Q3 2020 First Merchants Corp Earnings Call
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This presentation contains forward looking statements made pursuant to the safe Harbor provisions of the private Securities Ledger State.
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Such forward looking statements can be identified by the use of the words believe expenses.
And includes statements relating to first merchants business, great strategies loan and investment portfolio.
Quality risks and future cost the.
The statements are subject to significant uncertainties that may cause results to differ materially from those set forth in such statements.
Including changes in economic change or conditions, the ability of first merchants to educate.
Distinctions changes in regulations and requirements of the company's regulators.
Hi, just completion changes in the credit worthiness of customers fluctuations in market rates of interest and other risks and factors identified in first merchants filing with the Securities and Exchange Commission first.
First merchants undertakes no obligation to update any forward looking statement, whether written or oral related to the matters discussed in this presentation or press release.
Additionally, the company's past results.
Operations do not necessarily indicate its anticipated future results. Please note. This event is being recorded I would now like to turn the conference over to Mike brick and President and CEO. Please go ahead.
Thank you Emily.
And welcome everyone to our earnings conference call and webcast for the third quarter ending September Thirtyth 2020, I'm joined this afternoon by several of our executives.
Typically mark Hardwick, our Chief Financial Officer, Chief operating officer, and soon to be Chief Executive Officer.
Well, John Martin, our Chief Credit Officer.
Also joining us today is Michele kabi, ASCII or director of finance and soon to be Chief Financial Officer effective January 1st.
Mike Stewart, our Chief banking officer, and soon to be President of this company also with US in the event that he can add thoughts are that may come up through questions later in the presentation.
[music], but given the unusual year and rapidly changing environment. Our goal is to provide a thorough review of our third quarter's results coupled with an eye towards 2021 is our planning.
I'm not sure.
Looking for opportunity next year.
We released our earnings in a press release. This morning at approximately eight am eastern time in her presentation speaks to material from that release the directions that point to the webcast were also contained at the back end of the release and my next thoughts well start from page bought for a slide titled third quarter two.
And then 20 highlights.
[music] first merchants has reported third quarter 2020, net income $36.2 million compared to $36.8 million during the same period in 2019.
Earnings per share for the period totaled 67 cents per share compared to the third quarter 2019 result of 71 cents per share.
Also at the top of slide four.
With reference to our pre tax pre provision income up $54.4 million and it resulted in a 1.59% return on assets.
[music] the quarter featured a good stabilization of our core net interest margin that speak Mark will speak do here shortly.
As well as strengthen our fee categories, specifically those client related fee categories that reflect increased activity.
Mark will be speaking to all the components of our noninterest income, including our first incurrence of Durbin Amendment limitation.
Middle of the page asset and the dog deposit.
Comparative primarily with last years third quarter and the growth in age primarily reflected due to the P.P.P. program earlier in 2020 this quarter had a blow by blow an absence of organic growth in the loan generation. Despite active origination levels that I know are part of John Martin It's called.
<unk> and I'm happy to speak to our pipeline as we look forward maybe at the back end of the conversation.
The bottom of page for a couple of metrics around the growth and high level of our capital levels, including tangible book value per share growth in this middle bullet point, 10.4% over the third quarter or 2019.
And added at the bottom of the capital section I comment that would complement some of the material that John will detail later and that is a moody's providing a bank standalone assessment of our credit.
Athree baseline.
I'm going to move to page five.
Some additional asset quality comments, including.
Our measure of allowance in fair fair value marks at 1.65% allowance.
Reserve build a three.
Throughout the period in anticipation of additional recessionary environment moving into next year, a 12 and a half million dollar provision in the quarter mile will be down and yet several million dollars $6 million. The bowers above our net charge offs response responsible for the reserve build.
[noise] liquidity.
Even more evidence of a healthy balance sheet and a alluding to the 3.4 billion dollar investment portfolio that continues to have top quartile industry performance.
John's going to speak in his material about the state of our cares act reaction to the marketplace and our clients' needs and the material is low level of remaining portfolio in deferral.
Including hooking into the concentrations within those deferrals and speak to really the only meaningful concentration at all Oh in.
In the hospitality business.
The metrics around the cares act behavior at the bottom of page five specifically the reference to $900 million in funded originations in the PPP program and the applications effectively match, what we would have discussed at the June 30 call. Although at this point and John May cover it where are we.
Well into the filing of applications for forgiveness and look forward for that to accelerate through the balance of this year and certainly through the first part of 2021.
[noise] I moved to page six and reference a franchise map that we used in our last call.
And we're seeing progress in recovery throughout the markets. We're in you can see some of the comparative level.
Levels of unemployment around the states that we do business in.
Consistent with the national numbers, the cobot cases, rising and yet our markets remain predominantly open itself out our bankers to be.
When consistent with customer preference on the street seeing our clients.
Or through whatever communication medium is called for but the activity based on the relative geographic openness of our economies have been terrific for us to reset the tape the economies.
At this point, even with the rising cases, we've had very limited government mandated retrenchment on any of the openness stages that our primary markets have had specifically all iowan, Indiana that house and 85% roughly of our loans in greater than 80% of our deposits. So at this point.
And I'll, let mark and John have Michelle speak a little bit deeper into the results for the quarter.
Thanks, Mike.
My comments will begin on slide eight our total assets on line seven increased by $1.3 billion for 13.7% annualized since year end 2019.
Last month on line, one increased by 337 million or an annualized 17.3%. Following a strong 2019, where investments increased by 59% over 2018.
Loans on line to have increased 779 million since year end of the increase PPP loans net of deferred loan fees and cost accounted for $901 million of the growth and you can see that number highlighted in footnote one.
Additionally on line three the allowance for loan losses increased by 47 million or 59% year to date, primarily due to COVID-19 related economic challenges.
The composition of our $9.3 billion loan portfolio shown on the upper right hand side of slide nine produced a third quarter 2020 yield of 3.93%.
I'm from the second quarter of 2020 yield for 10, despite the linked quarterly decline in overall loan yields of 17 basis points, our net interest margin, which I'll speak to in a moment stabilized materially this quarter also.
Also of note PPP loans negatively impacted loan yields by 12 basis points this quarter and nine basis points in the second quarter of 2020, so our normalized loan yield for the quarter was four or five versus the 393.
On slide 10 as of September 32020, our 2.9 billion dollar investment portfolio produced a 2.94% yield with an unrealized gain of $141.5 million, we anticipate expanding our commitment to the tax exempt municipal.
Sector, which currently stands at 56% of the portfolio our quarterly gains highlighted on the right side of the page borrowers are a result of opportunistic sector sector migration and duration management. This active management along with the sector allocation decisions are the reason that our.
Builds are about 70 basis points better than our peer group and our unrealized gain is nearly double the peer group.
On slide 11.
Total deposits increased by 1.1 billion or 14.4% annualized over year end 2019, following 2019 growth of 2.1 billion or nearly 27%.
Some portion of the increase is due to PPP loans and the related deposit balances.
We believe that our loan to deposit ratio of 85% and our loan to asset ratio of 67% provides the bank with strong liquidity levels.
[noise] the mix of our deposits on slide 12.
Key to both liquidity strength and low cost funding third quarter interest expense on deposits totaled 36 basis points down from the second quarter of 2020 total of 47 basis points.
Production of 11 basis points helped offset the loan yield compression that I mentioned on slide nine.
As we move through the remainder of 2020 and end to 2021, we have deposits repricing that should bring down the <unk> our interest expense even further in the remainder of just 2020, we have another $348 million of Cds that mature with an average rate of 1.67%.
Given a new rate of approximately 30 basis points or less our say our savings should be approximately $1.2 million per quarter.
All regulatory capital ratios on slide 13, our above the regular the regulatory definition of well capitalized and our internal targets, which ensures the bank maintained strong capital.
For events, such as the current cycle ramp when adjusted for PPP loans, which are 100% government guaranteed our tangible common equity ratio increased during the quarter to 10.19%.
Now, let's turn to slide 14, the corporations net interest margin decreased four basis points and just two basis points net fair value accretion from the second quarter of 2022, the third quarter of 2020 of the decline PPP loans accounted for one basis point because.
The P.P. loans caused margin to decline by seven basis points this quarter compared to six basis points last quarter. So just stated differently were down four basis points two basis points of the decline are related to fair value accretion decreases and another basis point is related to.
All the PPP loans that we have on the books at the end of the quarter.
We believe net interest margin has reached a predictable level for the near future and should carry us into 2021 line. One of the slides is also encouraging as net interest income on a fully taxable equivalent basis increased by a couple hundred thousand dollars over the second quarter of 2020.
Now totaling $97.3 million.
Noninterest income on slide 15 totaled 26.1 million for the third quarter of 2020 customer related fees increased to 23 million up from just $21.1 million in the second quarter of 2020, Despite a 2 million dollar decline in card payment fees online.
Three as the Durbin impact was fully realized in the quarter.
The gradual return to service charges on deposits on line one.
Improved wealth management fees on line, two and the gains on sale of mortgage loans drove the improvement from 23 to 21 net of the Durbin impact.
Service charges on line one and.
Include return check and Odcs, which declined in the second quarter of 2020 from the first quarter of 2020 by 1.7 million in Q3, we recovered approximately 700000 of our normal run rate as the economy continues to improve we anticipate regaining the remaining the remaining $1 million.
[noise] as expected non interest expense on slide 16 totaled $64.7 million in the <unk> and Q3 of 2020 as.
As a reminder, in Q2, we deferred $2.3 million in salary expense related to PPP loans.
We had a $1.1 million reduction in our bonus accruals in Q2, and we had a $1.6 million decrease in debit card payment processing expense due to the termination of other rewards program.
All of these items lowered non interest expense in the second quarter.
From normalized levels, we anticipate noninterest expense in the fourth quarter of 2020 to be in a very similar range as our third quarter 2020 results.
Now on Slide 17, we were pleased that our bottom line totaled 36.2 million and net income and earnings per share reached 67 cents per share.
On slide 18, you can see trends and earnings per share dividends and tangible book value per share and we believe that our dividend, which is still less than or less than a 50% payout ratio is reasonable in this environment.
On Slide 19, you will notice our total compound annual growth rate of tangible common equity is still over 10% and our dividend yield is nearly 4.5%.
Now Michelle can be asking senior Vice President of finance will cover a couple of key items related to loan loss coverage and capital strength.
Thanks Mark.
Next we'll begin on slide 21, looking at the top right of the slide you'll see that we continue to build our reserves, although more modestly than we did last quarter. We had the beginning allowance balance at the end of Q2 of 121.1 million less net charge offs of 6.9 million, which John Martin will talk a little bit more about.
Plus the Q3 provision expense of $12.5 million, which brings us to the September 30 allowance for loan loss balance of 126.7 million.
I would remind you that we elected to defer the adoption of Csos do we calculated the provision using the incurred boss method, but continue to run our system models parallel and we'll be implementing the see some methodology next quarter.
Moving down to line nine the remaining fair value marks on purchase loans totaled 26 million, adding those marks to the allowance balance totaled 152.7 million, which is 1.65% of total loans, which Mike mentioned earlier in his remarks.
On slide 22. This is a slide that we added last quarter, which is intended to show you that when considering our robust capital and allowance for loan loss levels that we have more than 500 million in reserves to Cushing us through the economic downturn the table at the top shows a roll forward of the allowance for loan loss since last quarter.
The first highlighted line shows our current allowance balance of 126.7 million with an allowance to loans ratio of 1.37% when excluding the PPP loans from total loans the allowance to loans is 1.52%.
And as I said earlier, we did not adopt peaceful but in our 12 31 19 form 10, K., we disclosed that the estimated Cecil day, one adoption. If we had adopted on January 1st was estimated to increase the allowance by 55% to 65%. So a point, 65% to the December 30.
119 allowance for loan loss balance of 80.3 million creates a Cecil day, one adoption increase of 52.2 million.
Pro forma of our allowance with see some adoption at September 30, using these assumptions would have yielded a total allowance of 178.9 million, which is a robust coverage ratio of 1.93% and 2.14% without PPP loans.
The increase in the allowance for seasonal adoption wouldn't lower capital on an after tax basis. So in the bottom left corner I provided a pro forma of our total risk based capital ratio. Our current total risk based capital ratio is 14.38% when reduced for the impact of Cecil the ratio would be reduced to 30.
18.89%, that's still leaves $338 million of excess capital above the well capitalized levels.
Excess capital added $279 million of allowance both shown post Cecil gives you more than $500 million of reserves, that's enough to cover a 6% to 7% non P.P.P. loan charge off ratio. It's important to keep in mind that this is before considering our strong pre tax pre provision earnings levels. It will continue to gen.
Great additional capital as well as the 26 million remaining fair value marks therefore, we feel confident in our balance sheet strength as we continue working through this economic downturn and especially in consideration of the credit performance John Martin Our Chief Credit Officer to talk about today, so with that I will turn it over to you John.
Thanks, Michelle and good afternoon.
Again my comments on slide 24 by reviewing a loan portfolio provide an update on modifications discuss the cobot sensitive portfolios review third quarter asset quality, then touch on the PPP loan program before club was providing some closing remarks so.
So turning to slide 20 for the portfolio was mostly unchanged with reductions in Cnine construction lending on lines, one and four offset somewhat with increases in sponsor finance and owner occupied Cnine related commercial real estate with an overall net decrease aligned 14 of $52 million.
Then turning to slide 25, and contributing to a portion of the decrease in Cnine commercial loan balances was the lower line utilization, which attributed to $46 million and decreased commercial line of credit Outstandings. This.
Despite the lower Outstandings, we continue to book new commitments as shown by the Blue bars in the same graph with commitments, increasing $60 million as well as an overall growth and pipeline activity that might crack and will discuss in his remarks.
Moving to the right portion of the slide.
Hi, good modification still in deferral have fallen to $176 million or roughly 2% of allowance down from a high of $1.1 billion.
First modifications last quarter or roughly 12% of loans, we continue to work with affected borrowers through the latitude granted in the cares Act and I'll talk more about some of those efforts as I discuss the slides related to cobot sensitive industries.
Turning to slide 26, where we breakout the industry's most impacted by the pandemic hotels and hospitality is having continued to be the sector, where the most significant amount and number of modifications were granted with some lesser amount in manufacturing and wholesale trade.
Please turn to try to slide 27.
Where I'll focus for a moment on the residential mortgage and consumer portfolios residential mortgage lending has been strong across the industry and we have benefited from the robust refinance market as well our gain on sale is up 50, 657% over Q2 to $5.8 million. Despite.
Intentionally taking over $30 million into the portfolio a 15 year mortgage is.
In the quarter or 150 million $15 million year to date, where yields were favorable as comparable to mortgage backed securities from an investment perspective.
As far as the consumer and mortgage portfolio modifications are concerned there remain only $8 million of loans and deferrals at the end of the quarter, we are less than roughly one half of total mortgage and consumer loans, which I'm really pleased with.
Moving to slide 28 this slide.
Has been re work to help clarify how we think about and have aligned the sponsor finance business. How it is separate and distinct from our traditional regional cnine exposure as well as our shared national credit exposure.
The sponsor business is primarily focused on providing corporate acquisition financing, where a private equity firm as acquiring a portfolio company. It is not dissimilar to typical acquisition financing that we provide with the exception of private equity investment.
The business sources opportunities from private equity firms in the Midwest and southwest Southeast excuse me and at the end of the third quarter consisted of 44 borrowers totaling roughly $340 million in outstanding balances.
With that general definition of a leveraged loan in the upper right hand portion of slide 28, the table related table at the bottom of slide 28 shows $485 million of a leveraged balance is for not only the sponsor finance line of business.
I just mentioned, but also for traditional regional Cnine and our shared national credit portfolio.
Highlight that not all of this sponsor portfolio meets our definition of a leveraged loan and that there are to leverage relationships that remain in deferral at the end of the quarter only one of which is in the sponsor finance group.
This relationship is expected to come out in November without issue.
Moving to slide 29, and the investment real estate portfolio of the $2.1 billion of investment real estate, there is 115 million or 5.5% in deferrals at the end of the quarter loans are concentrated in Indiana, Ohio, Illinois and Michigan.
With roughly 30% concentrated in multifamily housing.
Then on slide 30 I've drill.
Further on the hospitality portfolio, our deferral strategy for hotel borrowers has been to grant a first deferral of either a 90 day, which was more typical or 180 days depending on.
The situation.
At this point if the borrowers requesting extension into next year. We are beginning to require current appraisals prior to deferral to determine accrual status, even as we take advantage of the flexibility flexibility provided under the cares Act.
We continue to retire or review this portfolio quarterly and expect that the portfolio will be somewhat slower to recover.
I think of it this way deferrals refers that 92% or 1% of total loans in the hospitality portfolio and our secured by the underlying real estate, which gives me confidence that by working with the borrowers and by using the flexibility provided by the cares Act the amount and number 10.
General and nonperforming assets will be muted.
Yes severely material negative change in the environment.
Then turning to slide 31.
Drill down into the retail trade from last quarter to provide additional detail.
This category consists of a diverse set of industries similar to those found in our geographies of the total $246 million or 2.6% of total loans are secured by investment retail real estate.
Turning to slide 32, we broken out restaurants, and food service as well as senior living well restaurants in foodservice have deferrals in line with the rest of the portfolio senior living despite its lack of deferrals has experienced a somewhat morse has experienced somewhat more stress as I will discuss.
As we turn to slide 33, and I talk about asset quality.
On line five of Thirtyth through Slide 33, five total total npis.
Plus 90 days delinquency increased by $4.1 million as a result of $6.6 million.
A net increase and non accrual loans $1.6 million of renegotiated loans and a reduction of $3.7 million moving from 90 days past due.
Classified loans increased 5.5% as we continue to receive financial information from earlier in the year and move regulatory grades as appropriate.
Now turn to slide 34, and let me discuss some of the more meaningful events as they relate to the previous slide last quarter I discussed a $14.4 million sponsor relationship that migrated to non accrual in the quarter, we substantially resolved the name by receiving roughly $5 million in proceeds.
Feeds which is included on line three charging off $6.7 million, which is included on line five while carrying $2.8 million into the fourth quarter that has since been collected.
Backing up to line too and connecting it to my earlier comments about senior living facilities, the $20 million increase in new non accruals came largely from a $14.1 million alone for a newly constructed skilled nursing facility. The nursing facility had been slow to achieve its projected occupancy.
Which when the pandemic yet experienced issues and was subsequently unable to perform.
Given the circumstances the facility was not a candidate for payment deferral under the Cures Act and was moved to non accrual other than the nursing nursing facility. There was a $3.9 million borrower that had become seriously past due in the quarter, which was moved to non accrual that loan has subsequently been paid in full.
Then turning to slide 35, a quick ERP update before I wrap up we.
We started the process the PPP forgiveness with roughly to $923 million of exposure and more importantly, with 5241 loans. We have created internal forgiveness team spot of software and have begun processing request and have made adjustments for the recently released guidance for borrowers.
Request less than $50000.
As of October 30, 26, we have submitted $94 million for forgiveness for 154 applicants.
Then turning to slide 26 to wrap up the credit discussion ending the third quarter, we've seen some stress in the senior living portfolio, but it's manageable our largest deferral category is concentrated in hotels, and hospitality, which had $92 million in deferrals and continues to recover this.
1% of loans secured by real estate.
The rhythm established for the review of four portfolios.
And we continue to compile results and develop strategies with the borrowers.
We had charge offs of $7.4 million in the quarter, but $6.7 million isolated to any individual borrower.
This still leaves us with only 30 basis points of loss.
With an experienced manager and team, especially our last in our special assets area and a team of workout specials from the last recession and based on what we know and under current conditions I continue to be cautiously optimistic as we head into the fourth quarter and beyond.
All right, Mike I'll turn the call back over to you.
Hey, Thanks, John.
I had a little bit more material and got them before I do that I wanted to add a couple of different perspectives.
Some of the perspective.
Mark might have shared earlier or John Mark in particular, and highlighting some of the non interest income categories spoke to dollars right out of the financial statement that's the intent.
What's behind that is an increasing activity or an increasing engagement of our customers in the economy I feel like there is an advantage that accrues to our company by being in states, where the economy is getting its legs more quickly than other parts of the country and so for instance.
At card activity, which reached its floor in the March April time period at about just over 16 transactions per card.
Rallies to a September early October level, 21 transactions per card 26, or 27% up included in kind of the dollar synopsis that mark provided.
Commercial transactions for a commercial bank show similar levels of recovering engagement remote deposit volume up 6% in that same March to September time period, I used a moment ago why your activity up 22.
Percent.
Hey, CH volume up 6% in units.
17% in dollars.
Reasons to look forward and follow a Mark's commentary about the service charge line item likely to reach its prior levels.
John referenced the pipeline then pretty unusual for our company to have a quarter with absence organic growth typically.
About 1% to 2% per quarter eight ish percent on an annualized basis, often times higher so thats unusual and yet we follow the lead of our clients.
It's also unusual to book $900 million on loans in our 45 day period on a base of $9 billion in the time period immediately prior to that.
So we're learning as we go and I want to thank John for his intentional.
Yes on a dominant area of interest.
Couple of the themes I heard were extensive portfolio care.
And in conjunction with our line of business bankers extensive client care.
Continued reserve build ahead.
Head of as Michelle pointed out our end of year seasonal adjustment.
And the themes in combination speak to a bank addressing a recessionary strategy of capital preservation.
While we figure out where this cobot things going.
In the day to day reality is were working awful hard with our clients.
I wanted to speak to page 38, the last page in here before we take questions, it's titled well positioned for the future. So we're at this point as you can imagine actively working with our 2021 plan in our multi year plan has elements of a survive in advance not knowing exactly work a little bit.
This is the end and so that impact or to extend itself, we've got tactics and strategies for that our plan those really matched.
The persistence towards our historical strategic direction.
First merchants is a leading organically growing acquisitive regional banking company with commercial banking excellence at its core.
From business banking and the consumer bank to a private banking in our wealth management business in all of our commercial segments. It drives our service level market advantage and it drives our whole bank approach.
A little bit on the content, maybe at the bottom of page 38 the initiatives.
They are within our plan is to be a more deliberate in deriving our communities future leading from the front for the broader economic help we can achieve.
Also like other banking company, we're going to drive channel change, while we affirm our go to market protocol more digital investment coupled with more infrastructure and banking center optimization, all we were going to be in our plan I'd like where it's gone.
Our historical efficiency remains an imperative, while we're clearly listening to the voice of the customer.
Middle of the page comments.
On performance and on capital strength, you've heard them from a couple of my colleagues.
They are our business case for the compelling value proposition in quotes at the bottom of the page the.
The performance and capital strength bullet points were also the criteria for the current recognitions on the right side of page 38.
Including the current month, Newsweek honor as Indiana is best Big Bank.
Lastly, and most important is the strength of our executive team.
A month ago, our board announced that transitions in the top of page 30, a bullet point.
Our succession were.
Reviewed annually will provide continuity growth fresh ideas.
Most importantly shareholder reward.
Mark Hardwick as our CEO Mark spent here over 22 years. This is a seasoned individual who is well known to the listeners on this call and I would tell you on a significant hand in the formation of our company's culture.
Mike Stewart become President first of the year greater than 12 years at this company and that worked with him throughout my career from more than 25 years. There is no one as sharp as what's on a customer mind and how you saw for then Mike Stewart as he shares it with our team on the Street, Michelle caveats, you'll be taking over as our.
Chief Financial Officer, who joined US for the last couple of calls the company more than five years came with a larger competitor of ours and I really look forward to the impact she is going to make and then John Martin who is really not in the bullet point because there isn't that fits your change continues with is longer than 12 year career as first merchants as our chief.
Credit officer and for any of those of you on the call that watched him execute our strategy through the last recession.
He is doing the same darn thing with a broader team.
So these folks are supported by teams of first merchants professionals Commission committed to be pushing forward getting better makes me excited and optimistic I appreciate having the chance to say so so at this point family. We are ready to go back for questions.
I'll begin the question and answers.
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The first question comes from.
Hi.
Hi.
Please go ahead.
Afternoon, guys.
Scott logic, Hey, congratulations everybody lots and lots of things going on there.
First question, Mike you sort of alluded to it in your closing comments.
The pace of loan growth sort of a little unusual for you guys from the outside it can be a little tough to tell what's going on even industry wide. The bigger banks are seeing loan contraction in some of the smaller banks still kind of holding their own and you guys are sort of in a little bit of a middle ground. So maybe just some color on exactly how your customers are thinking about things what loan demand looks like and where you might see it going.
Over the coming couple of quarters.
Oh I am glad you came back to that because I had my pipeline statistics right in front of me and while I got hung up on some of the feed driven pipelines and levels I skip that one so I appreciate you, bringing it back to me.
Well, let's break it up into parts well lets talk attitudinally. So Mike Stewart, Jerry you might have an AD, but our customers are wary.
Looking at the same set of uncertainty as we are on yet there are opportunistic and so and John Martin Statistics, you talked to you about a pretty healthy level of originations and so our last quarter originations are a great our utilization weighed down about 10% over the last two quarters I think it's 42% this down from 52 per.
Dentist over the last couple of quarters Scott.
Let me talk on my comment I'm going to come back to the Cnine part in the real estate partner tuck ins, but relative to mortgage it's just really really strong like most mortgage participating banks are and yet our might be even a tad stronger than that I was looking at you know there is obviously a seasonal dip typically right when you get to the holidays at the latest part of the calendar year.
Going into the fourth quarter, our pipeline was even higher than it was in the third quarter. So the rate driven business that is good and our execution has been great. So mortgage is going to continue strong.
And strategically maybe some more of that will wind up on our balance sheet versus the originated sell model, which is dominated our mortgage business for years on kind of the more rubber meets the road business to include our specialty businesses municipal and sponsor.
We're gaining steam.
Or not is where they're not where they were four quarters ago and yet I'm looking right here I'll just I'll just quantify upward commercially we're up to $600 million from 440 going into the last quarter. So I would just caution the idea that that number which we've historically shared would incorporate all of our.
Construction commitments.
And so draws against those are uneven than it obviously can't speak to what our existing clients do with the utilization going forward, but in terms of origination pipeline commercially it's up 100, and more a little bit more than $150 million from where we started the last quarter.
We view that positively.
Does that help with the with what Youre looking for.
It does it does Mike so thank you. Thank you very much.
Then maybe.
Next question is for you. So the 52.2 million seasonal impact I understand thats or sort of at this point less.
Illustrative based on the the range you had given previously but without occurring in the fourth quarter will will the adjustment to the reserve run through the income statement or will that run through below the line. The way they did that it did for the other institutions that had adopted earlier this year.
Well the the 52.2 will go through equity.
But then any catch up that we have which we really don't I mean, I think we're in our fourth quarter, we'll be looking at our provision you seem to see some model and that provision whatever adjustment we have in the fourth quarter will come through the income statement.
Okay.
Okay. So the 52.2 would go through equity, but then any additional sort of I guess kogut catch up would go through the provision is that a fair characterization.
It is you know I think the way that we have viewed our provision you know we did you know him and we build fairly aggressively through the last three quarters and they've been running our models parallel and so I think in Q4, you know right now I would expect we would have some reserve bill how much I'm not sure you know we'll have to look at our forecast.
Our loan growth.
Get quality et cetera, but.
I don't expect it to be as aggressive as it was in the first two quarters.
Okay, perfect and so that that actually went to the heart of my final provision related question I mean, you guys.
As I recall the commentary in the last couple of quarters, even though you've been incurred loss Mets methodology, you've been sort of providing at a level that would have equated to what you would have done in a in a seasonal world rights, there shouldn't really be that much of a.
A real catch up right.
Thats correct.
Okay, all right perfect all right. Thank you guys very much.
Thanks Scott.
Our next question comes from Kerry.
[music].
Please.
Hi, Thanks, Good afternoon, maybe just more of a bigger picture question to start how are you thinking about the branch foot print today quite a few pure banks, if talked about some branch consolidation and and a benefit to the expense line and so I guess as you look out into next year.
What are your thoughts on that topic.
Jerry its Mike ill start with that and then mark might have a comment but it's a every year part of our planning process and when you look historically at US we've been optimizing our stay.
Storefront.
Census for years were probably down 40 stores in the last five or six years.
We're looking at it again, obviously, we did a great job of helping our clients use our digital technology and clearly the lobbies were closed for some period of time and so that's going to have an impact on our costs. I know you are trying to get to a more specific answer we're going to have bank.
Center closures in our 2021 plan, we're trying to size that right now both in number of locations and the expense component as we also assess the investment we're going to be making in our digital technologies.
Thanks, and then as a follow up question I, maybe a little too aggressive on the the durbin impact in the card payment fees.
You may be talk about the fourth quarter.
Mike I know you talked about growth rates in some of the businesses that drive the revenue there, but could you maybe help us out in terms of the fourth quarter, what type of pick up those growth rates could be off the new kind of base of $4 million per quarter.
Are you are you speaking directly to the.
Such as the car payment fees and urban.
Yes, I do think the $4 million kind of establishes a new baseline or or lower bound.
We do see some pickups in card payment fees as Mike mentioned, and we should see.
Kind of.
And single digit growth rate going forward.
But yes, the third quarter I think the key to that is we recognized all of the Durbin impact.
This quarter and Theyre, there won't be kind of a second or an additional decrease from here. So it's all just about card payment activities and the growth in that line of business.
Great. Thanks, everyone and John Thanks for all the additional data in your slides much appreciated. Thank you.
Thanks, Derek Thanks.
Our next question comes from Daniel.
Yeah and he comes from Raymond James Please go ahead.
Hi, good afternoon, everyone and.
Congratulations on all the motion Mike on your retirement.
Thanks, Dan Hardy.
Sure.
Starting on the on the margin I just wanted to make sure that I.
I'm reading your comments correctly when you say.
You think the NIM should be at or the core NIM should be at a predictable level going forward carrying into the into 2021, you're essentially saying stability is what you're looking for there is.
Correct it.
It is yeah were still.
Working the cost.
Slide aggressively we're still working the kind of renewal and new origination side aggressively on on on.
On the on the lending side or on the asset side.
Looking closely at the bond portfolio with the with the objective of maintaining or increasing the margin from here and now.
There's pressure given the yield curve, but that's our focus.
And does that assume any does that assume like when you get into 2021 like an 8% organic loan growth that Mike was talking about or something shorter than that.
Yes.
Traditionally we talk about the growing at mid to high single digit growth rates, maintaining a 50% approximately a 50% efficiency ratio, which we believe allows us to trade at a high performance level.
Which then kinda opens the door for M&A opportunities and so I still think we'll be at the mid to mid to high single digit growth rate next year.
Despite what this year 2020 as has been more challenging than normal. It. This is Mike again, if you extrapolate.
The continued growth of commitments.
That obviously speaks well for our balance sheet going forward at some point that utilization and I applaud our clients, we're being smart about turning receivable ended.
Into cash and paying down their lines in the near term it hurts our net interest income and then edge next term short term, perhaps certainly intermediate term their historical usages auto bear out.
And when you couple that with our market coverage, yeah, I think getting back to a postcode bid 8% annualized is absolutely the plan.
Terrific and then on the deposit side.
How do you feel about.
The increase in deposits you've seen.
You gave some of that will run off with new funds or you think there.
Your than maybe you were thinking previously.
Yeah. If you if you look at last year's growth rate of 2.1 billion or a little over 1.1 billion related to acquisitions.
It's still a really strong organic year.
This year at 1.1 with 900 million of PPP loans.
No, it's a strong organic year.
Plus PPP and the the real question will just be as these PBP loans are for given how much of those deposits stick.
Today, we feel like it's a large percentage I would have I think last quarter I mentioned that we thought was about half.
Our confidence level and that is increasing as we move through the remainder of the year and so.
I have a hard time ever suggesting that deposits are going to grow organically plus 10% on a regular basis, but we've been able to accomplish that last year and again this year.
Well I think we go get back to kind of the historical levels of of mid to low single digits on organic deposit growth in the future.
And certainly there could be situations or opportunities, where we can increase that level, but it's the reason we think of growing loans mid to high single digits deposits at a low to mid single digits and replacing the difference over time and that liquidity gap with M&A.
That's really helpful. I appreciate it I'll step back thanks, guys.
Thank you.
Our next question comes from Damon Delmonte from KBW. Please go ahead.
Hey, good afternoon, everybody and my congrats on the retirement and congrats everybody else in their newly appointed roles.
Thanks, James question not sure. The first question I had regarding capital in your in your outlook for that.
Given the level of our shares are trading and given the strong capital levels. You have what are your thoughts on buybacks.
At this point in time.
Well, we completed a buyback last year and.
We felt like we achieve pretty good at execution in this environment with with our shares where they are we think it would be.
Smart and opportunistic we don't currently have a plan approved but continued discussions at the board level.
Okay, and how about the guard the dividends.
I think you noted that the payout was still less than 50% would you consider.
Increasing the dividend.
Yeah, we would definitely consider increasing the dividend, we just decided in this environment.
With some economic uncertainty we decide to leave it at 26 cents this year.
When we.
We would likely make a move in.
You know may of next year, which would be our traditional second second quarter decision.
Okay.
Then I guess just with regard to the PPP forget. This process you noted that there was a.
Some submissions are already.
The fourth quarter.
Do you expect to have this done by the end of 2021 or you know maybe.
Maybe more so in the first half for the back half how do you see the cadence of the of the forget in this process.
Yes so.
The way I kind of look at it is that we started in on the largest names those greater than.
$50000. So I suspect what will happen is it will probably be more front end loaded to the year than it is backend loaded to the year.
With the ones less than 50000 by number.
Kinda submitted once we get that process from our software vendor are up and running but the dollar should.
I would expect be more front end loaded into next year.
Got it okay Thats all that I had all my other questions were asked and answered. Thank you.
Thanks, Dan.
Okay.
Again, if you have a question. Please press Star then one our next question comes from Brian Martin at Janney Montgomery. Please go ahead.
Good afternoon, and congratulations everyone.
Thank you thanks, Brian.
Just one question one easy one for John I mean, you guys talked at length about and thank you probably credit details John just were there any changes in the special mention credits this quarter I know you called out the classified but any.
Any changes on that front of material no.
You know what I would say is that there's probably some have the actual criticized or special mention numbers in front of me, but what I'd say is there has been an increase in special mention.
That being the transitional.
Greed traditionally traditional grade category.
And as we move things into that category, we wait to see how the pandemics is going to.
Affect our borrowers and if it gets bad enough, we move them down as substandard if not we'll move them back up to pass again. So there has been some migration into that category.
Okay.
Similar to look at the similar level is like the classifies or maybe a little bit more than what was gone into classified.
It will be incrementally more just because of the nature you move those you're going to have more move into special mention right and then some are going to move down to substandard and then some will move back up in the past.
Got it okay. Thanks, John and maybe just one for.
For whomever on that on the capital question, just you talked about the dividends and the buyback how about your appetite today or willingness to look at M&A. Today are just discussions how how those are playing out if anything.
I think.
There's been a benefit to the environment that while it hasn't been heavy in what I would consider to be Brian genuine M&A discussions theres been more bank to bank dialog about all the uniqueness of this year than I can ever remember, so mark and I have always kind of led the discussions with other banking.
Companies and that will clearly continue under Mark's leadership, because we think we're very good at it and we think there are companies that when paired with us would make for a more powerful banking company. So our refreshed executive team have a keen eye for not only the organic strategy of this business, but opportunistic acquisition.
And as well in any business with doesn't have to be limited to four.
Full banking companies.
Do you feel like you need a little bit more clarity on the pandemic, Mike before before you would engage in something or I guess is it I guess it was really kind of that.
Yes, I mean.
You heard John answer a moment ago about the transitional nature of some of these clients working through this period I feel like every banks doing the same thing. So the answer would be yes, we'd love to have a little bit more settling.
For your.
Go acquiring a bunch of loans you didnt originate.
Got you Okay. That's helpful and just the last one for me was just on the yes. As you guys look at kind of your comments about the budget, Mike and kind of stepping into next year. It would your expectation be you talked about the brands cut that maybe you can hold onto the efficiency, where it's at today, even though that even in the low rate environment or how are you thinking.
Just kind of the efficiency as you go into next year in the budgeting process.
Yeah, I think the acceptability of a budget for us both at the senior management level and at the board level is going to call for it to have a look alike efficiency absent any game changing technology investments, we make but no. Its I think our stripes around that topic.
The efficiency are going to remain the same.
Okay perfect Thats, all I had guys. Thanks.
Thanks, Brian Thanks, Brad.
Next we have a follow up question from Scott Siefers from Piper Sandler. Please go ahead.
Hey, Thanks, guys.
Sure I'll.
Related to credit so I guess, Michelle just in looking at what the reserve will look like post seasonally you know if we are in that.
Two percentish range, and that's going to compare very very well relative to a number of your peers. Yes, just curious on the thinking behind the need for even modest additional reserve build is that just kind of an abundance of caution given the uncertainty or any color there and then as.
As a follow up to that John none of Us really knows where this credit cycle is going to go but.
Losses have stayed very low I think for longer than most of us would have thought as to all the stimulus works through so this quarter absent the single credit that you talked about it looks like charge offs would have been pretty negligible I guess I'm just curious as to your sense for the evolution of loss migration in this cycle when all things pick up more mature.
Really.
You want to go first [laughter].
Scott I mean, I think you just nailed it it really isn't an abundance of caution I mean, you heard John talk about our credit portfolio. There isn't anything in our credit portfolio that is spooky enough to think that we need a large reserve.
He just like anybody else don't know exactly what the depth of this is the impact is going to be on our customers nor when the loss emergence periods will.
Well really emerge, but we want to be ready and we feel like Kevin abundance of reserves is a good place to be so places safety.
Yeah, Okay. Thank you.
Okay, and then Scott just with respect to your question.
Built into some of the reserve building in the first two quarters were specific reserve. So when you look at and you think about what happened in that second quarter part of what we charged off in this quarter was put in there in that quarter in the second quarter and so when you look forward two quarters and you look for.
For all say loss emergence out of some of these names that have specific reserves in it and you look at that line.
You can kind of see now I would say for the 14.1 billion dollar loan that we just put in there the non accrual it's got a 3.1 million or little bit Brian was little over $3 million specific reserve on it so that will eventually charge out but beyond that specific reserves.
Pretty significantly there so having visibility into the future on a name by name level or at a name by name level. There is it a lot that I see today.
Adding to track it beyond that is really just in my view to look at where the classified assets going and Directionally, what does that tell you about potential future losses.
I don't have that helps you, but that's kind of how I think about it.
All right. Thank you very much.
Thank you Scott.
This concludes our question and answer section I would like to turn the conference back over to Mike Reckon for closing remarks.
Thank you Emily I really don't have any I appreciate the quality of the listening to the first merchants story.
You can tell we're looking forward to.
Finishing strong in 2020 and getting off to a fast start with our leadership team here next year and look forward to talking you in a couple of months.
Thank you.
Okay.
This conference is now concluded. Thank you for attending today's presentation you may now disconnect.