Good afternoon, everyone. Welcome to the virtual portion of the Needham Growth Conference. My name is Kyle Peterson here. I cover financials and fintech here at Needham. We're going to be conducting a fireside chat today with Greg Garrabrants, President and CEO of Axos Financial. Greg, thanks for joining us today.
Thanks, Kyle. Appreciate the invite. Nice to see you.
Yeah, yeah, likewise. You know, maybe we could just start off, for those that aren't quite as familiar, if you could just provide a quick overview of Axos, a little bit of history on the company, kind of from inception to where you guys are today.
Sure, so I've been the CEO of Axos for about 18 years. We started as a digitally enabled consumer bank, and we've developed into a much more full-service financial institution with three principal segments. We have a commercial bank where we offer lending services nationwide in a variety of industry-focused verticals. We have a commercial treasury management business, which offers a full suite of treasury management and banking products. We have a securities business where we have a custody, an RIA custody, and a clearing business where we work with introducing broker-dealers, and we have a full suite of consumer products as well through our consumer digital bank, which offers both loans and deposits. In the consumer side, we have a large single-family mortgage division as well, and we have a mortgage bank, so we're very well diversified for our size.
We have $26 billion,27 billion in assets in the bank, and then another close to $50-ish in the assets under custody and the clearing and custody businesses there. So the business has developed. We hit our 25th anniversary this year. We are very technologically focused. We have a large group of employees that focus on development of software integrations, and we believe a vertically oriented, software-led approach is a great approach and a cost-effective approach to reaching our clients.
Great. That's super helpful. And then maybe switching over to growth, you guys have been able to generate organic loan and deposit growth that's well above industry averages for quite some time now, all while maintaining really low credit losses. Maybe if you could just walk us through what has kind of helped you guys do that, not just when you were a smaller bank, but as you've gotten bigger, you've kind of consistently been able to outperform while holding the line on credit. So I guess just how have you guys been able to do that, and how long do you think that's sustainable as you guys continue to grow?
Well, I'll answer the last one easier. I think we're in a better position now than ever, given the diversity of our businesses to sustain loan growth. We raised our loan growth guidance in our last quarterly earnings call. So we feel really good about where we are in loan growth. And that's for the foreseeable future. So I think sustainability is really good. How we've achieved that, I'd say there's really several primary reasons, but probably the most important reason is the diversity of the lending platform. We're kind of diverse to the point of pain in the sense that, given our size, we really do have a lot of different lending verticals. And we're willing to allow any one of those verticals in the event that we see market issues with them, or we also just simply don't like the pricing dynamic or the competitive environment.
We're willing to reduce originations in any one of those verticals and allow capital to flow to the verticals where we feel we're getting the best risk-adjusted return. I think that really allows us, allows the leadership team and the board to have a lot of optionality with respect to what we lend on, and I think that makes a big difference. I think if you're solely a single-family lender, it's really tough to say, "We're not going to do any more single-family mortgages," which is exactly what I did when I came in as CEO. We got out of all the Sand States, didn't do mortgages, sold stuff, got into bonds, and waited it out, and then we're able to really take advantage of that. I think we also do look for cycles. We try to be a thoughtful contrarian, and I think we have done that to date.
That's always, you're only as good as your last call. Sometimes we've overcalled it, but I think we've been able to deal with that. We were very bearish on auto lending, for example, and the consumer kind of coming out of COVID with prices on autos going way up, and for our segment, which is a super prime segment, there really hasn't been much there. So we probably were overly cautious. So sometimes we've been overly cautious and maybe clipped growth a little bit where we shouldn't have, and then it takes a few quarters to get it back to where it should be. But overall, it's worked out fine given the long-term trajectory.
Okay. That's really helpful. And then you alluded to this in kind of your last answer there, but you guys did recently raise the loan growth outlook there, which is really good to see. Maybe if you could dive a little bit more into what sparked that, whether it's specific business lines, or do you see this as a function of demand is getting better? Is competition backing off in some areas where you guys are poised to take advantage of?
Yeah. I'd say the bigger reasons were that if you really look closely at the disclosures we've had, you'd see that the single and multifamily lending businesses, which were 5/1 ARM businesses and in an inverted or flattish yield curve, it wasn't really something that I wanted to originate because I believe that the market expectation for rate reductions were overdone. And so the five-year swap rate was reflecting a lower rate than I wanted to lend at, and most people price off that swap rate. So in some respects, that is a competitive dynamic, but it's really more of a rate forecasting call. So those loan groups were decreasing, sometimes $300million-$400 million a month. The rest of the groups were growing, and then the aggregate loan growth was reduced by those coming down. And we believe that that, for a variety of reasons, is ceasing.
We have a more positively sloped yield curve. We were, frankly, pushing out some folks where we looked at and said, "Look, we want those loans to be a little bit lower LTV, so we're willing to let them go to other institutions and whatever." We've kind of done that in a way we feel really good about where we are from a risk perspective, and we are also back originating 5/1 ARMs. The market dynamic there has actually gotten a lot better because a lot of the banks that used to do those were very impacted by interest rates and had a lot of capital issues with interest rates. So we have to deal with First Foundation anymore, whatever, EverBank in there a little bit, kind of stinking up the rate process a little bit.
But it's far fewer people or far fewer competitors than there were in the past. In any event, with respect to those deals, now that that negative headwind for those two asset classes are lifted, plus we bought Verdant, and we guided that we think at the time, and we know what we got there, but we guided to, I think it's like 150 growth. So that's another area. And we feel like that's very steady and quite predictable from a growth perspective there. So just looked at all those things together and recognized that we're going to be in a situation where we're going to do better on loan growth, we believe. It's not 100% certain, obviously, but we feel really good about it.
Great. That's good to hear. And then maybe as a follow-up there, could we dive back into M&A? The Verdant deal you guys made in the fall so far seems to be a really nice strategic fit. I guess, could you walk us through what made that a good strategic and financial fit, and then what in particular you guys are looking for in future deals that you guys might pursue?
Right. So with respect to Verdant, what made it a great fit was first, we loved the culture. They were all PNC bankers, so they had a good risk culture. They had developed great policies, processes, and procedures, really built a bank quality origination business. They just didn't have bank quality funding. So there was an immediate synergy for us to be able to come in, take out 14% sub-debt and an expensive stack of debt and warehouse lines from major banks and whatnot, and really just add that deposit funding, which made them immediately profitable. And so that was really helpful. We thought the price was good. It took a long time to negotiate the deal from a price perspective, but we were able to do that. Culturally, they're a really good fit because they're bankers, but they're also entrepreneurial, hardworking bunch, so we like that.
And then from a strategic perspective, we had recently brought on a floor plan financing team. So if you think about that ecosystem, you've got floor plan finance, so you've got a client, you're doing the floor plan, then you're doing the financing to their clients, right? So you're financing those golf carts when they're on the floor, and then when the client comes in, you're financing the client when they come back. So there's synergistic client relationships there, which is already starting to work, and those teams are getting along well, and they're really working hard together, and they've got some interesting information technology-related ways to work together. So yeah, I mean, look, we look for national lending businesses that have good risk-adjusted returns, entrepreneurial teams, ones that we don't have. So that was an asset acquisition that just made a lot of sense.
We, frankly, have looked at a lot of equipment leasing businesses over time. We had a small one existing that does more corporate-style, larger equipment leasing in the baskets of their cash flow loans. But this was a different thing, and we're really excited about it. It's doing awesome.
Great. That's good to hear. And then maybe switching over to kind of specific verticals or kind of where you guys see either as headwinds or tailwinds heading into at least calendar 26. Obviously, it seems like equipment leasing is kind of a bright spot with Verdant and their Cap Call has been an area you've been talking about for a while, I guess. Are there any other areas worth calling out on the other side of their headwinds?
Yeah. No, I'm not seeing a lot of headwinds right now in any particular ones. Maybe in some areas. I think, look, with where we are from a loan growth perspective, we're going to start being really extra tough on some of our agents where we may be in club deals or in some syndicated deals. If somebody asks for a concession, the answer is likely to be no. And either they'll stay without a concession or they'll leave. And that's okay. So that'll be helpful. So at times, if you feel like you need loan growth and somebody tries to take advantage of that and get a better deal than you think they deserve, then that makes it a little bit tougher. But if you have the loan growth, you're just like, "Yeah, okay, bye." So I think that'll be an interesting dynamic, which will be helpful.
But yeah, mortgage warehouse, I think that's definitely, I think, industry-wide, people are thinking there's an uptick there, and I think that'll be the case. And if you get lower rates, particularly 10-year, you'll see that go pretty fast. The way we try to do that is we have a lot of volatility in that business because our view of it is we're not going to be your first and lowest line, but we will be a line that's available to you when you need it. So that means that often when somebody fills up that primary line that might be at a much lower rate, they're coming over to us, and then they're using us. So that can often be something. CRESL is actually having a really good pipeline, good run.
They had been kind of up and down because it's just that those loans tend to be shorter duration and have some prepay to them, and that's looking good. So it's really a lot of strength across the board.
Great. That is really good to hear. Maybe we could switch over to interest rates. I think the perception, at least for a lot of people that might not know the story as well, is that you guys are hyper-asset sensitive. Rates have started to drift down a little bit in recent months, and you guys have been outperforming on net interest margin. So I guess maybe if you could walk us through some of the moving pieces on rate sensitivity and how you guys think about asset liability management.
Yeah. Yeah. No, it's so funny because I remember in the early stages, and obviously I've been around a long time, and I just hear nothing about how liability sensitive we were and how we were going to be crushed in higher rates. And then when higher rates came, we actually expanded our margin significantly, and now we're evidently asset sensitive. But no, look, I actually think it's quite a legitimate question because so here's how we've thought about it in the first 100 basis points, and we've been able to do it. Essentially, we say we have a very diverse deposit funding business, and it's a little bit from everywhere. It's $40 million,$50 million a quarter from HOA, another $50 million from small business, a chunk from consumer, a chunk from title and escrow, etc., all these different places. Bring them together, do that. The consumer plugs the gap.
What we've done is better than one-to-one so far because we've said we've looked and said, "Okay, on a static pool of our assets, excluding growth, let's look and say we don't want to lose a dollar of net interest income. So if interest income goes down by X dollars, we're going to cut interest expense by Y dollars." That obviously includes non-interest, so that's a little bit better than that. We've been able to do that effectively for every rate decrease there within a couple million bucks. So that has proven that thesis wrong.
Now, I think that if you're going to go forward and you're going to look and you're going to say, "Okay, you've got great loan growth, you've got great margins, can you fund all that loan growth and keep the margins and do all that and deal with a down rate environment?" I think that that combination of things has an opportunity will really be the big challenge that we have, right, over the next and it's not that it's insurmountable in any way, and I think we are going to be able to do it. We've done it.
But obviously, when you have larger loan growth, if your deposit engines are going to have to either pay for that in marketing or you pay for that and you say, "Well, gee, I've been cutting one for one on all my non-maturity interest-bearing deposits," and then you say, "Well, gee, if I do that and I'm going to lose something, but I have this loan growth, how do I think about that?" So I have to just really look at what that looks like, and I have a lot of different levers to work through there and a very broad and diverse product set. We're doing really well on the commercial deposit side, so that can help with that. And so that'll be what we have to work through and figure out. And obviously, we also have the ability to do syndications too, particularly now we've developed that.
So we can always increase our margin, make money even on some lower rate deals by syndicating it, spread and fee, rate, whatever. So that's also something that we've been doing more of too.
Got it. That's really helpful. And then maybe on some of the, I know there's moving pieces with fee income as rates shift. Would think that lower rates, for example, would be like a tailwind for mortgage banking and prepayment penalty fees, but it could be a headwind on the broker-dealer side. But maybe if you could just kind of run us through how we should think about the fee income impacts if rates continue to go down in the coming quarters.
Right. Right. Well, yeah. Okay. I'll go through that. One thing I do think that's important to note, and you'll probably have to see it this quarter to be able to really get it, but Verdant changes what the fee income line is going to look like because if you have certain types of operating leases and things like that, the different things are coming through as fee. So that's going to boost fee income a lot. So you'll kind of have to see that. I've talked about it. So I don't want to try to go into all that mechanics here, but you'll see that in earnings in the quarter. Mortgage banking, I do expect it to be better.
I was actually talking to my mortgage banking guy yesterday, guy runs that and saying, "Hey, where does this have to be to really start to be material?" And he said, "Well, if I get another 25-50 basis points off the 10-year, I really think this can start to crank and be more meaningful." But I think if you look back at what we did and let's say COVID and about $50 million in fee or something, I mean, I don't think anybody should have that number in their mind. But can it offset or better the reduction that we get from the broker-dealer side when rates go lower? Because that's a hit for those guys because it comes right off the zero-cost deposits, and that's a decent part of how we make money through the broker-dealer.
And so the strategy there in developing and building that broker-dealer was to create asset sensitivity, make us less liability sensitive. It worked on the downside that's there. I do think mortgage banking can offset anything there. I also think that we are doing better there. We've got good cost control, and we've got growth there. It's been about a billion of net new assets, excluding market growth a quarter. But that, it's sort of, and then you have the negative headwind of rate reduction. So I can see if you're in that business, you're a little frustrated. You say, "Great, I was able to get good fee growth and good growth," and then you're giving some of it back on the deposit side, which around the rate side, which you are.
But I will say that the Verdant business is going to be kind of a game changer on the fee side. And so you're going to have to kind of just pay attention to that, and we'll try to give guidance on it and stuff. I'm not going to do a lot of that here, but that's going to definitely be some pretty significant fee income boosts there.
Okay. That is really helpful. And then maybe switching over to tech and AI, I think relative to a lot of your peers, you guys have always been pretty far ahead on digital banking and all of that. But in some of our past conversations, you've indicated you guys are doing quite a bit with AI and using it in a lot of day-to-day tasks and all that to really make you guys kind of work smarter. So maybe if you could walk us through how you guys are leveraging AI in your business today and how you are continuing to develop and expand that usage.
Sure. So yeah, it's super exciting. Many different areas, so one area is in the software development life cycle all the way through. So if you think about how user design works, we're using Figma Make, and it's funny. I was in a product meeting, and I was talking a product, and one of my guys was in there and literally typing in the prompts that I was saying and had actually a prototype of the software before the meeting was over. He's like, "Hey, you just said this. Is this what you're thinking right here?" Right? So I mean, if that sort of anybody who's not using, I should be a salesperson for them, the Figma Make on that front end side, it's just awesome. We had about 40-plus% lines of code written/assisted by AI.
That means if you've got that auto-correct, you start to type and it finishes your line of code, that would count as an AI line of code. That's up to 40-plus%. So in short, what I'm expecting is that we're going to be able to get a lot faster output from our development teams to do new cool product stuff. And I'm already seeing it because it's funny because our product guys, I mean, some of them, not all of them, I don't get this public, but they're like, "Yeah, I gave this over to the development people, and they're just slow. And so I have nothing to do, and I got to wait for them to do this." And now the product guys, they hand something over, and it comes back from the development guys fast.
And they're saying, "Wow, we're really stressed now." So it's great because it's really put stress on the product team to deliver. We're going to roll out, for example, sometime in the summer, crypto trading, that kind of stuff. So there's just things that we were able to do more quickly there. So that's one. Internal operations, really interesting opportunities there. Tools that can take unstructured data appraisals and stuff and be able to eliminate needs for data input. Most of that was offshore, but now that's being done by tools that can read it, bring it in. In some cases, there's whole processes that RFPs have gone out to create agentic workflows for certain things that can be still, they're still human in the loop, but they're going to be done by agentic workflows.
It's really going to be, I believe it's going to be a great transformation because we're going to be able to take away a lot of low-value tasks and transition people to spending more time on things that matter, like client listening and more focus on product and excellence in areas rather than dumb crap. Right? And a lot of the things, if you look at some of these things that we had to do, whether it's regulatory or whatever, some of them are just, they're not that useful. And frankly, in a part of every credit memo, 80% of it is kind of similar. And then you get to the real thinking part. Well, in some groups, AI is bringing the credit memos to 80%-85% already.
And we're doing some really cool stuff on the data side. We're putting in Databricks, which is this data lakehouse that really enables AI enablement. So yeah, I'm super excited about it. On one hand, it's so much change. It can be a bit overwhelming, but it's also super cool. And sometimes we had some AI interns in. We brought some college students in and stuck them on processes, and they just did amazing stuff. So it's pretty fun.
Great. That's really helpful. And then maybe as a follow-up, I think in the past, you've talked about how some of the credit memo talk and stuff has definitely been things you've mentioned before, but I think you've mentioned that you're kind of capping expense growth in certain areas relative to revenue growth and encouraging people to use tech and AI more to get that productivity up. But maybe any refresher in terms of how you think about it and how you're using that to push efficiency higher at Axos?
Yeah. Well, yeah, I think we're hitting with that goal. I guess the question is, am I going to tighten that goal and figure that out? I'm not ready to say that yet, but I think that goal stands. I'd said it before. There's no change to that goal. That stands. Look, I think it's obviously a lot of moving pieces, but we do have that goal. I don't think we should be having personnel expense. For those people who are not familiar with it, I said we should have personnel expense plus professional services expense, which is just another way of hiding professionals. And absent one-time stuff that goes either way, we separate that out. Shouldn't be greater than 30% of our revenue growth. And you get some acquisitions in there. You do that kind of stuff. You got to normalize it.
But I feel really good about being able to keep to that. Obviously, we did the Verdant thing, and then kind of going through all that, you'll see what those numbers look like. But I feel good about where that is. And I think AI is a big part of it too. And then also embedded in that number is us doing a lot of cool new stuff too. So people can do it. They just got to lock in, as my teenage son would say.
Got it. Yeah. That makes a lot of sense. And maybe switching over to product development, I think you alluded a little bit to crypto trading potentially kind of coming in the summer. But maybe if you could talk about some of the products or verticals or other areas of expansion over the next 12 to 18 months, what are you guys particularly excited about or think could be pretty material opportunities for investors here?
Yeah. So on the security side, you got to know a little bit of history because we bought these two companies. One serves introducing broker-dealers. The other serves RIAs. They have two separate platforms, two separate cores, two separate ops teams. But each have great capabilities individually, but together, they'd be a lot more powerful and really could really take a whack out of almost any of our competitors. So we've been spending time on something we call Axos Professional Workstation, which would replace the broker workstation for all our clearing clients. Phase one's completed of that. It's out to eight clients. They're smaller clients. They like it. Did I mute?
I think everyone got muted for a second, but yeah, I think we're good now.
Okay. Did you hear what I said or not?
Yeah. Yeah. It was like two seconds.
Okay. Yeah. Okay. That's fine. It just said I was muted, so basically, that Axos Professional Workstation is out. The benefits over time is that everybody can have access to that single workstation. We can move everyone in securities there. That will greatly simplify the operations and also allow us to have a modern platform that can work across the brokerage side, the RIA side, and also integrate banking services into it, so there's been a lot of work put into that. It's going well. There's still more to do there, but that kind of securities tech stack is really important because there's just stuff that's missing from the RIA side, and we bought that business at a great price. It's been a good deal, but you can't do margins and options in that platform. I mean, that's a tough one, right?
Obviously, Needham & Company does a great job of that, but it doesn't have all the great model management tools that the RIA side has, so there's consolidation there. We're continuing to work on the consumer platform in a plethora of ways, making our small business side better, and we've got targets when we look at some of these fintechs that have done great stuff. I mean, our small business group continues to grow. They're doing very well. They've got a great cost of funds. They open thousands of accounts a quarter, but we want to be better there. So there's a lot of work going into that, and so that's happening. The consumer platform, we're also bringing the consumer platform.
This is somewhat of a technical thing, but we're bringing it to a place where there's one code base for web and mobile and bringing it to a platform that's going to allow a lot quicker iteration. So that's really important too. Crypto is a part of that. And then we've got some cool stuff on the commercial side that I'm not going to really talk about because I think it's more competitively sensitive. But we're kind of working through exactly how all that will work too. So yeah, just a lot of neat stuff happening.
Sure. Great. Well, it's great to hear. Well, I think we've covered a lot of ground here. I know we still have a few minutes left, but I don't know, Greg, is there anything else, closing remarks, or anything that we haven't hit on that you want to touch on before we sign off?
How much time do we have?
We have about five minutes.
Five minutes. Yeah. On the credit side, things continue to look good. I think the real estate credit side looks great. There may always be a few little knocking around here and there of a few credits on the commercial side. Stuff has been out there pretty much, but feel good about that. Regulatory environment, super constructive. The only thing that everybody has to note, and I've been telling the team, is there's a lot of new charters coming out. A lot of competition can also come out too. And a lot more fintechs are going to be less under regulatory attack and pressure. So that means we just have to continue to be better there because that's an important thing to think about. I'm not worried about it. I think competition is good. I'm in favor of having a good competitive environment with what's out there. Yeah.
And I think, candidly, I'm more excited about this year than I ever have been. Just looking at all the AI stuff, I'm excited about Verdant, just where people have worked through that interest rate environment in a lot of ways. So that's really good. And just a really exciting time here. So there's so much great stuff happening.
Awesome. Well, that's good to hear. So I think we'll leave it at that. But yeah, Greg, thanks for joining us here today. And thank you to everyone that signed on the webcast as well. So.
Thanks, everybody. Appreciate it. You can always follow up with me or Johnny or any of our executives if you want to know more. Thank you. Bye.
Thanks.