Astoria Financial (AF) in Lake Success, N.Y., is proving that an old thrift can learn some new tricks.

The $15.7 billion-asset company has spent the last three years shifting its focus from a largely residential lender to a bank that makes more multifamily and commercial real estate loans. The shift led the company to change the name of its Astoria Federal Savings and Loan to Astoria Bank.

"The name change is a reflection of who we are today," says Monte Redman, the company's president and chief executive. "Our business banking has seen double-digit growth and we have been making the transition to a full-service bank."

Multifamily and commercial real estate loans have become a larger part of Astoria's portfolio, reaching 34% of total loans at March 31. That compares to 26% a year earlier.

Increased commercial lending was "probably a decision that was born out of necessity," says Robert Ramsey, an analyst at FBR Capital Markets. The prolonged low interest rate environment and the government's role in the housing market have squeezed Astoria's profits, he adds.

Management realized it could fill a void in its markets by expanding its commercial real estate and business banking, Redman says. The company could provide added services to clients that had grown too large for smaller banks, he adds. At the same time, Astoria will also target businesses with up to $30 million in annual revenue that are often considered too small for larger banks.

"There are people who grew up in Brooklyn and Queens and moved to Long Island and had one of their first accounts with us or got their mortgages through us," Redman says. "These same people who have a business are maybe looking to refinance their facilities or could use the services we provide to help their own businesses to deal with the what ifs."

Redman touts the company's ability to steal business from other banks, adding that core deposits have increased from 41% at the end of 2010 to roughly 58% at March 31. He says Astoria wants multifamily and commercial real estate loans to make up about 45% of its portfolio by the end of next year. At that time, core deposits should reach 80%.

"It is a competitive environment but customers like what we do," Redman says. "We've always been involved in the community because the stronger we make the community, the stronger they make us."

Astoria in 2011 hired a team of multifamily and commercial real estate lenders from Sovereign Bank; now it has 70 employees working in those fields. It has also expanded its business banking team from 21 people at the end of 2012 to more than 40, Redman says, adding that the team could have 60 employees within a year.

More than half the company's branches are managed by employees with commercial lending experience. And Astoria recently opened its first Manhattan branch to help support its efforts in business banking.

So far Astoria has done a great job of laying the groundwork for its transformation but now it needs to prove it can fully execute on that strategy, says Mark Fitzgibbon, an analyst at Sandler O'Neill.

The company is beginning to see some improvement in its net interest margin. Though yields are low for multifamily loan, they tend to be higher than Astoria's current net interest margin, Fitzgibbon says. Astoria's margin widened 17 basis points in the first quarter from a year earlier, to 2.36%.

Still, Astoria's transformation is not yet complete, particularly on the liability side. "The biggest and most important next step for them is to show the remix of the balance sheet," Fitzgibbon says.

"They've also been working to build their commercial deposit relationships and they've hired a lot of people to do that but early on, their commercial deposits are still relatively small," Fitzgibbon adds. "They've completed the fundamental building blocks piece. Now they just need to produce."

Improving profitability and growth are Astoria's biggest challenges, Ramsey says. The company must increase its return on assets and expand its loan portfolio. Though Astoria has booked more commercial real estate loans, its residential mortgage portfolio has continued to run off.

"As your assets shrink, your income typically shrinks too," Ramsey says. "That has been a real headwind for them. They are optimistic that they will see stabilization or growth by the end of 2014."

There are also questions about how asset sensitive Astoria's balance sheet will be once interest rates start to rise and how much of its core deposit growth will prove sticky, Ramsey says. How borrowers and depositors react to rising rates will be telling, he adds.

It is unlikely Astoria will be an acquirer since its stock price isn't strong enough, though it remains an attractive takeover target, analysts say. (Astoria declined to discuss potential M&A activity.)

Astoria operates in a desirable market but its size limits the number of potential buyers. Management is likely to focus on boosting the bank's profitability so if it does decide to sell, it will command a higher price, Ramsey says.

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