Associated Banc-Corp (ASB) 2008 Q2 法說會逐字稿

Good morning, ladies and gentlemen, and thank you for standing by. Welcome to the Associated Banc-Corp second-quarter 2008 earnings conference call.

During the presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be opened for questions. (OPERATOR INSTRUCTIONS). This conference is being recorded today, Monday, July 14, 2008.

I would now like to turn the conference over to our host, Paul Beideman, Chairman and CEO of Associated Banc-Corp. Please go ahead, sir.

Thank you very much and good morning, everyone, and thank you for joining our call today. As usual, Joe and Lisa are here with us as well.

We made the determination to announce our earnings today rather than wait until Thursday due to the larger-than-anticipated provision that we are taking and the resulting impact on quarterly earnings here in the second quarter. As you can see from the release, we are reporting income of $47.5 million or $0.37 per share for the quarter. This is down from $66 million and $0.52 per share in the first quarter. Obviously, the primary difference is the provision of $59 million versus $23 million in the first quarter, and of the $59 million, $37 million was charge-offs. Also, nonperforming loans increased in the quarter by $81 million to $289 million.

These are essentially the same credits that we've been talking about for the last several months. They are primarily larger in nature, construction loans that deal with housing and condo developments within our construction portfolio and C&I loans that are specifically linked to the housing industry. The increased losses in non-performers are a result of deteriorating collateral values below expected levels and with no really clear time in terms of recovery. We've seen that late in the quarter in terms of the appraisals that we've been receiving and also around a series of specific projects where we've had a series of options with borrowers and investors that these options really did not come to fruition.

In both NPAs and charge-offs, increases can be attributed to about half a dozen or so credits deteriorating late in the quarter. That's why the levels are higher than our expectations. However, it's very important that we send the message that we believe the conclusions that we've made about our core portfolios remain valid.

Our C&I and our commercial real estate loans that are not linked to housing are continuing to perform well, and our consumer portfolios are also relatively stable. Based upon our analysis of these portfolios, we believe, as we have been saying for some time, that while we saw escalating nonperforming loans here in the second quarter, that going forward, those non-performers will begin now to stabilize in a range around the second-quarter levels that we are seeing. We also believe that our charge-offs will be in a range around that second-quarter level as well.

Shifting briefly to a couple of non-credit issues, in the quarter, net interest income was $173 million, up from $165 million in the first quarter and $157 million a year ago. The margin improved to 3.65. This is largely attributable to loan growth, DDA deposit growth and improving spreads. We are very, very happy with the momentum really that we are seeing there.

Our core fees continue to grow, quarter-to-quarter, and expenses are flat. I'd also like to mention that, in the second quarter, we had a very successful systems conversion, and we have talked about that some over the last couple of quarters. That conversion occurred in May and obviously, from the revenue momentum that we've shown there, there was very little, if any, disruption at all. The investments that we've made in people and our capabilities continue to show positive results in terms of the growth in revenue that we are seeing.

Lastly, the Board declared a cash dividend of $0.32 per share payable on August 15, and we noted that in the press release as well.

Just a few comments there generally about the performance and some elaboration certainly on credit, but we will be happy now to open the floor to questions.

Thank you, sir. Ladies and gentlemen, at this time, we will begin the question-and-answer session. (OPERATOR INSTRUCTIONS). Scott Siefers, Sandler O'Neill Asset Management.

I guess, Paul, maybe if you could just make some additional comments beyond what you touched on, just on credit trends stabilizing over the second half of the year. I guess just looking at the various categories of nonperformers, it looks like most of them deteriorated so I guess any additional color you can provide on why things should stabilize looking forward.

Then obviously the topic over the last few months is in capital industry-wide. I guess if you could just touch on the way you are thinking about things from a capital perspective as well.

Sure. Well, we've been saying for some time, over the last several months at conferences and in meetings with investors, that we felt that our nonperforming loans were going to certainly escalate in the first and the second quarter but then begin to show stabilization around those levels.

Now, granted the nonperforming level that we saw in the second quarter here was slightly higher than we would have anticipated, but in going through the process of analyzing our portfolios, we have really locked in on a group of identifiable credits that we've been talking about that are the ones where we've really seen some deterioration. They relate to specific credits within the construction portfolio that relate to land development, housing development, condominium development and a specific group of C&I credits that are also linked to the industry.

So basically, within our evaluations internally, we've seen those credits. They've been a fairly stable pool of credits that we've been working, and they are the ones that have contributed to this, and you can see it in the press release. We are talking literally about a half-dozen credits this quarter and I believe four credits last quarter that total around $130 million of the nonperformers, and that's been the lion's share of the increase. Now, there's been a little movement in some of the other portfolios but that's really the lion's share of the increase. So we continue to believe now that we are not going to see the level of increases going forward that we've seen in the last two quarters as we've been focusing in on those specific credits.

Our consumer portfolios, mortgage and home equity together, if you look at them, one was up and one was down this quarter, and it stays at about the same level.

The commercial real estate portfolio, the permanent commercial real estate portfolio, if you look at it, the nonperforming levels of loans within that portfolio are actually down from a year ago by about 30%, so we feel that those portfolios are reflecting some stability, and certainly the performances within our consumer portfolios, given what has been going on in the mortgage market, you know, there's just absolutely no comparison.

So we feel that we've been working with an isolated group. You know, the bad news is we have seen this deterioration. The good news is it's within very specific segments of the portfolio with the number of credits that we've been focusing on for some time.

So we think nonperformers -- certainly it is a challenging environment out there, but it can be within a range now around those, around these second-quarter levels, perhaps a little higher, perhaps a little blower, but I don't believe we are going to see these $60 million, $80 million increases that we've seen over the last couple of quarters.

Around the capital issue, we believe that, given the earnings momentum that we are showing around the core creation and growth in net interest income and fee revenue that we're seeing as well as keeping expenses under control, that if we can stay within this balanced area around credit, that we can continue to contribute to the core capital from our earnings, and that our ratios are relatively stable over the last several quarters and we would like to think that they are going to stay in those ranges, and that, on balance, we are going to be able to generate enough earnings to be able to keep those capital ratios stable.

Okay, perfect. I guess just one follow-up on the credit side -- as you guys look at sort of the housing-related stuff that has gone bad, as you think of that portfolio more broadly, how often are you guys doing appraisals? Is it when a specific loan shows signs of weakness or have you done sort of a more blanket revaluation of the entire portfolio? How are you thinking about that dynamic?

Scott, this is Joe. No, we don't routinely go out and get appraisals if there isn't a renewal going on or the loan isn't showing some stress. We just don't do that. As soon as a loan has some issues with it, of course we are actually going out trying to figure out what our collateral is but appraisals in today's world are pretty challenging. Hopefully, that's only one point of reference as we look at a loan in terms of trying to figure it out.

Obviously, it's in our best interest to try to keep the creditor going at the business going because we don't want the property. But it is a point of reference.

Certainly, at regular renewal times for the entire portfolio, and if there's any performance issues that change the nature of the agreement, if you will, then certainly we back into it and do -- or we don't.

Terry McEvoy, Oppenheimer.

Good morning. Could you talk about the reserve build of call it $22 million? Was that a function of nonperforming assets going up in Q2? What I'm getting at is trying to come up with a best guess for provision levels for the third and the fourth quarter, given your guidance for charge-offs as well as NPAs.

Right, and certainly provision is somewhat of a wild card in this environment and it's very difficult to try and predict. But yes, in the second quarter, the provision above charge-offs is a reflection primarily of the deterioration of some of those credits into the nonperforming status. If nonperformers do begin to stabilize, that certainly then reduces one of the pressure points on provision, but in this environment, it's difficult to try to be precise about how the length, the duration, the depth around -- and then in different segments of the portfolio, how that can ultimately play out around the provision numbers. But in the second quarter, it's primarily driven by the deterioration of those credits into the nonperforming status.

Then away from credit, some very good growth in service charges and fees, both sequentially and year-over-year, can you comment on that?

Yes, this is something that we've been focusing on for quite some time, as you know. The wealth management business at this point does feel some pressure as the market declines and the like, but we've been seeing, within our commercial businesses, we've invested in people, systems, products around expanding our fee-based components of our relationship management with middle-market and larger companies. That's an area where we've seen really great progress. In consumer banking, we've done a whole series of things to continue the momentum around the creation of fees regarding debit cards, and basically all aspects.

I think the other real positive thing here is that we are seeing significant improvement in the net numbers of checking accounts, and that's a function of many of the things that Lisa and her team have been doing to position, from a marketing, from a selling, from closing the back door as well as selling more in terms of improving service levels in our branches. That's starting to play out in our net consumer checking numbers at really quite miserable levels. That, in addition to driving high value demand deposit growth, is also a contributor to fee growth from those consumer businesses. Also, the home equity growth that we are generating, which is largely first lien positions, that's a new household acquisition tool for us as well which is also contributing positively to those demand deposit flows.

Then one last question -- I was under the impression, up until the first quarter, that a lot of the increase in residential construction, NPAs, was connected to the State Financial acquisition or franchise. Was that the case in Q2 or are you starting to see some deterioration at some of your call it legacy-associated markets?

We've seen some deterioration certainly in, firstly, any aspect of our business that has touched -- that touches construction on the residential side. Yes, that's certainly as much within the core associated portfolios as the acquired portfolios.

On the home equity side of things, much of the deterioration that we' had seen there relates to the First Federal acquisition that we did back in 2004 in the Minneapolis market. That's very attributable to that transaction and we shut off those programs that were driving it in '05 but we are still working through those vintages.

On the construction side, if it's residential in nature and if it's condominium in nature, it's got risk associated with it. As you know, and if you go back to our presentations, you can see, on those charts, in terms of the geography, while working with customers that are based within our footprint, we have a small amount of loans that are out of market. The bad news is that those are under stress but the good news is that it's not an incredibly large number of ours as well. But that's -- some of these credits we are talking about here are those.

Terry, I would suggest to you that maybe your perception was inaccurate on State Financial because the area that we've been seeing the pressure the last couple of quarters has been in our large corporate book. That's all associated, so that's where we are seeing the erosion.

Okay, thank you.

James Ellman, Seacliff.

I was hoping you could give us a little more detail in terms of some of your thoughts regarding your comment that NPAs will hopefully stabilize here. Just from speaking with some people who also look at the Company and looking at the movement in the stock today, could you comment on why you think NPAs will not go up as energy prices being higher flows through your commercial portfolio? Also, if we think about that in your mortgage portfolio, both home equity and First's in the primary as you move towards the winter heating season, particularly as it seems that market movement on Fannie and Freddie is saying that loss rates even on prime loans may be a bit higher than expected?

Yes, I mean, all those economic factors are out there and they are real and we are -- I believe we are being as objective as we can be about that analysis. I do believe that NPAs will start to be more within a range around what we are seeing now. I mean, could they be up a little bit? Yes. Are they going to be up the way we've seen them over the last couple of quarters? You know, we just don't see it.

The factors that you are talking about, especially as they relate to the commercial business, are out there and they've been out there for some time, but I think we, along with others, are seeing relative stability even in spite of those factors in our commercial, in our core, in-market commercial C&I books of business. So I mean, the facts say that those portfolios are hanging in there nicely, that they are performing at levels that are stable. I mean, we are just not seeing the deterioration passing through those credits.

Could something of substance change in the future that could change that dynamic? Of course it could, and it's difficult to predict how those things are going to go. But when we are looking at the facts and we evaluate them today, that is what we see. We also see it in that permanent lending commercial real estate portfolio. Whether it's the nonperforming levels or the loss levels, they are really not showing significant increases.

The consumer portfolios, there's some dynamics afoot there. Certainly, there can be some additional loans that could go nonperforming in those portfolios if economic conditions continue to deteriorate. But we are also working through this specific sector of the business that's very Minnesota-focused on this acquisition and it's going down, and its impact is waning on the portfolio and it was disproportionately high.

So I guess, on balance, what we are saying is that the numbers are going to continue to stay within a range around what we are seeing there now. You can see that in the numbers this quarter and they do certainly vary quarter to quarter but the home-equity nonperformers are up a little bit, but the mortgage nonperformers are actually measurably down. So when you put it all together, we are seeing stability there.

We've also significantly upgraded our proactive responses with customers that are approaching those levels, and those efforts have been pretty successful.

The charge-offs, just as much, just as importantly as the nonperforming loans within those portfolios, have remained relatively stable over the last several quarters. The data that we've put forth in our analyst presentations where you look at the absolute number of foreclosures and bankruptcies, also reflect relative stability in terms of the number of cases that have been passing into those categories over the last two years.

So when you put that fact pattern together and look at it, we believe that, now that we've been working through this group of very challenged construction and C&I credits linked to housing, that the other characteristics around each of these portfolios shows more of a sense of relative stability and the disruption and deterioration we've seen in those specific segments.

All right, very good. Thanks a lot for the (inaudible).

Heather Wolf, Merrill Lynch.

Let's see. First of all, on the construction loans, the six construction loans that you were talking about, can you talk about which of those are land versus vertical construction, and also the percent severity that you've taken on, lost severity that you've taken on them already?

Heather, I can't answer that question in either sense, so I'm going to have to -- I know the names but I don't know how much is vertical and how much is land. My guess is most of it is vertical in the condo or housing. But I will have to get back to you. I just don't have those numbers here.

Okay. Then would you guys be willing to tell us now what your tier 1 ratio is? I didn't see it in the press release.

That's because we don't have it calculated, but we think it's going to be relatively flattish to last quarter. It's another week or two before we are done with all of the pieces.

Okay. Then the increase in your other real estate owned this quarter, is that coming more from the consumer side or resi construction?

No. Actually, there's one large construction loan that we transferred to OREO for $15 million, but it's one of these problem loans we have -- that got moved. We took possession. So that's the big increase.

Okay. All right, good. Thanks very much, Joe. I will follow-up with you off-line on those construction items.

I will get that from Gordy and have it.

Andrew Marquardt, Fox-Pitt Kelton.

Just going back to Terry's question on the reserve build, maybe I missed it. Can you just clarify if one should expect additional reserve build going forward or not?

Well, Andrew, I guess I think about it in terms of the process we follow and all of the moving parts. Clearly, some of that is hard to predict, but it would seem logical to think that reserves would exceed charge-offs as we go forward, because I don't see the migration of credits decreasing, so as those credits move (inaudible) classifications, they require more reserves. So I see it as higher in charge-offs. Hopefully we don't see as high -- as much older charge-offs as [there was] this quarter. But at this point, it's just difficult to know all of the moving parts and how it's going to land at the end of the quarter.

Okay, thank you. My second question was on the margin, net interest margin. Can you talk about if there was anything unusual in the 365 this quarter and how we should think about the margin outlook?

Sure. The answer is there's really very little in there that I would call one-time. You know, there's always little things that affect it on the loan side of the equation, but there really was nothing that was outsized that would have a substantial impact. Basically, it is loan yields are hanging in there and cost of funds have come down, so the spreads have been improving and they've been improving over the last couple of quarters. We've seen that dynamic begin to play out.

Also, EDA growth, which is in about the 5% range, based on the dynamics that I was referring to earlier, is really just a major contributor. If we can sustain that kind of effort, it will continue to have a positive effect.

I don't know. I've been saying that I think the margin is going to stay relatively stable and trade within a range. It has improved over the last couple of quarters very nicely, and that has been a pleasant a surprise for us, too. It's a little higher than I would have anticipated it being, but that's around the execution on these variables that I've been -- that we've been talking about. So I'm going to say they are still going to stay relatively stable, maybe not at the 365 range, but certainly I don't see it falling significantly. So more -- you know, (inaudible) the low 360, high 350, low 360s I think is where it's going to be.

Michael Cohen, SuNOVA Capital.

Thanks for taking my question. Can you talk about the size of the mark that you've taken relative to individual credits or maybe sort of on average? In other words, what are you expecting in terms of lost severity for some of your construction credits?

Michael, that's the question Heather had, and I don't have that information at this point. Each one is very different. There's some little some 10%, 15%. I have to get that number. I just don't have it.

Michael, it is very, very different credit to credit, location to location.

Okay. Thank you. I will follow-up.

Peyton Green, FTN Midwest Securities.

Good morning. A couple of questions -- one, to what degree are you all in control of the work-out process or are you riding behind someone else that's in charge of it?

In a couple of cases, there is participation, if that's what you are referring to.

Yes.

In the majority of cases, we control the work-out process, and even if there are multiple banks involved in a transaction, we are certainly involved in those discussions and those negotiations, and the banks work as a team.

Okay. How long? I mean with the latest batch that have moved in, I guess over the first half of for this year, are any of them fairly quick or some of them dependent on you completing construction? Where are they in the process or is (multiple speakers) --?

Again, each one is different, certainly. You know, there's a chunk that are C&I, which have a different dynamic, but --

Payton, I guess I would answer it. Unless we want to do bottom-fishing kinds of disposals, it's probably longer than shorter, right, (multiple speakers) work your way through this thing, because I mean you can get rid of them but the [haircuts] you are going to take -- or the economics of those don't make sense to me. I think we are just going to kind of try to work through it, and it's going to take time.

Okay, so it's fair to say that you'll be methodical in getting [out of them]?

Yes.

Yes

Okay. Then on the deposit side, you all saw a fairly decent drop in I guess your low-cost interest-bearing demand and also money market balances. I was just wondering. Over what time period are you willing to fund the balance sheet growth with short-term and when might you consider lengthening out the term of your borrowings, I guess?

Well, let me answer the last question. Obviously, we do have a significant piece of short-term borrowings at this point. That obviously is something we continue to evaluate and think about, given where we are in the interest rate cycle. So we are thinking about that, and we are thinking about when and how we should extend. So, we are working through that piece of it, and we can extend in a variety of ways. We can extend through a swap; we can extend to go get some longer-term funding. There's a variety of things we're looking at, but we haven't pulled the trigger yet at this point.

If I could, Peyton, I thought I heard you say that you thought the demand deposits were down but they are up.

No, no, the interest-bearing demand (multiple speakers)

Okay, all right, the interest-bearing demand, I'm sorry. Now, you know, we believe that rates are much closer to the bottom now than they -- if anything we believe rates are going to probably start to go up over the next bit of time here, so we are going to also -- now we believe is the time to be a little more aggressive in terms of pricing out the curve a little bit and that growing deposits on a core basis out the curve is also prudent use of that margin momentum, I guess. So we are exploring those options as well.

I guess I mean with any consistency among the accounts that you lost? I mean, was it more single-used customers that kind of ran away once you lowered pricing, or was there any particular trend that you could elaborate on?

My reaction would be we didn't lose accounts, we lost balances. My reaction is that customers use their funds as they need them, and obviously that has a bearing particularly on interest-bearing deposits, which has some (multiple speakers) money in it. So all of that matters.

And as rates get more attractive, there's some internal migration too between those deposits and the money market buckets which have grown several hundred million dollars over the last year.

Okay, great. Thank you very much.

Andrea Jao, Lehman Brothers.

A couple of quick questions first -- how much were the interest reversals on non-performers in your margin?

I don't know, Andrea. I don't know that number. I will have to go get it. It flows through our normal system.

Yes, we can follow up.

We can find it for you.

The service charges in deposits are very strong, which is a very nice thing. What was the driver, and how much of that is sustainable in coming quarters?

We believe -- and I've talked about this for the last couple of years. We continue to be pleasantly surprised by our ability to maintain momentum in that category. Part of it is growth and net households and net checking accounts. Part of it is from pricing changes that we have made and methodologies around capturing the foregone, if you will, or the revenue at risk, the discretionary revenue in those categories. So I would suggest it's a combination of some policy changes, better management of the whole process, and some growth.

So I continue to -- and I've said this all along -- I don't believe we can continue to grow that category of fees at double digits, or 8% to 10% a year, because it's a very mature segment of the business, but we continue to grow it at the lower end of that range and generate momentum in that category.

So yes, at some level, it's sustainable. At this level, I would say probably not, but still, in terms of some level of single-digit growth, yes, I think that it is sustainable.

Okay, great. Now, other expenses last quarter included $2 million that went into the provisions that are serve for unfunded commitments.

Yes.

Correct.

How much was there this quarter?

Zero.

Okay. Then my last question would be, in terms of looking at your $2.4 billion real estate construction portfolio, your $3.6 billion commercial real estate portfolio, and then also your home equity portfolio, could you remind us what LTVs were, and on the commercial side, if you could give us an indication on average what deterioration was in terms of collateral values?

We can tell you what our underwriting standards are and how we underwrite. We do not have current LTVs for the entire folio; we just don't gather that information. But clearly, in all of our commercial real estate books, raw land is at 65% maximum, any commercial real estate is 80% of cost, maximum. In the home equity book which we do capture, the LTVs are, on average, in the 70s. There was obviously tranches of that and the mortgage book is the same thing. So again, they are well less than 100% in all those categories.

I would point out that growth we are seeing in the home equity portfolio now, in excess of 75% of that growth is first lien.

Okay, but the entire portfolio, how much of that is first lien?

Obviously, the percentage is improving. It was -- my number is a year-end number. We haven't calculated it for the end of the quarter but it was around 35% historically, but the growth is more in the 75% range today, and so obviously that's going to move those numbers.

Okay. I apologize, just one more question -- we OCI account is very volatile. It's negative 2 in the fourth quarter, positive 20 in the first, negative 20 I believe in the second.

Yes.

Could you talk about that and the underlying securities that are driving that?

The investment portfolio -- and it's all determinant on the rate environment that the pricing service that we use prices the portfolio, and so it really depends on where the yield curve is and where our securities are on the yield curve.

As a general statement, we are relatively close to par value, as you can see on both sides, but it moves around depending on the day and the week and what yield curves. So it's really the investment portfolio.

This quarter, we had more erosion in the mortgage-backed portfolio primarily because it extended. Prepayment speeds slowed and the portfolio extended, so there was a little more negative mark on those portfolios, but again, relatively nominal given the size of the book.

Is there anything in the investment portfolio that is an outside contribution to the volatility of the OCI?

No, no. I think that the [NBS] and CMO are moving about the same percentage and it's not much. Again, when we priced it and then the curve moved a week later, you could have gotten a different price. So it's just that it moves around a little bit. It's a $3.5 billion book, so it doesn't take much to move it $20 million, $15 million.

Thank you so much.

(OPERATOR INSTRUCTIONS). Tom Doheny, Decade Capital.

I think you touched on this a little bit in terms of you maybe mentioned out-of-footprint loans, but maybe if you can touch on the geographic mix of the fixed credits that led to the increase in charge-offs and the five credits, the five construction credits you mentioned on the NPL side, maybe just by state or just give us a general sense of where this is, within or without the footprint.

Well, I can't sit here precisely by state and give it to you all, but it's about -- in terms of the nonperformers, it's about 50-50.

In terms of --?

In-market versus out.

We want to be sure that you understand that all of the customers are in-market, just the project (multiple speakers) .

Right, the project itself would be out.

So again --.

Then within your footprint, there's specific geographies where these credits are popping up as well?

The Minneapolis market, of all of our in-footprint markets, I would characterize as the least stable. I mean, it doesn't have the characteristics of Miami or Phoenix or anything like that but there's been more of a deterioration, if you will, in those markets because they were built more aggressively. So, within that pocket, we've seen it on the consumer side relating to the home-equity loans that I've talked about before that had come largely from First Federal, who had the bigger position there. And we've seen a couple of commercial real estate construction projects in Minneapolis; there was some deterioration.

We really, on a relative basis across the rest of our footprint, we feel that we've seen relative stability certainly in the Wisconsin market.

Then in terms of the NPLs that are -- the 50% that are out of footprint, is that primarily Florida?

Yes, primarily. It's a couple of these larger loans where we have a relationship with a customer in our footprint that has gone to that market to do a project.

We have one in Arizona also.

Okay, if I could ask one final question, maybe on the dividend, just kind of how you're thinking about this, given kind of the updated guidance on charge-offs and maybe what the payout ratio might look like -- just kind of to follow on your comments on capital earlier.

Well, we feel good about the dividend. The Board consciously, with this announcement, confirmed the dividend for the quarter and it's our intention to maintain it at these levels.

Okay, thanks a lot.

Ben Crabtree, Stifel Nicolaus.

Thank you. Good morning. I've actually got mostly just follow-on questions. In the investment portfolio, do you have any agency-preferreds, Fannie and Freddie?

Yes.

That's right. You obviously took an other-than-temporary hit on that. Can you let us know what the amount of that is?

Yes. It's valued at about $11 million right now. That's the total. I guessed that is the range.

Fair value. Right. The tax rate --

Ben, be careful. I heard you use the word "fair value". That was the book value at end of the quarter.

Oh, book value. Okay, thank you.

(multiple speakers)

Since they moved then, if you wanted to go fair value, you would have to price it today and I don't have that number.

Okay, great. That's fine.

The tax rate in the quarter was lower than I expected. Obviously, there was lots of moving parts there. I'm looking for some kind of a guess as to what number we might use going forward.

In the tax rate, it's interesting, Ben, as you look at the tax rate. What happens in this environment, if you make less money, all of the money that you make over the permanent items and primarily the municipal stuff is coming in at 40% margin or rate, so when you make less, it pushes -- the permanent items stay the same size but it pushes the rate down.

Again, we were telling you between 32% and 33%. Given the level of earnings that we are anticipating, I think you can take that down a little bit. Maybe 1% would be an appropriate range. Again, I'm trying to do the same estimate myself; I have to tell you it's a little challenging. It really depends on how much earnings we get from the 40% bracket.

Sure, right. Have you had your regulatory exams?

Yes.

In fact, we are examined all the time! What do you think!?

You have somebody there permanently, almost?

Well, yes, we do, a company our size, we have for almost two years.

Okay. And then just to -- maybe, Paul, you might want to make sure that I understood exactly what you were saying here. Essentially what you had said was, I believe, that the charge-off, the jump in the charge-offs was really great because you got a whole bunch of new bad loans in but because the charge-off severity was worse because in effect the collateral value had deteriorated more than expected.

Yes, that's correct. It's a universe of credits that we've been looking at and tracking, and the ultimate -- you know, the strength of the position the investor and the borrower finds themselves in, so the reality of the situation coupled with the deterioration in collateral value.

Ben, I want to be careful that we maybe describe for you a little bit about process when you actually take a charge-off versus when do you just provide for it in the reserves. And the charge-off is when you think that the collateral is your only source of getting cash, when you are actually in sort of a liquidation mindset, versus a work-with mindset, because if you are working with a customer, and you think the customer can work their way through, you can reserve for it but you don't necessarily charge it.

So again, as you look at each of these credits, there are a series of discussions and circumstances that lead you to a charge-off point versus just a reserve point. So again, each situation is different, you have to work through them, but these credits have gotten to the point where we think of charge-off is the right answer.

Could I infer from that that the number of watchlist credits is not expanding a lot?

I don't know that I can answer that question. I don't know that that's a conclusion you should jump to from that statement though. I mean obviously we've been talking about exiting credits, we've been talking about trying to make sure we stop the flow in, so that is what we are working on. But at this point, I am trying to think through whether those watchlist credits are going up or not this last quarter and I can't remember. If you think that's important I'll have to get back to you.

Okay, yes. I'd appreciate it. I've got a couple of these other lingering questions I would be interested in what the input is to, so other than that, that takes care of me. Thanks.

(OPERATOR INSTRUCTIONS) Andrea Jao.

Regarding the other operating income line item, which is up $1.2 million linked quarter, what was in there and should this go back down in succeeding quarters?

Other other?

Yes.

Where is my sheet of paper? I thought you were only going to ask about credit. Okay, let me look here quickly.

You know, then while you are looking, if I can ask --

Now, I know what it is. I know the answer. The other category has our -- all of our income related to our commercial banking fee initiative. That has been growing nicely and I expect that will --

That will continue to grow.

That will continue to grow.

Okay, so that will not pull back next quarter? Because that was a nice increase.

That's a big piece of it, so no, I would think it would stay nice and steady.

Okay, that's very nice. Then regarding deposit pricing that you used this quarter, can you talk about that? I'm just trying to understand the decrease in customer time deposits as well as money market deposits. Then if you could also talk about the significant decrease in broker deposits and your use of wholesale funding. Because I think wholesale funding, based on your second-quarter average balance sheet, is still slightly more expensive than the brokerage (inaudible).

Yes, again, our decisions on all of these wholesale funding sources, whether it's brokered deposits, whether it's the special money market accounts we get from the institutional marketplace, or whether it's wholesale funding, it's all availability price, stability kinds of decisions that our treasury guys go through every day. They are trying to make sure they are using all sources. They are trying to make sure they are keeping the liquidity piece of our balance sheet strong, and then they are looking at prices. So there is really not a pattern that I can tell you we follow. We just try to look at all of those things on a day-to-day basis and try to figure that out.

Obviously, in terms of would you prefer deposits? Of course. Wholesale funding is a residual; it funds whatever our balance sheet growth is that isn't funded by deposits. We are trying and have been working on growing deposits, and Paul alluded to those things earlier. We are getting more households; we are trying to build prices in maybe to get some people out in the curve. We are doing everything we can to grow deposits because obviously that has the sustainability that we want.

Andrea, as I said before, we believe that now is the time to get a little more aggressive on the pricing side of things, to start to grow deposits at what we perceive to be the bottom, basically, in terms of where our interest rates are going to be.

Okay. How do you think of loan deposits, the deposit ratio progress over the next few quarters? How quickly have you seen that come down?

You know, as soon as I say I think it's going to go one direction, it's going to go the other direction, because it really depends on what happens in any given month. Obviously, it's our intent to improve it, but I could have said that last quarter and it didn't improve. So, I'm really reluctant to (multiple speakers) --.

(multiple speakers) I think it's fair to say that it's our intention to improve it.

And I really think it's all about making sure we are getting the right pricing on our assets if we are not growing the deposits. I think that's where we've got to spend our time.

Kenneth James, Robert W. Baird.

I wonder if I could just dial back into the kind of residential construction issue here. Can you just maybe get a little color details or anecdotal on why the rest of the residential construction portfolio -- or how it's different and why you feel better about it than the handful of credits you've been kind of zero-ed in on here as you have been mentioning the past few months, and kind of what differentiates what's left versus what's kind of gone bad? Then the second part of that question is, in your nonperforming kind of outlook, how much of that is dependent upon you being able to get successful workouts on some of your larger residential credits that have run into problems?

Well, to answer your last question, yes, there are some. Certainly, there is some interdependency there. Again, it's how are you evaluating the fact pattern that you are seeing and the time that you are evaluating them.

But if you look at our construction portfolio, it's slightly over $2 billion, and half of it roughly is in land and single-family condos, so a half of it is in the residential area and a relatively small portion of that is out-of-market. The out-of-market pieces of it are stressed; there's no doubt about that. There's a small percentage of it in Florida and as Joe said, literally just one loan that is in Arizona but it's one troubled loan.

We are seeing very little deterioration in the nonresidential components, in retail, industrial, offices, multi-family. I mean, it's quite strong. Rental properties are vibrant today. So in about half the portfolio, we are seeing very little deterioration. These larger trends, these larger loans are in or more concentrated in the housing and condominium sector, so we've been able we think to identify them and look at them, and manage them -- or reach the conclusions that we have at this point in time, in terms of their disposition.

I think, Kenneth, the other thing that we want to make sure you understand is that obviously we are worried, as you are by your question, about what might be coming on credits that we haven't identified or haven't experienced problems at this point. We are dedicating resources to make sure we are staying on top of those credits and we are making sure that we get ahead of any red flags. So we try to stop the flow into the nonperforming category. So we are redeploying resources and we're spending a lot of time on those things. Again, Paul talked to the weekly meetings. We've done a lot of things. But can we say out of that $1 billion that Paul just referred to, that we've seen everything and know everything? We look at it hard and we think we know where they are today, but I don't think anybody can say that we know for sure that we are not going to potentially have a problem with a credit somewhere in there.

Okay. You also referenced some workout options that didn't come to fruition this quarter. Was that strictly or predominantly a price issue on your side, just not wanting to take the price that was offered? I mean if it comes down to it, are there buyers for this stuff out there basically is what I'm asking, or have you seen an absence of buyers?

I think Paul's reference was more along the lines that we had arrangements with the borrower that either the borrower is going to get additional equity or the borrower (technical difficulty) find a buyer or the borrower was going to enter this agreement. Those are the things that didn't happen -- not that we tried to sell the credits and didn't like the price. We just have -- the pricing of the few times we've gone out has been pretty negative, so we really don't actively look at selling the credit. It's a matter of working with the borrower and finding an alternative for us to get paid.

Okay. Just quickly back to the deposit service charges, did I hear you in the last question that you had nice growth in the commercial banking fee income initiative? Was that in the deposit service charge line, or did I hear that incorrectly?

(multiple speakers)

We invested resources in the international banking, swaps, letters of credit, all those kinds of areas that are very natural to our business. As I think you've noted, we hired some folks to help us with that, and that initiative has been very good for us. That was in the other income line. That's where it is today; it's down in other/other income, and it's very nice. Again, in Andrea's question, she said we were up, but we also had the Visa gain last quarter which wasn't there this quarter, so actually we were up(multiple speakers).

It's actually more up than it looks like.

Right, so it was nice and strong, and we think that will continue.

Okay. On the deposit line then, how much of that would you attribute to like NSF fees or something that could be construed as being negative from stressed kind of local consumers?

A lion's share but also and growth is a major piece of it, too, or an important piece of it. So you are right. The NSF pieces, I keep saying that I don't think these levels of growth are sustainable but they continue to be sustained, but that's the piece that is hard to grow at upper single digits or double digits certainly but the growth piece is how you want to contribute to all of the aspects of your business and that's the constructive side of the thing.

Okay, thank you very much.

Before we pick up another call, I want to respond to Ben Crabtree's call about the watchlist loans. The watchlist last quarter/this quarter has been relatively flat, so we are not seeing a rapid increase. I was able to pull that number.

Sir, we have no further questions at this time, so I would like to turn it back over to management for any closing statements.

Now, thank you all for your participation and for your good questions. If you need more information or would like to talk any more about it, Joe and I are available. Thank you.

Ladies and gentlemen, this concludes the Associated Banc-Corp second-quarter 2008 earnings conference call. You may access the replay system at any time by dialing 800-406-7325 or 303-590-3030 and entering the access code of 3901460. Thank you for your participation, and you may now disconnect.