Mechanics Bancorp Q1 2026 Earnings Call - Core Profitability Surges as Bank Deliberately Shrinks Balance Sheet to De-Risk and Boost Returns

Operator: Good morning, ladies and gentlemen, and welcome to the Mechanics Bancorp 1st quarter 2026 earnings conference call. I would like now to turn the call over to Nathan Duda, Chief Financial Officer of Mechanics. Please go ahead.

Nathan Duda, Chief Financial Officer, Mechanics Bancorp: Thank you, operator, and good morning, everyone. We appreciate you joining our earnings conference call. With me here today are C.J. Johnson, our President and CEO; and Carl Webb, our Executive Chair. The related earnings press release and earnings presentation are available on the News and Events section of our investor relations website. Before we begin, I’d like to remind everyone that any forward-looking statements are subject to those risks, uncertainties, and other factors that could cause actual results to differ materially from those anticipated future results. Please see our safe harbor statements in our earnings press release and in our earnings presentation. All comments expressed or implied made during today’s call are subject to those safe harbor statements. Any forward-looking statements made during this call are made only as of today’s date, and we do not undertake any duty to update such forward-looking statements except as required by law.

Additionally, during today’s call, we may discuss certain non-GAAP financial measures which we believe are useful in evaluating our performance. A reconciliation of these non-GAAP financial measures to the most comparable GAAP financial measure can also be found in our earnings release and in the earnings presentation. C.J., let me hand it over to you.

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Thank you, Nathan, and good morning. We appreciate everyone joining our call and for your interest in Mechanics Bancorp. I’ll kick things off today. We’ll summarize the highlights of our first quarter performance. I’ll also provide another 1 strategic update on the bank before handing things off to Nathan to review our financials in more detail. Carl, Nathan, and I will then open up the call for your questions. With that, let’s turn to slide four. We had a productive first quarter, reporting $44.1 million in net income. On a fully diluted basis, our earnings per share was $0.19, and our tangible book value per share ended the quarter at $7.53, with $0.40 per share of dividends paid to investors in Q1. As anticipated, this was another noisy quarter. I’ll walk you through some of the major items.

First, we recorded a $6.5 million provision entirely related to qualitative CECL factors tied to geopolitical uncertainty stemming from the Iran war. Importantly, this was not driven by any specific credit deterioration within our loan portfolios. Asset quality metrics remain strong, and I’m pleased to report that we had zero basis points of net charge-offs when you exclude our auto net charge-offs. Our runoff auto portfolio, by the way, is also performing well as it winds down. This provision was a conservative response to the heightened global risk of the Iran war and its potential impact on the U.S. economy, particularly given higher oil prices. Second, we incurred just under $5 million in merger-related expenses as we continue to work through the final phases of our HomeStreet integration. These costs were in line with our expectations and are nearing completion.

The third non-core item was a $1.7 million tax provision related to the remeasurement of our deferred tax asset due to lower anticipated effective tax rates moving forward for the company. For forecasting purposes, we expect our effective tax rate to be approximately 26.5% in 2026, but this could still move around a bit. When you adjust for the non-core items, it adds up to $53.8 million of core net income for the quarter, representing a core ROAA of 1% and a core ROC of 13%. The first quarter is always the seasonally weakest for us for both non-interest expenses and core deposits. On the deposit front, our seasonality primarily stems from our $860 million of food and ag deposit customers who see large inflows in December and outflows in January.

This quarter, $137 million of our non-maturity deposit decrease was from these customers, which is normal course activity. Otherwise, core deposits were roughly flat. Importantly, we did see a $640 million reduction in CD balances during the quarter. This was deliberate as we continued to hold the line on CD pricing to let hotter money from legacy HomeStreet customers leave the bank. When we modeled the merger over a year ago, we expected $1 billion in CD runoff by the end of the second quarter of 2026. However, runoff has been greater than anticipated, and we now expect $1.4 billion cumulative reduction in CDs, with overall Mechanics CD balances expected to stabilize at a $2.0 billion run rate. This implies an additional reduction in CDs of just under $150 million in Q2.

Notably, the vast majority of CDs leaving the bank were from single account households, and our core deposit retention through the merger has been very strong. Nearly all of our CDs have repriced once at our lower rates and have maturities of 7 months or less. This elevated time deposit runoff has a negative impact on earnings, it’s higher risk, low ROE, non-core money that’s better to not have in our bank. Getting a bit smaller also generates excess capital, which provides strategic flexibility. Staying on the topic of risk reduction, legacy HomeStreet construction loans also decreased nearly $100 million during the quarter as we made the strategic decision to let certain business go that we felt wasn’t priced appropriately relative to the credit exposure we were taking as a bank.

In general, competition for loans and deposits remains quite stiff, and we are okay getting a bit smaller in the near term to minimize risk to the company and position ourselves for long-term success. Our total assets are now $21.4 billion, with total gross loans of $13.9 billion, total deposits of $18.2 billion, and tangible shareholders equity of $1.7 billion. We remain 100% core funded with no broker deposits or FHLB borrowings at 3/31, and I’m pleased that we paid off $65 million of high-cost senior debt in March that was acquired from legacy HomeStreet. Primarily because of the Iran war provision, our ACL grew 5 basis points this quarter to 1.13% of loans and now totals $157 million.

Our allowance is also a very robust 2.95 times our total non-performing assets as of 3/31, with NPAs generally flat for the quarter. Our capital ratios remain healthy with a 13.9% CET1 ratio and an 8.7% Tier 1 leverage ratio. Our cost of deposits was 1.28% in the first quarter, down 15 basis points from Q4, and our spot cost of deposits at 3/31 was 1.21%. Our NIM was 3.61% for the quarter, up 11 basis points sequentially, and our CRE concentration ratio was 348%. Turning to slide 5, I’d like to provide you with an update on some of the key strategic initiatives happening at the bank.

I’m very happy to report that we successfully converted all legacy HomeStreet customers onto our core banking platform the final week of March. This major milestone was achieved thanks to a tremendous amount of planning and hard work from all our employees. We will substantially complete our merger integration during the second quarter and expect to realize significant additional expense synergies moving forward as we will not be paying two core providers, other redundant contracts will be terminated, and final headcount reductions occur. We remain on track to deliver on our budgeted cost synergies from the merger and reiterate our prior guidance of achieving an annual run rate non-interest expense, excluding xCDI, of approximately $430 million by the fourth quarter of this year.

The $130 million sale of our DUS business line to Fifth Third has taken a bit longer than expected, but we have a high degree of confidence that it will close in the second quarter. Given the pending DUS sale, our first quarter earnings, and our modestly smaller balance sheet, we will have significant excess capital, and we expect to pay approximately $0.70 per share in dividends in Q2, subject to regulatory and board approval. The merger integration is almost behind us after a very full year of work, and the build-outs of our wealth, commercial banking, and treasury sales teams are substantially complete. It will be nice to move past integration work and focus entirely on growing each of our core business lines with a technology roadmap for the bank that is increasingly focused on leveraging AI tools to improve enterprise productivity.

As for the big picture, we expect a relatively flat NIM for the next 2 to 3 quarters as auto loan runoff remains a drag and our deposit costs stop declining given we no longer expect any Fed rate cuts and our CD repricing moderates. Our NIM should begin expanding again in early 2027 as the impact of auto fades, driven by legacy Mechanics Bank earning asset repricing, which will continue to occur over the next 5 years and will provide a tailwind to earnings growth. We now expect to deliver a 17%-18% ROTCE and a 1.3%-1.4% ROAA in 2027 and beyond, with a projected GAAP net income range of $275 million-$300 million for 2027.

Our earnings guidance has been reduced primarily due to removing 2 Fed rate cuts from our projections, as well as from a modestly smaller balance sheet due to the lower CD balances. We also expect outstanding construction loans to decline to roughly $300 million over the rest of the year versus $500 million previously. Let’s go to slide 6, which shows an overview of Mechanics Bancorp today. Again, we have $21.4 billion in assets with 166 branches and very competitive deposit market share. We are the 4th largest community bank in both California and on the West Coast, with a branch map that’s nearly impossible to replicate. We fully expect Mechanics to be a high-performing bank despite taking very little risk with our earning assets strategy.

On the left-hand side of the page, we compare Mechanics to all publicly traded banks, 10 billion-100 billion in assets, which including us now has 77 banks in the comparative group. As you can see, our cost of deposits for the first quarter was 1.28% versus the median, the 77 banks of 1.76%, giving us a rank of number 10. I expect our cost of deposits to continue to drop in the second quarter before flattening the remainder of the year. Next, our non-interest-bearing deposit mix is 36%, which is third out of 77, up one spot from a quarter ago and the greatest store of value for our company.

Our CET1 ratio of 13.9% ranks 19th, and our risk-weighted assets to total assets is just 59% versus the group median at 76%, which is the 2nd lowest out of our 77 competitor banks nationwide. Despite this low risk profile, our expected 2027 ROTCE of 17% ranks 8th out of the 77 banks, which would be exceptional. Finally, our 2027 efficiency ratio is now projected to be approximately 50%, which ranks 22nd out of 77, despite our operating in higher cost markets and with the majority of our deposits comprised of small balance consumer accounts. Slide 7 is key to our investment thesis and another way of visualizing some of the important statistics from page 6.

The strength of our deposits and the efficiency with which we run our bank, both from an expense and a capital management standpoint, will allow us to post very strong returns despite having nearly the lowest risk mix of assets in the country. These charts provide a great visual, in my opinion, especially the risk-weighted assets to total assets comparison. In fact, we expect our risk-weighted assets as a percentage of total assets to continue to come down over time as our auto loans run off and our CRE concentration ratio is managed below 300%. While we will pay substantial dividends the first half of 2026, we expect moving forward that our dividend payout ratio will be closer to 80% of net income as we retain some capitals to support core growth and preserve strategic optionality. To wrap up my section, let’s turn to slide 8.

This slide summarizes our investment highlights. First and foremost, we have very strong market share across the West Coast with a branch footprint that’s nearly impossible to replicate. We also expect to have very strong profitability due to our top-notch deposits and efficient business model despite taking very little credit risk. We are 100% core funded with no wholesale borrowings or broker deposits and are highly capitalized with a very liquid balance sheet with 70% loans deposit ratio forecast for 2027. We are efficient with our capital and plan to pay out substantial dividends, which would imply a very attractive yield at today’s share price. There’s also firm alignment between our public and private investors as Ford Financial Fund owns 74% of the company. Finally, we have an experienced management team with a strong operating and M&A track record.

Overall, the future prospects and Mechanics are quite bright, and I’m looking forward to finishing the job with the HomeStreet integration and moving on to the next chapter of growth for our great company. With that, let me turn the call over to Nathan to dig into more detail on our first quarter results. Nathan?

Nathan Duda, Chief Financial Officer, Mechanics Bancorp: Thank you, C.J. Johnson. Starting on slide 10, for the First quarter, net interest income declined $3.9 million or 2.2% to $179 million compared to $183 million in the fourth quarter of 2025. Our net interest margin expanded 11 basis points to 3.61%, driven primarily from the reduction in deposit costs from the $640 million runoff of higher-cost legacy HomeStreet Bank CDs. First quarter interest income included $12.7 million of discount accretion on loans acquired in the HomeStreet Bank transaction. We have approximately $150 million of remaining discount on those loans as of March 31, 2026. Lastly, the earning asset mix shifted modestly during the quarter, reflecting lower cash balances as CDs continued to roll off.

Turning to slide 11, non-interest income declined $57.5 million or 73% to $21 million compared to $78.5 million in the linked quarter. As a reminder, the fourth quarter included a $55.1 million bargain purchase gain related to the write-up of the DUS intangible asset acquired in the HomeStreet merger. Excluding that item, underlying non-interest income declined $2.4 million quarter-over-quarter, primarily driven by lower trust fees, lower gain on sale of loans and reduced fee income. Turning to slide 12, non-interest expense increased to $0.9 million or 0.7% to $130.4 million compared to $129.5 million in the fourth quarter. Merger-related expenses totaled $4.8 million, up modestly from $3.5 million last quarter, were primarily comprised of professional services and severance costs.

Excluding these one-time merger expenses, non-interest expense declined $0.4 million versus the linked quarter. The efficiency ratio increased to 61.6% compared to 46.7% in Q4, reflecting the absence of the prior quarter bargain purchase gain rather than any deterioration in underlying operating efficiency. Turning to slide 13, loan interest income declined $12.9 million or 6.7% to $181.2 million, and loan yields declined 9 basis points to 5.25%, driven by slightly lower contractual yields and reduced discount accretion. Multifamily and single-family residential yields declined modestly by 6 and 3 basis points, respectively. The CRE concentration ratio increased to 348% at quarter end.

During the quarter, we originated $546 million of loan commitments, predominantly in SFR and other consumer categories, and sold $54 million of loans, primarily debt, multifamily, and residential real estate. Turning to slide 14, our commercial real estate portfolio remains well-diversified and continues to reflect our long-standing focus on lower-risk multifamily lending. Multifamily represents approximately 70% of the total CRE portfolio with an average loan size of $3.8 million, an average LTV of 56%, and an average debt coverage ratio of 1.55 times. The remainder of the CRE portfolio is broadly distributed across retail, office, industrial, hotel, and mixed-use categories, each with modest exposure and conservative credit characteristics. At the end of the first quarter, our CRE concentration was 348%, which would be 101% when excluding our multifamily portfolio.

We also continue to manage down the higher-risk segments of the legacy HomeStreet portfolio. During the last six months, we made progress reducing our HomeStreet syndicated loan exposure with balances declining from approximately $142 million at September 30th, 2025 to about $68 million at March 31st, 2026. During the first quarter, we sold roughly $9 million of unpaid principal balance or $18 million of commitments of legacy HomeStreet C&I syndications at par, and we ended the quarter with no exposure to non-depository financial institutions. Turning to slide 15, you can see both legacy Mechanics asset quality trends and the impact of the HomeStreet merger. Mechanics has historically maintained excellent credit quality with minimal non-auto charge-offs and a very low level of Non-Performing Assets.

As shown on the slide, the majority of our historical charge-offs were auto-related, and as mentioned earlier, that portfolio is in runoff and continues to outperform expectations. As a reminder, the increase in the non-auto charge-offs in the fourth quarter of 2025 was due to a charge-off of a legacy HomeStreet-acquired loan that had specific reserves established, and the actual charge-off was slightly lower than the original anticipated loss. At March 31st, non-performing assets represented 0.25% of total assets, modestly higher from 0.23% in the fourth quarter. The increase reflects the impact of lower loan balances in total and a slight increase in the non-auto non-performing assets of $2 million. Loan loss reserves to loans held for investment were 1.13% at quarter end compared to 1.08% in the prior quarter.

The increase in the allowance reflects the incorporation of qualitative factor adjustments, including a $6.35 million pre-tax provision driven by the heightened economic uncertainty related to geopolitical developments. Turning to slide 16, securities interest income increased $3.5 million or 7% to $53.1 million from $49.5 million in the fourth quarter. The increase was driven by higher yields on the portfolio, which increased by 11 basis points to 3.97% as compared to the fourth quarter. The increase in the portfolio’s yield was due to the full quarter impact of the $650 million of securities purchased in the fourth quarter of 2025 at accretive yield to the portfolio.

The overall securities portfolio decreased by $83 million in the first quarter due to pay down and a $33 million reduction in fair value due to higher interest rates. Turning to slide 17, total deposits declined $782 million during the quarter, driven by a $640 million reduction in higher-cost time deposits and $232 million reduction in non-interest-bearing demand and $137 million in seasonal non-maturity deposit outflows, partially offset by money market growth. This mix shift and balance reduction contributed to a $10.7 million or 15% decline in the deposit interest expense compared to the prior quarter. The total cost of deposits improved to 1.28%, down 15 basis points from the prior quarter, driven primarily by the continued runoff of the higher-cost legacy HomeStreet time deposits.

Spot cost of deposits at March 31st was 1.21%, reflecting ongoing repricing benefits. Non-interest-bearing deposits represented 36% of total deposits, continuing to support our low-cost funding profile. Turning to capital and liquidity on slide 19, we remain very well capitalized with a 13.9% CET1 ratio and an 8.7% Tier 1 leverage ratio at March 31st. Available liquidity totaled approximately $16.3 billion. Book value per share at quarter end was $12.61, and tangible book value per share was $7.53. During the first quarter, we paid a $0.40 per share dividend on our Class A common stock. As C.J. discussed earlier, we expect the $130 million sale of our Fannie Mae Delegated Underwriting and Servicing, or DUS, business to Fifth Third to be approved and closed shortly.

Pro forma for that transaction, we expect to have approximately $165 million of excess capital, which we intend to return to shareholders through a special dividend of approximately $0.70 per share in the second quarter, subject to regulatory and board approval. That concludes our prepared remarks. Operator, please open the line for questions.

Operator: We will now begin the question and answer session. If you would like to ask a question, please press 1 on your telephone keypad. To withdraw your question, press star 1 again. Please pick up your handset when asking a question. If you are muted locally, please remember to unmute your device. Please stand by while we compile the Q&A roster. It’s star 1 on your telephone keypad to ask a question. Your first question comes from Woody Lay with KBW. Please go ahead.

Woody Lay, Analyst, KBW: Hey, thanks for taking my questions. Wanted to start on the net interest margin and just based off the spot rate of deposits you gave, I’m a little surprised the margin would be flat or, you know, relatively flat next quarter. Could you kind of just walk through the puts and takes to that, to the flat margin over the next couple quarters and kind of the glide path we need to see in order to hit the $275 million to $300 million of net income in 2027?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Sure. Good morning, Woody Lay. I’ll take that. I’ll start with it, maybe let Nathan comment as well. I think, yes, the spot cost of deposits is down, and that will provide a bit of a tailwind. The, you know, we expect our deposit cost to be kind of not quite at 1 to 1, probably a little higher than that for the quarter overall, as we really are through most of our CD repricing. We also have kind of, you know, a bit of a day count issue with the first quarter in February and how we do some of our yields at the 3.61, especially in February, which is a short month, is a bit elevated. That gets some of it.

I do think, you know, we now, again, we’re very liability sensitive. We’re gonna add a bit more disclosure around that in our next investor deck in the second quarter. We do have of our $18 billion of deposits, $10 billion is at basically 1 basis point, non-interest bearing or very low cost. We do have $7 billion that’s at 2.85% today. So it’s a bit of a bifurcated deposit base, and so not getting the rate cuts, having a bare flat forward curve is a bit of a negative for us, clearly. We do have about $3 billion, you know, basically just about $4 billion of floating rate assets.

There’s a $3 billion gap between our rate sensitive liabilities and our floating rate assets, and we’ve been working to narrow that gap. It has come down. It will continue to come down. That’s putting some of the pressure on the margin during the year, especially as we still have, you know, $600 million or so of auto loans at a 6.5% yield. Those are running off to zero. That’s putting pressure on the margin. The offset is we’ve outsourced the expense for that, and as those loans run off, our NIE continues to proportionally run off with that as well. We have $12 million right now that we’re paying. As those balances run down, the $12 million also comes down.

The offset to the margin impact is gonna show up in non-interest expense. Nathan, do you want to add anything to that?

Nathan Duda, Chief Financial Officer, Mechanics Bancorp: Yeah, I think you covered most of it. Couple other items I would add is you gave updated guidance on the construction and land balances, which is one of our highest yielding assets. There’s an impact there. In addition, you know, we have seen interest bearing transaction costs tick up. Part of that is, you know, some of the CD runoff from HomeStreet. You know, strategically, we’ve been pushing some of that into interest bearing transaction. We expect that to tick up during the second quarter along with everything else that you discussed already.

Woody Lay, Analyst, KBW: Got it. Maybe just, you know, with some of the moving pieces, is there kind of a margin range you expect in 2027 in order to achieve the NII run rate you expect?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Yeah, I’d say three, probably 3.7, 3.8 in 2027 would be my estimate. Obviously, it’s still a ways down the road and things can change. I hesitate to give too much there. I, what I do know is, we’re 100% core funded, and our deposit costs should be pretty stable. Especially when we grow, if we can grow core deposits, which we think we can do. I think our deposit cost should remain pretty stable once we get through the second quarter. We have, I’d say at least $5 billion of low yielding legacy Mechanics assets that are hangover from the COVID era that will continue to amortize, prepay, cash flow reprice.

We’re gonna add some disclosure around that as well in the second quarter. That’s gonna be a tailwind, and that’s gonna come. That’s happening. That will push our margin higher every year, you know, for the next five years. This, you know, run rate, this would eventually be a bank that’s north of a 4% NIM. There’s, you know, levers we can pull to accelerate that. We are gonna be continuing to generate excess capital as we’re a little smaller. You know, we’ve got low yielding loans, low yielding securities, and we may consider a restructure on some of that. It would be small.

You know, the thing we’re gonna do eventually, Woody Lay, is we’re eventually gonna sell these auto loans. You know, I don’t know when that’ll be, but it’s gonna be back half of this year, early next year. We’re still gonna try to determine the ideal timing of it and that will be, you know, we may take a modest loss when that occurs, but it will be a pickup to earnings, for sure. ’Cause that’s still losing us money at the moment as we continue our runoff. There’s a lot of levers we can pull and, you know, the underlying earnings power of this bank is very strong, thanks to our great deposits. You know, we haven’t embedded any of that kind of stuff in our guidance.

Woody Lay, Analyst, KBW: Yep, no, that’s really helpful. Maybe just shifting over to the balance sheet real quick. As you noted, some of the deposit runoff is coming a little bit more than expected, and I think you said there’s another $150 million of planned CDs from HomeStreet that’s coming off next quarter. Once we kind of get through that tranche, how are you thinking about the size of the balance sheet? Should it remain pretty stable off those levels? Just given, you know, the sale of the auto potential sale of the auto portfolio, could we see some additional shrinkage in the back half of the year?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: No, I think once we get through any remaining CD reductions in the second quarter. Again, the first quarter is also the seasonal low for deposits with us. Every quarter that’s the case. Every first quarter that’s the case. We expect core deposit growth. You know, not, you know, we’ve always, we think we should grow 2, 3, 4% a year in line with our economies, and we’ve got a ton of focus, you know, at the bank on growing core deposits. The non-core stuff is basically all out. If we sell auto loans, we’ll get the proceeds and reinvest somewhere else, the assets won’t, that won’t change the size of the balance sheet. I view this as very close to the low, and we should be growing.

We’re budgeting to grow. We think, you know, we’ve got momentum there on deposit pipelines and stuff like that. I would not expect much, if any more, you know, balance sheet shrinkage. Maybe a bit in the second quarter, but that should be the nadir.

Woody Lay, Analyst, KBW: Got it. Then maybe just last for me, y’all noted in your opening remarks, you know, 80% payout ratio in 2027. That provides some capital to be strategic with. As you noted, you know, you could look at restructures, but I was also just interested in your thoughts on additional M&A from here, especially once we get past the official core conversion.

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Carl, you wanna take that one?

Carl Webb, Executive Chair, Mechanics Bancorp: Sure. Good morning, Woody Lay. I think that you have to look at our past to somewhat predict our future. We’ve always been extremely acquisitive. We’re always looking at situational opportunities. Obviously, the opportunities have to be within our footprint. We’re not looking to really expand our West Coast footprint, and we don’t want to do a M&A transaction simply to get bigger. It has to make us better. I think the overlay to that is making us better with an M&A transaction gets harder and harder and harder. You heard the 128 deposit cost for the quarter and the 121 spot rate. We protect these deposits judiciously, and I’m not talking about our time deposits and, you know, the story there, as we’ve run those down intentionally. It really gets harder and harder to move the needle.

You know, not saying that, you know, we have to buy another bank or acquire another opportunity that has a like deposit cost. We think the value of a bank, the franchise value of a bank is demonstrated predominantly by its liability structure and its deposit cost. We have to take that into consideration. You know, frankly, there just aren’t a lot of banks out there. We’re always looking. There are a scant few opportunities that we constantly monitor. I think something in our favor is, you know, we’re trading at a pretty good multiple. All I can say is we’re keen to the opportunity set. We’re always looking.

I would say, just being extremely transparent, there is nothing right now on the front burner, and that’s simply because there is nothing more important, for our bandwidth today than getting this integration right. You know, we’ve only acquired HomeStreet Bank, which significantly increased our size and our footprint, what is it? 8 months ago. We’re now in the, you know, in the midst of getting our cost out, and C.J. Johnson spoke to the conversion. Those are the very important things that we’ve got to get done and get right first, and we’re getting in the later innings of doing that. Then we’ll certainly see what’s out there.

Woody Lay, Analyst, KBW: Awesome. Well, I appreciate y’all taking my questions and all the color you provided.

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Of course. Thanks for the questions, Woody.

Operator: A reminder, if you would like to ask a question, please press star one on your keypad. Your next question is from Dave Rochester with Cantor. Please go ahead.

Dave Rochester, Analyst, Cantor: Hey, good morning, guys.

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Good morning, Dave.

Dave Rochester, Analyst, Cantor: Hey, back on your comments on growth and core deposits. It sounds like you feel pretty good about doing that through the end of this year. Was curious, just given the headwinds in auto and construction, if you think you could still grow the loan book this year. Then I’m just trying to triangulate into, you know, an NII trend with a stable NIM. It kind of sounds like you’re still expecting NII to grow through the end of this year as well with, you know, whether it’s loan growth or securities growth through the end of the year, just given that you’re growing core deposits. Just wanted to get your thoughts on that.

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Yeah. I think from a loan growth standpoint, we expect to grow our consumer loans. We had modest growth in single family. We expect that to pick up throughout the year.

Dave Rochester, Analyst, Cantor: Okay

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: You know, mortgages, HELOCs, we’ve seen good demand and growth. In those verticals also are lending against the cash surrender value of whole life policies through our partner Inclined. That’s growing pretty rapidly. We’re now at, I think, $600 plus, $670 million of drawn balances. We expect that over the course of the year to get to, you know, $1 billion drawn, really like that business from a risk-adjusted return standpoint, especially given its short duration and a good counter to that gap I talked to earlier of our floating, you know, our rate-sensitive deposits versus our floating rate assets. The consumer should grow. We’ve talked before about our, you know, construction.

You know, that we expect those balances to go, to decrease to around $300 million. You know, a lot of what, you know, we, the home builder team that came over from HomeStreet Bank does a great job. They really are a strong team. That business is, it was thinly priced in some areas and we’re getting it deliberately a little bit smaller. That’ll be a bit of a headwind in that, you know, through the year. It will, you know, we’re de-risking and not doing construction lending, which can be obviously goes great for a while and then it can go the other way very quickly. I think that’s prudent.

On commercial real estate, you know, I think we’re originating loans, but the plan is still to get that below 300%. I’d kind of model us, you know, at, over the next couple of years, getting below 100%. It’ll be a modest decrease in outstanding multifamily CRE. C&I should be, you know, we deliberately sold some of the syndicated loans that HomeStreet had. That’s part of the balance reduction there. That should be close to a near zero and should be starting to grow again. I don’t know. Nathan, Carl, anything else you want to add to that?

Carl Webb, Executive Chair, Mechanics Bancorp: I would add just one other comment, C.J. Johnson, and that is the market. It is extremely, and I know everyone says the same thing, and we’ve been monitoring earnings releases and some have had, you know, loan growth, modest loan growth. I’d say the competitive landscape on both term and pricing is as thin and as tight as I’ve ever seen it. We’re you know, I’d just say we’re tough on credit, and I think that would be an opinion shared by probably a lot of our lenders that are out in the market today.

You’re seeing some things out there that I think may trend to this thing just getting really, really competitive to the extent that it’s probably not all that healthy, particularly as it relates to term, which I equate to our underwriting. Credit spreads are extremely tight. My way of thinking is not the time to necessarily be pressing the accelerator too hard for loan growth and the overlay of our CRE concentration. We have to be very mindful of that.

Dave Rochester, Analyst, Cantor: Okay. Appreciate that. Are you at this point still expecting NII growth from the first quarter through the end of the year? Or is it more stable along with the margin?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: It should be pretty stable, I would say, for a couple quarters and start to pick up. You know, the balance sheet, again, is gonna be getting a little bit smaller in the second quarter and then should start to grow, but the growth will be modest.

Dave Rochester, Analyst, Cantor: Yep

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: I’d kind of guide to, you know, stable NII and then picking up, I think, pretty materially in 2027.

Dave Rochester, Analyst, Cantor: Yep. You mentioned the upside in the margin as you get into the early part of 2027. Where are you seeing that roll-on, roll-off differential in the in the earning asset buckets you have at this point?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Yeah, I mean, we have, I think a lot of lower-yielding mortgages. I think our legacy Mechanics single family is, you know, probably a low 4s coupon. A fair amount of that is starting to prepay, amortize, coming back on the books at, call it 6%. Multifamily, we’ve got $2.4 billion or something, you know, north of $2 billion of multifamily loans that yield low 4s. In aggregate, that business today is closer also to 6, you know, 5.75%-6%. That entire book will reprice or, you know, it’s all adjustable. 5, 7, 10, it was mostly originated in 2021 and 2022. By 2032 it will all have reset to market rates closer to 6. There’s a lot of tailwinds there.

We also have an HTM portfolio that’s a drag. It’s a $1.3 billion today yielding 1.61%, and $100 million of that amortizes a year. Slower, longer duration, but over time will continue to.

Dave Rochester, Analyst, Cantor: Mm-hmm

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: ... to be a tailwind. I think it’s, you know, there’s a lot of upside to the bank over time. If you just as time passes, we’ll have a natural tailwind just from that occurring. This year will be a bit more flat though, just given the total, you know, flat, you know, no Fed cuts and the, the final drag of auto. We’ll make up for some of that in our, you know, pretty substantial expense reductions that are coming here in the second quarter and third quarter.

Dave Rochester, Analyst, Cantor: Yeah, I mean, it looks like, between now and the fourth quarter, you’re looking at at least a $10 million reduction on a quarterly run rate basis on expenses, right? How much of that are you expecting to get in 2Q?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: We’re at 474, you know, xCDI annualized in the first quarter. We expect to get to 430 by the fourth quarter, that’s $44 million. Yes, annual, you know, over $10 million in quarterly. In the second quarter we should see, I don’t know, maybe a lot. I don’t know the exact number, but it’s gonna be a significant amount of cost reductions coming off. And that will persist into the third quarter. By the fourth we’ll be there.

Dave Rochester, Analyst, Cantor: Great. Good. That’s totally good. Maybe just switching to the fee side for a minute on the trust business. You guys were opening an office in Delaware. Sorry if I missed you mentioning it. I think it was this quarter. I was just wondering if that were up and running, and if you could just remind us what that does for you guys and what other expansion you’re planning in that business going forward, that’d be great?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Yeah. We got a little bit delayed. It’s now expected to open in May. We’re almost there on the Delaware trust business. We have some demand or, you know, waiting for us to open that. That’s a major step for our wealth group. That’s exciting. It has been delayed a quarter. Yeah, I think overall our build-out of the team is complete. You know, we’ve got a great team. Really almost everyone came over from at least a number of folks came over from First Republic after that failed right in our backyard. It’s we’ve been laying the groundwork.

We’ve been very busy, you know, with the integration, with the merger and we’ve picked up some private bankers and new clients from HomeStreet on the deposit side through it. I think there’s opportunity on the trust and wealth side to continue to grow. I’m very much optimistic that that business will continue to grow and be a, you know, very accretive business line for us. It has been the trust business did take longer than we thought, it’s we’re on the finish line.

Dave Rochester, Analyst, Cantor: Okay. Great. Maybe just one last one on capital. You mentioned the big payout, obviously next quarter. I think it was $165 million of excess that you’re looking at. Does that get you down to your target 8.25 Tier 1 leverage, or do you keep a little bit of extra there for what you said, you know, in terms of flexibility going forward? Just how are you thinking about that?

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Yeah. I think, the way we’ve been, managing capital is 8 and a quarter, but 1 quarter in arrears. It’s more effectively like 8 and a half to 8.6 leverage this quarter. We’re at 8.7. To your comment, we actually are gonna have excess. I think my rough math is maybe $35 million this quarter that we’re not paying out in dividends. I mean, our dividend’s gonna be close to $160 million, $162 million this quarter. There’s still some that we’re holding back and we’ll think about how best to use that. That will persist as we go into the 3rd quarter due to a lag on leverage assets as the bank gets a bit smaller.

Leverage assets kind of take a quarter to catch up fully, and so we’ll have some excess capital. The bank, the other thing I’ll point out is, you know, there’s a lot of CDI amortization that doesn’t show up in GAAP earnings, but it does compound in capital generation for the bank. That’s another source of kind of excess capital that we create above and beyond the actual GAAP net income. Something else to think about.

Dave Rochester, Analyst, Cantor: All right. Great. Thanks guys. Appreciate it.

C.J. Johnson, President and Chief Executive Officer, Mechanics Bancorp: Thanks, Dave.

Operator: There are no further questions at this time. This concludes today’s call. Thank you for attending, and you may now disconnect.