Okay. Up next we have a Flagstar Bank. We're delighted to have with us today Joseph Otting, Chairman and Chief Executive Officer, Lee Smith, Co-President, Co-COO, and CFO, and Rich Raffetto, Co-President, Co-COO, and Chief Banking Officer. Thanks so much for joining us.
Thank you very much. An honor to be here.
Joseph, Rich, and Lee, I want to extend my congratulations to all of you. Joseph, the board recently announced, for those that don't know in the room, a one-year extension of your contract through March 2028. That's a strong vote of confidence.
Thank you
In your leadership. Rich and Lee, you're also now serving as Co-Presidents and Co-CEOs in addition to your current role. Congratulations to all of you. Joseph, I guess the question for you is, would love to get your thoughts on the new leadership structure and what this means for Flagstar.
I think it's a natural progression of our company. As we came to the organization in March of 2024, we've assembled a relatively new management team from people throughout both the banking industry and the Office of the Comptroller of the Currency with my background there. Rich was one of the people that we recruited to come in and run a big part of our banking operations. Lee was already there running really the most significant and important parts of the Flagstar organization. Giving Lee the opportunity to be the CFO last year brought him into a very important role into the company. Now with the additions of the human resource function and the technology and operations expands his reach into the organization.
With Rich, it made perfect sense to put all our banking operations under one individual in the company and get the synergies that can have and be created from that. We're really excited. These are two really great guys. I really like working with them, and it's a fun team to be a part of.
Alright. Perfect. I think we'll go through some of that as well. Maybe to start with big picture Joseph, 2025 was a transformational year. 2026, I think the focus has clearly shifted towards sustainable growth and profitability. Can you walk us through the bank's strategic priorities, how they've evolved over the past 6 - 12 months, and what investors have been looking for in 2026 and beyond?
Sure. When we arrived in 2024, we laid out a three-year financial plan and really described for our investors and our employees and the community what we thought the bank would look like in 2027. We've really been on that path since that point in time. The goal really was to get the company to look more like a diversified regional bank, where a third of the earnings were coming from commercial and industrial lending, a third from commercial real estate, and a third from consumer cash flows. Our strategic plan really lined up about our goal to be a top 25 performing regional bank in 2027, as measured by return on assets, efficiency ratio, and return on equity. Just as important, to build a really strong risk governance structure.
If we look at what's transpired over the last couple of years, it wasn't that a number of banks that failed weren't good at what they did with their customers. It was generally there weren't good risk governance structures. My background as the Comptroller, I was able to recruit some really high-quality people from the Office of the Comptroller to help us build that out. Our second mission really was to have a really good risk governance structure. The third part of our strategic plan is to build a really strong customer-centric bank. When we look at Signature Bank or First Republic or Silicon Valley or Union that have all gone away, they were the banks that people thought of in the regional bank space as best in class the way they served our customers.
We have built our whole model and our whole plan around those three key initiatives. There's a lot of energy and excitement in our company today because people are seeing the progress that we're making. We returned back to profitability in the fourth quarter of last year. We were profitable in the first quarter. We've really taken on some real big tasks and we've accomplished those, and it's really shown with the energy that we have in the company to be successful.
Got it. A big part of that strategy is a commercial banking build-out, as you alluded to. The C&I loan growth story has been a really successful story so far. 1Q was a really strong quarter as well, there appears to be significant runway ahead. Rich, I want to bring you in here. You've talked about how C&I bankers typically see an accelerated ramp over their first 12- 18 months. Can you talk about where the business stands in its cycle right now and how much upside there is to the growth?
Sure. Thanks, Manan, excited to be here today. Using a baseball analogy, I'd have to say it feels like we rounded the third inning and we're at the top of the fourth inning. We have a long-term strategy of building a durable and diversified commercial banking platform here at Flagstar. With that effort, you can't do that without talent. The first part of the roadmap was making sure that we attracted the right talent to the organization. We focused on hiring mid-career bankers who know what good looks like. It's really a two-pronged strategy to attract bankers in the geographies where Flagstar already has relevance and branch footprint in the four big geographies around the country where we operate today. Accenting that with commercial and corporate bankers in those geographies to do core middle market and mid-corporate banking.
The second part of the strategy is a national effort to serve unique specialized industry verticals by attracting mid-career bankers who've spent their whole career in those individual industry verticals. We now have over 15 individual industry verticals that touch large swaths of GDP in the energy sector and healthcare, technology, entertainment, sports, hospitality, food and beverage, et cetera, as we continue to scale the commercial and corporate banking capabilities both geographically and in those industry segments. I'm pleased to report that with bankers on board, we're outperforming our own modeled expectations for how soon those bankers will be productive, bringing over relationships, either individual clients or clients that need more than one bank. We join that bank group because we just hired the banker who they've known and trusted for a decade onto our platform.
We expect the banker to be bringing over relationships in that first 90 days, and we're outperforming already.
As you think about the actions that you're taking, the hiring on the one hand, and then the macro environment on the other hand, there is some uncertainty out there. There are higher energy prices. There's a little bit more inflation as well. How are you thinking about that impacting the pace of growth, whether it's in 2Q or beyond?
Sure. Well, we're certainly mindful of the macro environment and the kinds of bankers that we're hiring. Our goal is to hire trusted advisors who are giving advice to their clients in every step of the way. That includes guidance around the macro environment. We have some unique dynamics at Flagstar because we are so under-penetrated in the markets that we're serving that there's a lot of runway for us just to catch up from a market share perspective. We grew our C&I loans 9% in the first quarter on a point-to-point basis, and we'll exceed that here in the second quarter into the 10%+ quarter-over-quarter loan growth as we simply onboard banks and become more relevant.
In the macro environment, I think our clients are showing a lot of resolve and continuing to press forward with important business and strategic initiatives, and we're helping them whether it's to buy a new building or to open a new distribution center. We're seeing that business owners in this country are showing a lot of resolve despite the macro environment. I think they're mindful of a higher interest rate environment and a longer than expected conflict in the Middle East, for example, and stickier inflation. I think the interest rate outlook is our business owner clients and commercial clients are very mindful of. That's why having good advisors as bankers is really important. Is now the right time to hedge? Is now the right time to take on this strategic acquisition?
We think that environment will continue, and we have the opportunity to outgrow our peers as we gain market share and continue to scale our platform in an environment where there's continued uncertainty.
Got it. All right, perfect. Now maybe I want to bring it to the commercial real estate side and Flagstar's continued to see par payoffs through the first quarter of this year. Just given the move higher in rates, what have we seen so far in 2Q in terms of payoffs, in terms of CRE growth?
Yeah, sure. I'll take that, Manan. Again, thank you for having us and for your good wishes earlier. I would say that payoffs have slowed down slightly, and I think it's really driven by three things, one of which is the higher interest rates. What I mean by that is when our borrowers hit their reset date, they have two options. They can either take a fixed rate or a floating rate. I think more in this higher for longer environment are choosing the floating rate as a short-term option, thinking rates are going to come down further down the line. As we mentioned on the last call, we are now looking to retain the better quality CRE loans, particularly where there's a deposit relationship or there's the potential for a relationship around deposits or fee income as we move forward.
We're originating new CRE loans generally. Not necessarily multifamily rent-regulated in New York City, but good quality CRE loans in other parts of our footprint, South Florida, the Midwest, California. All of that together has slowed down the par payoffs and the runoff, and we'll probably be at about $1± billion this quarter.
$1 ± billion . Got it. I guess when you think about the CRE loans that you're willing to keep as they hit their reset dates, I guess how much of those balances are you willing to keep? Is there a number you have in mind or a type of customer that you have in mind that you want to retain?
Yeah. Well, first of all, it's all about relationship banking. We're prioritizing, as I said, those customers where there is a deposit relationship, there's the potential for a deposit relationship, or we can do a lot more business and create fee income opportunities for the organization. We look at it on a net basis. Rather than saying how many of these loans do we want to keep, when you look at how many loans do we want to keep, let's look at new originations and let's look at runoff on a combined or on a consolidated basis. I think if we're in that $800 million-$1 billion a quarter of runoff, that's where we want to be, and we can pull any one of those levers to get there because as Rich has mentioned, we're seeing some very strong C&I growth right now.
We believe this is the quarter where you're going to see us have that inflection point of balance sheet growth driven by that C&I growth that Rich talked about.
Maybe putting together the C&I side and the CRE side, any thoughts on loan growth overall this quarter?
We think we can be right around $1 billion of balance sheet growth this quarter.
Okay. That's the total number. Got it.
Yeah. This is a real inflection point for the company since we've been there. We predicted this at our earnings call that this would be the inflection point where the balance sheet starts to expand, and then each quarter can expand a couple billion dollars each quarter, and we start to build our way back towards $100 billion.
Clearly really strong loan growth coming through. The other side of the balance sheet as you were thinking about funding that loan growth, you just had an upgrade on your deposit rating to investment grade. Can you talk about the opportunities that that ratings upgrade unlocks in terms of either deposit or even on the lending side in terms of the types of clients that you can get?
Yeah. Rich, you want to take that?
Sure. I'll start out, Joseph.
Yeah
I'll hand it over to you. The upgrade to an investment grade on the deposit ratings is very meaningful to us, especially as we look to be meaningful to middle-market customers and even into the corporate space. Many of our clients have minimum deposit counterparty ratings thresholds, and we can now check that box as part of that overall relationship. We're already seeing the benefits of that, whether it's a financial institution client, a corporate client, a commercial business owner client. I think it really helps us from a credibility perspective. We have private banking and wealth clients that moved some of their assets off of our balance sheet. Some of those assets are now coming back on in the form of both deposits and AUM. It has really multiple touchpoints, all positive, as we get these ratings upgrades.
Yeah. I think the other thing is as the balance sheet shrunk, we were able to significantly reduce the FHLB advances and the brokered deposits. Our brokered deposits now are down in line with our peer group. We've continued to use excess liquidity for the Federal Home Loan Bank advances. Last quarter was the first quarter we showed net deposit growth of about $1.4 billion, and we reduced our deposit cost by 23 basis points. We look to have similar kind of deposit growth. The mix of the deposits for us are going to change as we're putting on 75 new relationships a quarter. The mix of those are going to be more business-related deposits that are less price sensitive. As we're looking now to expand the balance sheet, we're going to be able to do that by generating deposits from our customers.
That's all core deposit growth.
Yes, it is.
The other thing that goes-
Yep
Hand-in-hand with that is the branch footprint. You have about 340 branches and another 20 private bank offices. Can you talk about how you're managing that branch footprint both from a perspective of bringing in more of these core deposits as well as maybe what it does on the C&I side?
Yeah. We think the branch system for us has a real opportunity, where most of our branches are in very affluent markets because they had a bit of a legacy around the thrift model. Most of those branches were put in places where there was lots of liquidity. We have a very good branch network, and we've been working on really driving our new strategy in the branch, which is more focused on relationship-type banking versus just paying high deposit rates and having the vast majority of deposits being CDs or money market. I would say we're kind of in the opening innings of that strategy. We really look for that to come together over the next year. That's probably the biggest opportunity that we have in the deposit side is really get our branch system focused on relationship banking.
As more of those core deposits come in, there is more opportunity to reduce deposit costs.
Yeah, 100%. I think if we grew $1.4 billion last quarter, we'll grow $1.4 billion this quarter, and we look for that deposit growth to accelerate, predominantly coming from private banking and the wholesale banking.
Does that help on the loan growth side as well? Or is that more of a deposit cost?
On the business side, usually what happens is in a single bank relationship, you do the loan, and over a 60, 90-day, the treasury management, the deposits, and the interest rate derivatives all flow over to the bank. In the larger transaction, where there's maybe two or four banks, doing the loan effectively gives you the ticket to compete for the other non-interest income and depository in that company. As we book those type of transactions, there's a little bit longer delay. We clearly have a pricing model that makes it difficult to do a loan-only relationship, that the relationship managers have to be interacting with the management teams, talking about what other sources of revenue that are going to be available to the company. We document that in the relationship plan.
We'll go back 12 months from now and say, "Were we able to get those 401(k) business or the payments business or the treasury management to adjunct the return on our credit relationship?
Maybe then let's talk about fees, but I do want to get back to NIM and NII. As you think about fees and the product set when it comes to servicing middle market and corporate borrowers, can you discuss what your capital markets and treasury management capabilities are that help you get that fee business in as well?
Yeah. Those sit under Rich.
Sure. Investing in the core commercial banking products including the transaction services like Treasury Management and commercial card, they are core to our strategy as well as the traditional set of bank capital markets. Loan syndications, certainly interest rate hedging and derivatives capabilities, foreign exchange. We're launching a commodity derivatives capability to serve our customers better in the energy ecosystem. We've got wealth management and related products for business owners, particularly if they experience a liquidity event. We can also do day-to-day activities like 401(k) plan advisory. Wrapping a commercial client that we started a relationship with on the lending side with deposit and these other fee services is all about the core of the relationship management strategy.
We continue to add additional specialty products that could include specialty financing products like an ESOP financing capability or a tax-exempt lending capability that the bank just didn't have 12 months ago. Every quarter, as new bankers come on board, they're reminding us of product capabilities that we either need to enhance or get into, and we're listening and investing in those product areas. That will help us drive fee income in the future and round out relationship ROE.
Yeah. We've built a lot of that out in the last 12 months because either the capabilities weren't being used or we didn't have those. Rich has done a really good job of hiring a really qualified capital markets team. We're kind of front and center of offering all the capital market products to our customers, and that's now presented opportunities where we're the lead left on a number of transactions. In that business, getting to that number one spot is very critical.
You're getting more of the relationship from the client perspective.
Yep.
Maybe pivoting back to the net interest margins. As we think about the NIM, it came in at 2.15% in the first quarter. Your guidance is for 270 - 280 in 2027. How does the current rate environment change that, right? We've had an increase in the belly of the curve, long end of the curve. Maybe rate cuts are coming out of the forward curve as well. How do you see that impacting funding costs and the NIM overall in the longer term?
Yeah. I don't think it really affects where we think we can get our NIM margin. That's because there are a number of levers for us to expand our NIM from where it is today. On the asset side, between now and the end of 2027, we've got $12 billion of multifamily and CRE loans that are hitting their reset maturity dates with a weighted average coupon of less than 3.8%. They will either reset at a higher rate and we'll get the NIM benefit, or they will pay off and we will use that liquidity and capital and give it to Rich, who is growing new C&I loans at an average spread to SOFR of 225 - 240. Again, a very strong market rate. We have $2.5 billion of non-accrual loans.
As we continue to work down the non-accruals, that is trapped earnings, so it'll expand NIM. It's also trapped capital because they're 150% risk-weighted. As we further reduce the non-accruals, that will have a positive impact on NIM and interest income. Then on the liability side, we continue to pay down wholesale borrowings, as Joseph mentioned. We paid down FHLB advances in Q1. We've paid down more in the second quarter. That will help NIM. We're also able to reduce core deposit costs even without Fed cuts. The way we do that is we typically have about $5 billion of retail CDs maturing every quarter. We're retaining 86% of them, but rolling them into new CDs that are typically 20, 25, 30 basis points lower than the maturing CDs.
We meet on this as a team weekly, and we're very surgical at looking at money market and savings accounts and just understanding where can we take five basis points, 10 basis points out without jeopardizing deposit balances. We will continue to do that. If there are Fed cuts, our expected beta is 55-60. We were certainly achieving that and more based on the rate cuts that we saw at the end of last year.
It feels like you have a lot more flexibility on the deposit side. Even if deposit competition is picking up a little bit for the industry, it sounds like you have a lot more flexibility there.
Well, I think we're able to sort of strategically reduce those deposit costs, as I mentioned. The other thing we expect to start seeing coming through, and I think it ties into what Joseph mentioned about the $1.4 billion of deposit growth in Q1, we feel we'll be at a similar number in Q2. It's leveraging those new C&I relationships, and other relationships to bring in, ultimately, non-interest-bearing DDAs, but also low-cost deposits as well, tying it to the lending that we're doing. That's another capability and more optionality we have on the deposit side.
Got it.
The other thing to remind the history is that we started from a much higher cost of interest-bearing deposits. Our ability to bring that down to market is an easier task, so to speak. I mean, we lowered our interest-bearing deposits by 23 basis points in the last quarter. When you start from a higher spot and looking at where the market is, we can bring those deposits down, and our customers are not going to be able to look around and see that we're out of market.
Got it. All right, perfect. Let's talk about expenses. Expenses is down about 9% year-over-year in 1Q. You're guiding to further reductions in both 2026 and 2027. At the same time, more banks are talking about investments in areas like AI. You're investing on the commercial side as well. Can you help us think through how you're balancing both the investment spend as well as the cost saves?
Yeah. As you know, Manan, we have taken out over $700 million of cost over the last 18 months on an annualized basis. It's not an easy thing. There's no shortcut to doing that. You have to look and under every single rock. If you go back two years ago, I think the headcount of this organization was about 9,200, and we're 5,300, 5,400 today. We continue to see opportunities to further reduce our expense base through technology projects coming online that will allow us to get more efficient. We continue to drive vendor expenses out of the organization. As we continue to produce profitability quarter-over-quarter and improve asset quality, that will reduce FDIC expenses.
We're looking at optimizing real estate, particularly some of the operating centers that we currently have. We believe that we will achieve the NIE guidance that we have in our projections for 2026 and 2027, which would put us in 2026 at about $1.7 billion-$1.75 billion of operating expense. $1.65 billion-$1.7 billion of operating expense in 2027. Those numbers are net of the investment that we continue to make in Rich's businesses and the investment that we're making in technology as well. Yes, while we've done a lot on the expense side, there is more we feel we can do to drive expenses down. At the same time, we're still investing heavily in the business.
Rich has spoken about some of the investment spends right there. There's investment spend in products, clearly there's hiring that you guys are doing as well. What is the investment spend on the tech side that you're doing right now?
First of all, when we arrived, we had six data centers in the organization, we, over the last 12 months, successfully closed all six of those, opened up two new co-location centers. We went from six 1963 Ford Fairlanes to modern state-of-the-art infrastructure. We also will be converting our core system. We're on two core systems. We'll go to one core system next year. That'll save us roughly $42 million a year in 2028 when we get through the conversion. I think the other areas that we've really invested in is the risk governance structure of the company. You've heard numbers. We have probably invested $40 million in our risk governance structure to make sure that as we go back and get over the $100 billion, we're prepared and ready for that. As we've said, Rich's area, we've added 350 people.
We've invested in products all the way at time the net takeouts were $700 million. Probably it's more like $900 million - $1 billion when you would say on the safe side. We have been reinvesting in the company.
You think about the use cases for AI in all financial services. We look to participate in that from a financial statement spreading, credit memo underwriting, QA/ QC. There's a lot of applications just in our commercial area where we think we can continue to scale the platform in a more efficient manner by embracing AI and other technology tools.
In fact, we have our own Star IQ, which is our own internal AI tool that people can use in the bank. It's amazing. We have 89% utilization of it. We want to continue to expand how people are using it. We've kind of had people go from Google to AI tool, but really we want people to use it for contract reviews. As Rich was saying, financial analysis, all those things are available for people to use that. It's going to make us a much more efficient organization.
Joseph, you also mentioned going over $100 billion.
Yeah.
If the tailoring rules change, how does that impact any of the investment spending?
I don't think it changes because we've made the investment now, and we feel good about that investment and what it looks like. I do think that rule eventually gets raised, but that probably impacts 10 or 12 banks, while a lot of the things that you see the regulatory community doing today impacts thousands of banks. They've really kind of focused on the side of where it has big impact. I think this whole issue in the regulatory community about focusing on MRAs or MOUs or supervisory action on material financial thing, I think is really profound. I think when that final rule comes out from the FDIC and the OCC, it's going to be incredibly impactful for banks that they can now focus on the things that are most important.
Everybody gets on the same page of that, I think the regulatory harmony with banks will be really solid, that we're all focusing on the right things.
Got it. Let's talk about credit a little bit. One aspect of your credit risk management process is to look out 18 months in your forward-look analysis. You're currently looking out to the end of 2027.
Yep.
What are you seeing in that analysis today?
When you do that, you just have a certain percentage of the bank's customers in that portfolio that their fixed charge coverage on their loans are less than 1:1. That generally then has a tendency to flow into special mention. If it's substantially below 1:1, then you'll order an appraisal and try to make a determination. Is your primary and secondary source of repayment impaired?
As we've looked out, I would say this quarter probably had the least amount of movement in the portfolio. We're really talking about, as you said, the fourth quarter of 2027. Then we kind of enter into 2028, where it's roughly $4 billion. It falls off significantly, and you might say, "Well, why did that happen?" It's because if you go back five years, that's when interest rates started to rise. People weren't locking in as much as the long-term debt. They went to more variable rates. We think the vast majority of that will then be through the process.
I think the thing I would add, you got to remember, back in 2024 after the new equity came in, we re-underwrote that multifamily and CRE book, and we took significant charge-offs, and we increased our ACL reserves and our coverage ratios.
Against a lot of those CRE asset classes are higher than any other bank in the industry. We do that 18-month look forward. 2027 is the biggest year in terms of resets. We've got almost $9 billion. By the end of June, we're all the way through looking at that 2027 cohort. I think what I would say is we're not sort of seeing anything draconian. The way I would validate that is if you look at the last two quarters, criticized and classified loans have come down, charge-offs have come down, provision has come down. If there was anything that was problematic,
You wouldn't see those ratios coming down. We also get annual financial statements on 96% of these borrowers. There is a lot of work we're doing on this asset class. As we've said before, given the $1 billion plus of par payoffs a quarter, there's a lot of liquidity in the market for this asset class from the agencies and other banks and lending institutions.
That holds true even if there's a potential rent freeze here in New York?
Yeah. I think we've talked about, we ran the analysis assuming a three-year rent freeze beginning in October. We assumed that market units would be able to increase by 2.1%, their rents on an annual basis. Expenses would increase 2.75% in line with inflation. What we found was the demarcation line was 70% rent-regulated. Buildings that are 70% or less rent-regulated doesn't have a significant impact on NOI. Those that are more than 70% rent-regulated over that three-year period it impacts NOI 7% or 8%. As we've looked at our portfolio and we have about $8 billion, half of it is pass rated with a very strong DSCR 1.5. The criticized or classified, as I mentioned, we have significant between charge-offs and ACL reserves. We've probably got 20% coverage on that population. Again, we feel pretty good about where we've got that marked.
Yeah. I think the proof is kind of in the pudding, so to speak, is as we've done DPO and asset sales, virtually all of those have traded at or above where we have them marked on the balance sheet.
Got it. All right. Quick clarification, there were some headlines recently regarding potential relief for certain categories of rent-regulated landlords. Is that meaningful for your customer set?
I think the two points that have been made is there is what they call ghost units that are in the market where people have moved out of the units, and the landlord could not get a sufficient return on their investment to remodel to make the units occupiable again. They've just basically closed the door, locked it, and didn't put a new tenant in. We're still trying to figure out the details around that, but I think that would be a brilliant move by the mayor's office if they unleashed those 50,000 - 60,000 units and got them back in the market. That'd be the easiest way to create availability. There's also talk about a city-backed insurance platform. A lot of those projects have seen 30%, 40% back-to-back year insurance cost increases, lowering that.
There's tax abatement, where some of the larger projects have gotten tax abatement, but they've signed up to CapEx expenditures over the next 20 years for those tax abatements. I think there are things and solutions that are coming together to try to solve what is, in a lot of instances, very difficult economics for the owners of those buildings.
If anything, it would be a positive.
Yeah.
Right. Okay, perfect. Okay, in the last minute or so that we have, let's end with capital. Joseph just given the approximately what, $1.6 billion of excess capital that Flagstar has today. How are you thinking about the pace of capital deployment going forward and how are you thinking about organic growth versus buybacks there?
Yeah. The number you have is on an after-tax basis, $2.3 billion on a pre-tax. We're roughly 13.3% on CET1. That obviously will probably increase this quarter. Our target is in the 10.5% level range. The bank does today have what would be deemed excess capital. We've communicated that three things that the management team thinks is important to gather around. One, that our core earnings are consistent and solid. We hope to begin to have the third quarter of profitability. The second is that we continue to improve the credit quality, and the trend line on that is good as well. Really getting an understanding as Rich ramps up the C&I business, how much capital will be necessary to support his $2.5 billion-$3 billion of originations and how much real estate would pay down.
Our plan is in the second half of the year is after we've gone and discussed it with the board, is that we think we would head in the direction of doing some type of stock buyback. We think we have enough capital due to the organic growth that we anticipate happening.
Stay tuned for that July earnings.
Yeah, sometime in the second half of the year.
All right. Perfect. Great. With that we're out of time. Joseph, Lee, Rich, thanks so much for your time.
Yeah, it was a pleasure.
Thank you very much.
Thank you