the quarter from the U.S.? Was that a commercial real estate loan or mortgage?

It was a commercial loan. It finished construction loans but we are in the process of the -- or the client in the process of determining whether he was going to sell or rent the unit.

Thank you.

Our next question comes from Ken Zerbe of Morgan Stanley. Please go ahead.

Thank you. Good morning. First question I had, just in terms of the indirect government exposure, it looks like it went up about $23 million. Can you just kind of walk through the thought process just given all the concern in the market right now about the government, what is the thought process behind increasing this exposure?

Well both were some loans we acquired. Some mortgage loans happen to have a government guarantee and therefore are included in that indirect exposure. I will tell you we paid less than par for the loans and the loans we did not take into consideration the government guaranteed when we did the underwriting for that portfolio purchase.

Perfect. Okay, that helps. And then just the other question in terms of capital obviously the Basel III phase in adjustments hit capital a little bit this quarter, are there any other adjustments or phase in are coming due over the next couple of years there that could potentially reduce your capital further.

Yeah. So the phasing effect for Basel becomes effective on January 1 over the next two more years 2017 and 2018. On the very first of the year we will see some additional phase in amount that impact how much of our DTA is allowed in the capital base. One of the biggest impacts in the quarter related to the achievement of trucks out of the common equity Tier 1, I am sorry, Tier 1 into the total capital ratio that is something that is fully embedded as of January 1, 2016.

So nothing else for the rest of this year there will be less smaller effect the beginning of next year.

Got you. And are you guys able to quantify the potential full impact of all of the phase-ins over the next two years given your existing portfolio?

Yeah, in the past, we disclose fully baked in pro forma Basel III results. Obviously this -- how we utilize our DTAs over time with income and the changes in the composition of the risk weighted assets will have an impact on the overall calculations Basel III results may be.

Yeah, we'll refer the calculation.

Okay. Thank you.

Our next question comes from Alex Twerdahl of Sandler O’Neill. Please go ahead.

Hey good morning, guys.

Hi Alex. How are you?

I’m well thanks. First off, Lidio, I was wondering if you can give us a little bit more color on trends that you have seen in early stage delinquencies perhaps at the end of the quarter versus year-end and sort of how that bucket has trended through 2015 as well.

In terms of since your last quarter you will see when we posed a few, you'll see actually a significant decrease in the credit weighting on bucket in our Puerto Rico business, is going to go down by approximately $150 million. Is going from a $314 million to $660 million, that I will say that number if you look back to 2016 that has been around in the corridor that has been between $640 million to $680 million. So the number that we will show for the first quarter will be right in line with the middle of the quarter really that we have for all of 2015 except for the fourth quarter of this year and in the U.S. I will say it's slightly higher even by certain relationships in the U.S. but not a significant thing.

Okay. Thank you. And then secondly, you mentioned that the $86 million of consumer loans that were purchased were from Lending Clubs. Are those national loans or are those all concentrated in the New York or Florida markets?

They are national loans.

Okay. And can you just give us what the criteria is? I know you have a lot of excess capital in North America and you are looking for uses for it. Can you give us sort of what the criteria is for further loan purchases? Is there a specific criteria or is it purely opportunistic or just a little bit more on what might interest you guys as a use of some of that excess capital?

I will say we're looking at from the standpoint this is obviously a channel that is growing in the U.S. So we are making our best understanding the dynamics of the market. We're being a little bit opportunistic, but we'll continue to test and then evaluate whether this makes sense for you us to purchase or not.

Okay. Thank you very much.

Our next question comes from Joe Gladue of Merion Capital Group. Please go ahead.

Hi good morning.

Hey Joe, how are you?

All right. Wanted to I guess just dig a little bit deeper into some of the NIM yield numbers. Just noticed both on commercial and consumer loan portfolios that the yields are up about 20 basis points or more versus the fourth quarter. Just wondering if you would give a little more detail on what is driving that? Are you issuing loans at higher than average yields, higher than average?

A good chunk of that change was a change in the primary that happened in late December. So you didn't see it in the results in the fourth quarter but we you will see it in the results in the first quarter.

Okay. And just I guess a broader question in regards to the efforts to solve the government debt crisis, it looks like part of that resolution whenever it occurs or in what pieces it occurs, it seems to like it will involve enhancing revenues, you're going to see increases in consumer and electric rates for guess for both consumers and businesses, just wondering how you’re viewing what impact that will have both in terms of credit quality and loan demand in Puerto Rico?

The devil is in the details at the end of the day. We think that deal makes sense and don’t think that the impact will be very big. So we're in favor of that one naturally. The rest is let’s see if we get some legislation out of committee and on to the floor, the Congress and what finally emerges from that before we make a comment. We do think in general some path to resolution will be positive. We obviously have our opinions as to what should be in there. We are not seeing much in the way of economic growth and that has been something that we feel is extremely important. Right now there is a lot of jockeying to see what kind of resolution mechanisms are put in and different classes of bondholders are obviously having some input into that process, but we'll see what emerges before we can get a better, get you a better reaction to that.

On the electricity, keep in mind that a lot of the reports are reporting increases from what we are today, but even with those increases we'll probably have lower electric prices that we had a year and two years ago. So still in that contribution to the -- even during those payloads goes up.

All right. No. Thank you. That's fair enough

Absolutely thanks.

Our next question comes from Brian Horey of Aurelian. Please go ahead.

Thanks for taking my question. I wondered if you could give us any more granular detail on your taxi portfolio, debt service coverage ratios, number of TDRs, foreclosure, that kind of thing.

We aren’t provided that type of disclosures that something that we will look at and may be providing and thank you, but I’ll give you the code that we have given the past. This is mostly -- as I said earlier today was that further we acquired from Doral is mostly a New York based portfolio with 94% of our exposure in New York City. As I mentioned before, given the purchase accounting and fair value exercise we have in our books are close to $0.61, $0.62 of a dollar, which if you look at only New York is about $400,000. As to additional disclosure we'll consider that and may be provide adding future disclose.

Have you had any go to nonaccrual since you acquired the portfolio?

We have had a number of discussion with our borrowers. We have restructured some of our relationships as for that process. Some of them we've fallen behind terms of our payments prior to the restructuring. I think again the most important is that we have reflected in our books are a proper fair value and that they're being accounted on the purchase accounting or SOP accounting.

And most of your New York medallions are they the mini fleet or the independent medallions that are behind the loans?

Most of them are mini fleet actually.

Okay. Okay. Thank you.

Thank you.

The question is a follow up from Brian Klock. Please go ahead.

Hey thanks for taking my follow up guys. I just wanted to, Richard, I wanted to ask you about the return of capital discussion earlier and I think you said that you'd probably wait on any capital actions until after the DFAST. Is that what…

We will wait, we'll probably have a better feel for it after the DFAST and certainly the Puerto Rico situation should be a lot clear. So we'll probably wait until that part of the year before we take any capital actions.

Is it possible, I guess there is so much that has to come to a head here with the July 1 payments after the DDB's payments. I mean if there is something becomes clearer in early July, would that change anything?

No, I think we will still wait to submit our DFAST and get a better feel for how we feel the environment is evolving.

Okay. All right, thanks for taking my questions. Thank you.

Okay.

[Operator Instructions] As there are no further questions, this concludes our question-and-answer session and our conference call.

Thank you.