Columbia Banking System Inc (COLB) 2009 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to Columbia Banking System's second quarter 2009 conference call. At this time, all participants are in a listen only mode. Later we will conduct a question and answer session. Instructions will be given at that time. (Operator instructions). As a reminder, this conference is being recorded.

I would now like to turn the call over to your host, Melanie Dressel, President and Chief Executive Officer of Columbia Banking System.

Thank you, LaTanya.

Good afternoon, everyone, and welcome to Columbia's second quarter conference call. Joining me on the call today are Gary Schminkey, our Chief Financial Officer; and Andy McDonald, our Chief Credit Officer.

As always, I'd like to remind you that we will be making some forward looking statements today which are subject to economic and other factors. For a full discussion of the risks and uncertainties associated with the forward looking statements, please refer to our securities filings and, in particular, our Form 10-K filed with the SEC for the year 2008.

I'm going to assume you've all had a chance to see our results, which were released this morning and which are available on our website. We'll be providing additional clarity and details to that information as well as the information we have provided in our pre-release of June 12th, and hopefully answer any questions you may have.

Gary Schminkey will discuss with you a brief summary of our results for the quarter, including our equity position, liquidity ratio, and net interest margin. Andy McDonald will provide you with some additional color related to the allowance for loan losses, our loan mix, and credit quality. I will conclude by discussing our ongoing strategies as we move forward toward the remainder of 2009 and the year 2010. We will then open the discussion to questions.

In our press release this morning we reported a net loss for the second quarter of 2009 of $6.6 million, reflecting our comparatively high provision for loan losses. The continued decline in real estate property values, which was the primary driver for the provision for loan losses that we took in the quarter, is certainly a disappointment for us. Gary will review the quarter's results in more detail a bit later.

I want to emphasize that I have great confidence in Columbia's strengths, our business model, and the strategies we have in place that will put us in a strong, competitive position when the Northwest emerges from this economic cycle.

Why do I have such confidence in our franchise? First, we continue to be very well capitalized at 14.61% for the end of the second quarter. We were very pleased with our net interest margin, which actually increased to 4.38% for the quarter. In addition to our capital, we have ample sources of liquidity to meet the loan and deposit needs of our customers, over $1.2 billion.

Our core deposits are an important reason we have maintained that relatively stable net interest margin. They are over 82% of our total deposits and result from the strong relationships we have built with our customers.

Our business model is to bank the businesses, the owners and their employees, delivering the right financial services for the highest level of service possible. We continue to focus on increasing our share of the market in the communities we serve.

We recently were awarded second place in the large employer category by a Seattle business magazine's 100 best companies to work for in the State of Washington for 2009. We're very proud and pleased that we have a reputation as a great place to work. Of course, this has helped us to attract excellent bankers who really want to work with us.

The continued decline of real estate property values resulted from economic pressures -- or resulting from economic pressures has unquestionably been a major challenge for us. At this point I want to review with you what we are currently seeing in the economy in our market areas.

We're certainly concerned about the duration of this recession in Washington and Oregon and its effect on our ability to grow in the near term. Washington remains the most export-focused state in the country, at more than 2.5 times the national average. Unfortunately, we're still continuing to see slowing in shipping, warehousing, and trade as the Pacific Rim countries share in the economic doldrums. There have also been sharp increases in the rate of housing foreclosures and in sale prices for land and lots.

The area is still being challenged by a significant and ongoing workforce reduction by companies such as Boeing, Microsoft, Starbucks, Russell Investments, and the Port of Tacoma. Boeing announced just last week that 1,000 defense jobs will be cut, although we don't yet know when or how many will actually be in our area.

Washington's unemployment rate rose to 9.3% in June, up from a revised 9.1% in May, but below the national average of 9.5%. Governor Gregoire has commented that we are beginning to see signs that our economy may be stabilizing, but it will take some time. Industries recording the largest declines were government, retail trade, education, health services, and construction.

Our headquarters is in Tacoma, the major city in Pierce County, where the jobless rate has shown a welcome decline. The unemployment rate in June dipped slightly to 9.7%, down from 9.9% in May. Some industries actually improved during the month, including professional and business services, construction, manufacturing, and leisure and hospitality.

While the Seattle King County area has faired somewhat better than the rest of the state, it did see a significant increase in their unemployment rate in June, with the rate rising to 8.8%, from 8.1% in May. Just a year ago the June unemployment rate in the area was only 4.5%.

Oregon's unemployment rate has been increasing rapidly, reaching a high of 12.2% in May, which was the second highest in the nation, second only to Michigan. For June, Oregon's rates held steady, remaining at 12.2%, and dropping them to third highest in the U.S. after Michigan and Rhode Island.

Oregon's largest market, the Portland area, saw its unemployment rate drop to 11.6% in June, from 12.1% in May.

As you would expect, construction jobs have been the hardest hit for the job losses in both states, in addition to government, manufacturing, and the trade, transportation, and utility sectors.

The military is a major and relatively stable driver of western Washington's economy, accounting for more than 40,000 jobs in Pierce County, and accounts for nearly 125,000 jobs and $3 billion in payroll to our regional economy as a whole; and that would be King, Pierce, Snohomish, and Kitsap counties.

Another economic driver is the Port of Tacoma, which is seeing their cargo volumes and container traffic continue to lessen as Americans are buying less and companies react to the economic pressures. The Port is still planning to build a container terminal for a Tokyo based shipping line, which is due for completion in 2012, although their plans have been downsized somewhat. Long term, the Port is expressing confidence in an upward trend with Transpacific, particularly China trade, predicted to increase up to 60% in the next six or seven years.

Despite all the dismal economic news, we are beginning to see some light through the clouds, particularly here in the Pacific Northwest. Rising home sales in some local real estate markets are evidence that buyers are starting to return.

We are optimistic that the Pacific Northwest diversified economy, including the commercial aviation, biotech, software, and export industries, should help us recover more quickly than most other areas of the country. In fact, Moody'sEconomy.com is predicting that Washington and Oregon are among the six states poised to lead the recovery from the recession due to the diversified economies and high concentration of high tech industries.

Moody's predicts Washington's recovery will start in the fourth quarter of 2009. And Moody'sEconomy.Com also says the metro area of Tacoma will be the best housing market in the country from the fourth quarter '08 to the fourth quarter 2013.

Markets like Tacoma, where prices didn't go sky high, should be spared the lows experienced in other markets.

And with that, I'll turn the call over to Gary.

Thank you, Melanie.

Yesterday we announced a net loss applicable to common shareholders of $6.6 million for the second quarter of 2009, or $0.37 per diluted share, compared to net income of $1.9 million, or $0.11 per diluted share for the same quarter last year.

The primary driver for these results was a $21 million provision for loan losses we made during the quarter due to the continued deterioration of our area's economy and the resulting impact on our real estate related construction loan portfolio.

Earnings were also impacted by a special assessment imposed by the FDIC on all insured banks in the nation. Our share of that assessment was $1.4 million, which we accrued in the second quarter.

For the quarter we recognized a total of $1.1 million in preferred stock dividends and the accretion of the preferred stock discount due to our participation in the US Treasury's Capital Purchase Program.

Now I'd like to review a few of the important points about Columbia's fundamentals. Our total risk-based capital ratio increased to 14.61%, up from 14.25% at December 31, 2008. Our capital ratios are well in excess of the regulatory definition of well capitalized of 10%. Our excess capital represents $113 million, the amount that it's over and above the 10% minimum to be well capitalized.

We also measure our tangible common equity to tangible assets. At the end of the second quarter, this ratio stood at 8.1%, as compared to 8% at December 31, 2008. Our liquidity ratio is a measure to track the funds available to meet the needs of our customers and for the general operations of the company. We are pleased with our liquidity ratio of about 42%, or well over $1.2 million, up from 34% at the end of the fourth quarter of last year.

The ratio improved over the six months due to a lower asset base, lower borrowings, and the expansion of our borrowing capacity at the Federal Reserve. Much of our liquidity comes from the bank's investment and loan portfolios, which are utilized to secure our borrowings at the FHLB of Seattle and the Federal Reserve Bank. We also have other sources of liquidity such as repurchase agreements and wholesale funding sources, which we can use as needed to assist in managing our balance sheet.

Our tax equivalent net interest margin for the second quarter was relatively unchanged at 4.38%, as compared to 4.39% one year ago, and for the fourth quarter of 2008.

During the second quarter we had interest reversals related to non accrual loans of $750,000, which negatively impacted our net interest margin as well. Excluding this impact of interest reversals, our net interest margin for the quarter would have increased to 4.49%. Average interest earning asset yields have decreased to 5.41%, or 92 basis points, from 6.33% for the same quarter in 2008. Average interest-bearing liability costs have increased 109 basis points to 1.35% from 2.44% a year ago. We have been successful in decreasing the cost of interest-bearing deposits by 19 basis points this quarter and 58 basis points for the first six months of this year.

Non performing assets ended the quarter at 4.51% of total assets as compared to 3.54% at year end 2008. Non performing assets at June 30, 2009 were $136.1 million, and net charge-offs were $16.4 million for the second quarter, compared to net charge-offs of $1.5 million for the same period in 2008.

The provision for loan losses was $21 million for the second quarter of 2009 versus $15.4 million for the same period last year. Looking ahead, the lack of stability in the economy makes it likely that we will experience elevated provisions for the foreseeable future.

Our loans ended the quarter at $2.1 billion, down $113 million from year end 2008. Our commercial business loan totals are $789 million, down from $811 million at December 31, 2008.

Commercial real estate loan totals are down roughly $5 million from year end 2008, while consumer loans are down $4.3 million, or about 2%. Our commercial construction loans have declined by $25 million, or 31%. And residential construction has decreased $55 million, or 26%, all compared to December 31, 2008.

Core deposits were essentially unchanged from $1.94 billion at the end of 2008, to $1.93 billion at the end of the second quarter. If we exclude CDs less than $100,000, core deposits increased by $22 million due to strength in our non interest bearing demand accounts and money market accounts.

The decline in CDs is due to the maturity of short term promotional specials offered during the second and third quarters of 2008, coupled with our election to focus on lower cost funding alternatives rather than growth within this portion of our deposit base. Offsetting this core deposit growth was a decline in interest bearing demand accounts, which decreased $53 million during the first six months.

We attribute the decline in interest bearing demand deposits to depositors moving funds to government-backed sweep accounts and paying down their borrowings.

Our efficiency ratio was 63.8% for the second quarter of 2009, compared to 59.3% for the second quarter of last year. While we were successful in managing our expenses, the efficiency ratio increased due to lower net interest income as a result of the interest rate reductions in the fourth quarter of last year.

We will continue to work toward achieving a ratio in the mid 50s, but in the near term we expect additional expenses going forward as we maintain higher volumes of other real estate owned and work our way through problem credits.

As mentioned in our press release, we are expanding our presence in the Portland/Vancouver area by hiring experienced bankers and adding a retail location. This will have some impact on our expense ratios over the next 12 months, but will have a positive effect shortly thereafter.

Non interest income was $7 million, down from $9.3 million in the second quarter of 2008. The decrease is primarily due to a redemption of Visa and MasterCard shares last year. After removing this gain, non interest income declined $1.3 million, or 16%, mostly due to reduction in merchant services fees and other non interest income.

Other non interest income for the second quarter of 2008 included life insurance proceeds, which explains most of the variance.

We recorded a tax benefit of $5.3 million for the second quarter. The tax benefit is primarily the result of earnings from our tax exempt municipal securities, along with other tax exempt investments such as bank owned life insurance and affordable housing partnerships.

Historically we have had an effective tax rate in the range of 26% to 28%. However, in the current economic environment our mix of tax exempt income to total income is much higher than in the past. It is difficult to provide an effective tax rate range for the coming year because we do not know the ratio of tax exempt income to total income in advance.

Lastly, our board of directors declared a $0.01 dividend for the second quarter, unchanged from the first quarter of 2009. The board reviewed our dividend in light of our current market valuation, dividend yield, payout ratio, and our desire to retain capital.

At this point, I would like to turn the call over to Andy McDonald, our Chief Credit Officer. Andy?

Thanks, Gary.

During the second quarter we, of course, took a large provision for loan losses, primarily attributable to residential land, lots, and lot development loans. While there were positive signs throughout our markets concerning single family residential home sales during the second quarter, these signs have yet to be reflected in residential land and lot values, which continued to decline during the quarter.

We have seen a divergence between the implied value of a lot and a completed single family residence versus the value of a bare lot. In some cases the difference in value can be as much as 50%. A large portion of this divergence in value can be attributed to the fact that in today's market lot loans are extremely hard to obtain, if not impossible, as most financial institutions have significantly reduced appetite for lot construction and lot loans. As such, without the availability of leverage, cash buyers are the only market participants.

Alternatively, thanks to the government's efforts to help stimulate the economy, financing for completed one to four family single -- one to four single family residences is available and, thus, leverage can be employed across the entire transaction, resulting in a higher implied value for the lot.

Given these market dynamics, many of our collateral-dependent lot and lot development loans had to be charged down to reflect the updated appraised values we received during the quarter.

To give some perspective, of the $16.4 million in net charge-offs for the quarter, $9.8 million were associated with our one to four family construction loan pool. Of this, $9.8 million, over 63%, or $6.2 million, was associated with residential land, lots, and lot development loans. These components of the one to four family residential pool remain the most challenging.

As a result, we continue to work with builders to get homes either completed or constructed because we have found completed homes are selling and our recovery rates on lots with homes on them is much higher. This also helps explain how we have been able to continue to reduce our exposure in the one to four family residential construction pool.

For the quarter we were again able to reduce our exposure in this bucket by approximately $32 million. So the vast majority of the decline in the bucket was not due to charge-offs, but due to the excellent work of our special credit officers and relationship managers throughout the bank who have been diligently working to resolve these problem credits.

To provide you with a little more color, as of June 30, 2009, we had approximately $154 million in the residential one to four family construction bucket, down 45% from a year ago.

It can be broken out as follows. $56.6 million in vertical construction, $37.7 million in lot loans, $37.8 million in acquisition and development loans -- also called lot development loans -- and $22.2 million in residential land loans. In total, $65.1 million or 42.2% of this portfolio is on non accrual as of June 30, 2009.

In the vertical category, we have $20.4 million on non accrual -- excuse me. In the vertical category, we have $20.4 million on non accrual, and $13.5 million in the lot categories on non accrual. And $23.4 million of the acquisition and development loans are on non accrual. We also have $7.8 million of the residential land loans on non accrual as of June 30th.

By market, we have $39.7 million in Pierce County, of which 55%, or $22.2 million, is on non accrual. In Snohomish County we are now down to about $7.5 million in one to four family residential construction loans, with only about 4% on non accrual as of June 30th. King County continues to represent the market where we have the most exposure, with $59 million in one to four family construction loans, of which 34% are on non accrual.

I would like to note that the percentage of non accrual one to four family residential construction loans in King County increased from 19% as of March 31, 2009, to 34% as of June 30th. The actual increase in non accruals in this market for the quarter was actually modest, while the total exposure in this market declined 20%. So the weaker credit metric has more to do with our reduction in exposure in this market versus a dramatic overall decline in the market dynamics.

Finally, the Portland market is now down to around $13.8 million, with 64% of this market on non accrual. The Portland area has been and continues to be our weakest market. However, when we entered the downturn about a year ago, we had over $43 million in this market. So we've been able to reduce our exposure in this market by over 68% in the past year.

The commercial construction bucket saw a modest decline this past quarter, which was consistent with our expectations as conversion to permanent loans or payoffs of approximately $11 million were offset by draws of approximately $9 million. The balance of the reduction in this pool is primarily associated with the charge offs we took on the unanchored strip center which we had discussed in prior conference calls.

While we continue to work with the borrower on this project, we did receive an updated appraisal on this collateral dependent loan this past quarter, which indicated a large impairment existed. This resulted in a $3.7 million charge down on this loan, reducing its balance to slightly over $8 million. We hold another $2 million in specific reserves for this loan, given the nature of the work out plan with the borrower.

Concerning our condo exposure, there was a modest decline in this segment from $23.7 million to $20.5 million, mostly due to the conversion of one project to a performing multi family apartment term loan.

The effects of the downturn in the economy and in the single family housing market were evident in our commercial real estate term loan pool where we saw an increase in non performing assets of close to $18 million during the quarter. The largest loan to go non accrual in this pool during the second quarter was a $6.2 million loan associated with a company which owns and operates five lumber yards spread out across the Puget Sound region.

We also had a $4 million loan secured by an office warehouse property located in Seattle go non accrual as the developer's challenges in his residential portfolio spilled into his income property portfolio.

In a similar situation we have a relationship where we extended eight commercial real estate loans for an aggregate amount of $2.5 million. While some of these loans remain current and none of them are over 90 days past due, given the borrower's challenges we felt it appropriate to place the entire relationship on non accrual.

Finally, we also converted one non accrual construction loan to permanent status, as well as -- and this is the convenience store project, which I have discussed before. Given some more performance on this loan, we would expect to be able to return it to accrual possibly before fiscal year end. The balance on this loan is approximately $3.1 million. And while it's not a new non accrual loan, it's new to this category.

Certainly the level of increase in non performing assets in this pool is a concern to management, and we continue to be diligent in trying to identify weaknesses within this portfolio. In this regard, we have been focusing our efforts on loans originated between 2005 and 2007, likely the more aggressive years for commercial real estate underwriting during this last cycle.

So far our analysis does not indicate any systemic issues with our approach to underwriting term commercial real estate loans. Across the entire portfolio we enjoy a 63.6% loan to value and a debt service coverage ratio of 1.91. For the non owner occupied segment, we have a 61.6% loan to value and a 1.61 debt service coverage. So in aggregate it is a fairly strong portfolio of loans.

The commercial business, or C&I pool, continues to hold up nicely. Non performing assets in this pool were essentially unchanged from the prior quarter at $12 million, or 1.5% of total loans in this pool. Basically we replaced what we were able to resolve during the quarter. Past due loans in this pool, as you will see in our call report, were also very modest at 50 basis points.

That concludes my prepared comments, and I will now turn the call back over to Melanie.

Thanks, Andy.

During the first half of this year we continued to focus considerable efforts on improving our backroom efficiency and on overall expense control, while maintaining the best possible customer service.

For example, we have successfully reduced expenses in staffing, facilities, postage and supplies, and in software and communication expenses. However, we believe the disruptions in our region and our ongoing recognition as one of the best places to work will generate opportunities for Columbia Bank to continue to attract top bankers as well.

Last quarter we mentioned that we were scheduled to open a long awaited branch in Renton, Washington; and, in fact, opened it earlier this month. The Renton office will be headed by one of our most successful retail managers who recently returned to the Pacific Northwest with her family.

Recently we invested in four experienced bankers in the Vancouver, Washington, and Portland, Oregon markets, giving us access to new customers and geographic areas. We have also received regulatory approval for our branch location in downtown Vancouver, which we expect to open later this year.

These bankers have a well established track record in developing the type of business banking that is the focus of Columbia Bank. They are especially well positioned to help us develop core deposit business relationships as well as fee based wealth management services.

Our lending strategy has remained focused on small and middle market C&I business. We are a preferred SBA lender, which allows us to participate in the various small business administration recovery and stimulus programs, which help existing clients and position us to obtain and serve many new clients in this highly profitable segment.

To be more efficient in serving this segment we continue to streamline our product offerings and our approval and processing. We expect that these initiatives will help position Columbia Bank to be in an even stronger, more competitive position in the region as the economy recovers and are consistent with our strategic vision.

We are continuing to move forward with that strategic vision, even though our progress is slower than it would be in more normal times. We are very well capitalized and have multiple sources of liquidity. Our loan portfolio is balanced and our net interest margin is stable. We have strong customer relationships and a reputation for delivering excellent customer service, resulting in an exceptional core deposit base.

We're taking steps to ensure long term success and a strong base from which to operate when the economy begins to rebound, and we believe we are seeing some initial signs of that recovery. Part of that strong base includes our disciplined approach to expense control and improving efficiencies without sacrificing the customer and community service that has always been the foundation of our success.

This concludes our prepared comments. Before we open the call for your questions, I'd like to remind you that Gary Schminkey, Chief Financial Officer; and Andy McDonald, Chief Credit Officer, are with me to answer your questions.

And now, operator, could you please open it for call the call for questions?

Yes, ma'am. (Operator instructions.) Your first question comes from the line of Adam Klauber with Fox Pitt.

Hi, Adam.

Thanks. A couple different questions. On loan growth it sounds like the economy is maybe stabilizing a bit more. Do you think loan growth will pick up in the second half of the year?

Andy, do you want to take that one?

Sure.

You know, right now I guess I wouldn't say that I'm real bullish on that, predominantly because we've seen line of credit usage come down quite a bit. So our business customers, especially in the C&I book, which I think is one of the reasons why it's holding up so well, have really responded quite well to the downturn.

While the economy may be stabilizing, I'm not sure I see it rebounding, so I'm not sure that they would be replenishing or growing inventories that would drive increased borrowings. And our consumer applications continue to be off about 30% from this time last year. So I would expect, you know, loan growth to be very tepid.

Okay. Another question on the commercial real estate portfolio. You mentioned that your loan to values are still very favorable; 62%, 63%. I guess two questions. One, has that been moving up; and also I guess what's the process to determine the values? How often do you get appraisals on those properties?

Right. The values have kind of moved around over the last several quarters, but they haven't moved substantially. The loan to values have declined a little bit, but we've always been in that low to mid 60% range. So no discernible trend, at least in my opinion.

As to when we get new appraisals, it has a function to do with the risk rating of the client. And we have policies in place that if the credit begins to migrate downward, then the value has to be reestablished. And if the credit becomes classified, for example, that does require an outside third party appraisal to be gotten so that we can review that.

Now, we do review all of our commercial real estate loans greater than $500,000 on an annual basis. And we review that both to see how the property is performing, what's its debt service coverage and so forth, what the rent roll looks like and the various other factors, vacancy and -- but as part of that process, we also take the most current year NOI; and with guidance from credit administration on what we feel are various appropriate cap rates for property types, we kind of back into sort of a quick and dirty value there.

But the values that we use to track and the values that I'm sharing with you are based on the appraised value, either at loan origination or if we've gotten an update since then.

Okay. Okay. Well, thank you very much.

Thanks, Adam.

Your next question comes from the line of Matthew Clark with KBW.

Good afternoon, guys.

Hi, Matt.

Hi, Matt.

I guess first on Andy. Thanks for simplifying the breakdown on construction this quarter for us.

But can you just follow along with the granularity within the commercial construction book, which I think is down to about $47 million now, within those three buckets; condos, owner occupied, income property producing, and related non accruals?

Sure. We've got $56 million in total, of which $20.4 million is condo. Of the -- and then you have also $45.1 million in income property, which includes the condo exposure. So if you take the condo exposure out, you've got roughly $25 million of non condo income property. And then the balance is about $11 million is owner occupied.

Outside of condos, you've got about $12.7 million in retail, of which $8 million is basically that one loan, and the rest is kind of spread out. We've got $5.2 million in office and then we have $4.8 million in warehouse and then the balances are all pretty small in the other categories.

Okay. Great. Okay. And then on the margin can you -- you've seen some stabilization in loan yields here despite the interest income reversals, and you've also -- and your cost [of] deposits are down to roughly 1%. Can you just talk about your level of confidence in loan -- the stabilization of loan yields as well as the opportunity for additional reductions in the cost of funds?

Gary, do you want to take that one?

Okay. Hi, Matt. It's Gary.

Hi, Gary.

With the deposits, I'm thinking that we're probably starting to hit bottom here on the core deposit costs. Where we've seen the pickup is the roll off of those CD specials and so on. And while being competitive on the CD side, we really have seen the growth into other areas of our core deposits that carry a lower cost. So we're pretty confident that we can stay in that area, given the current rate environment for the core deposit side.

We are seeing some increase in the CD cost just because of the CD specials that many banks have offered in our area.

For loans -- Andy, correct me if I'm wrong -- but we've had some good traction in getting some floors put into loans as they come due or become available to put on. I don't have the total of that, but I think we have seen some positive results from that.

Yeah, I would agree with Gary's comments. You know, we have roughly, what, 40% of our portfolio is a variable rate portfolio and it has -- and that portfolio has obviously been rolling during the course of the year. So we've had the ability to increase pricing on those, either by instituting a floor and/or just increasing our spread over the cost of funds, either being LIBOR or prime with our customers.

And then the other thing, too, is -- I mean even though loan growth -- our loans have come down, we're still booking new loans. And quite honestly, being one of the few lenders in the market that's active in most segments outside of one to four family construction and CRE construction, which are not real aggressive in at this point in time, we're able to get better pricing today than we could a year ago and certainly two years ago.

Matt, also one of the things on the --, as we talked about how loans -- when rates go down, we have roughly $550 million in our securities portfolio that yields roughly the same as our loan portfolio and that has -- that's designed to help when rates do decline. So as rates move up, then, of course, loans will take over in terms of, as Andy talked about, the 40% that are tied to prime or other indices.

Got it. Okay. That's helpful.

And lastly, can you talk about the opportunity for doing roll ups, your appetite for them, what your criteria might be? And I think in some cases you might have the opportunity to actually create capital with a bargain purchase.

Right. We would definitely consider opportunities in the Pacific Northwest that might come up through an assisted transaction.

Our criteria in looking at any kind of an acquisition really has a lot to do with the balance sheet. And with our focus on core deposits and diversified loan portfolio, a lot of times they just don't mesh with our business model. But we definitely would take a look at any opportunities that might come up.

The second part of your question, Matt, was related to the bargain purchase gain that we may have in such a transaction. And I've come to the conclusion that in terms of looking at those types of transactions, we really have to model something like that without the bargain purchase initially. Because it's really unknown whether -- it really depends on how many bidders and what price you're able to obtain such an institution from the FDIC. So given all the variables, it's -- you really have to go into it from the standpoint that you're not going to [get] that treatment.

The other way that we look at it, Matt, is that it -- even if we choose not to bid or are not a successful bidder, we still have an opportunity to pick up market share in the event that there are banks that fail. So picking up good bankers or the portion of the business that we would like to have, we're still going to pursue those even if it's for organic growth.

Along those lines, can you -- have you been able to pick up any bankers so far, say in the last six months?

Yes. We picked up four bankers in the Vancouver and Portland markets -- and just great bankers. We have long wanted to be in the Vancouver marketplace on the C&I and business side. And we just really have looked for a long time for the right bankers, and we were able to find them.

And then in the Portland market where we picked up a couple of new bankers, they have a different client base than we've been introduced to, and they are very focused on building core deposits and on C&I business. So it's been a real advantage for us.

Thank you.

Your next question comes from the line of Joe Morford with RBC Capital.

Hi, Joe.

Hi, there. Good afternoon, everyone.

Hi, Joe.

Most of my stuff has actually been asked, but I guess to follow up some.

Talking about the appraisals on the CRE portfolio, how much of that portfolio would you say has had an updated appraisal within, say, the last six months?

Actually not that much because we really haven't had that much stress in the portfolio. So, I mean, we've got -- certainly we had an increase this quarter but, you know, the vast majority of that portfolio continues to be performing, and we don't get updated appraisals on performing loans.

I guess given the stress this quarter, and it seemed to kind of broaden out beyond just kind of retail which you were kind of highlighting last quarter, is that triggering you to more proactively go out and do updated appraisals just to kind of get caught up, if you will?

Well, we're not going to order appraisals and spend the money where loans are performing, but what we do do is -- and our focus has been in looking at the loans originated between 2005 and 2007.

Certainly the loans that started -- that you originated in the late '90s and early 2000s have had quite a bit of seasoning and principal reduction. And we do do sensitivity on that and shock it. And in that case, in all -- and we call it the vintage, sort of like wine. So if we look at our 2005, 2006, and 2007 vintages, if we shock all those by a 20% decline, we don't have any loan to values in those vintage years that goes over 80%. The highest is actually 2005, which moves up to 77.5%.

Now, certainly we have loans within each vintage year that we are more concerned with than others, so we identify those loans, and we'll take a closer look to make sure that the rent rolls and the properties are performing. And we may begin evaluating those on a semi annual or a quarterly basis based on what we find.

Okay. That's helpful.

And then the other question is, I guess, on the expense side. Melanie, you touched on this, but just to get a better sense going forward, given your interest in hiring bankers and opening up a new branch and stuff, but also given the pressure on -- in the environment, should we be looking for just modest growth or is there a chance for actual declines in expenses? Or how do you see that playing out over the next few quarters?

Well, there might be some modest growth. And here again, if we have an opportunity to invest in some really stellar bankers because they become available in this economic environment or because the bank that they're with is no longer lending or able to lend, we would not back away from that opportunity.

On the other side, we are -- we have several initiatives that we continue to deploy that help us to reduce expenses in other areas. So I would hope that we would be able to offset some of those expenses.

Okay. Super. Thanks so much.

Thanks, Joe.

Your next question comes from the line of Jeff Rulis with D.A. Davidson.

Good afternoon.

Hi, Jeff.

Jeff.

One follow up, Melanie. I wanted to confirm on the bankers you did pick up before in Portland and Vancouver, you said that those were from failed bank institutions?

Two of them were.

Okay. Okay. And a related question. I guess the success that you're having on the core deposit side, is that also -- do you think that's related to failures within your footprint?

We've certainly benefited from a very large failure in our King County marketplace. And we just picked up the four bankers that I talked about in Vancouver and Portland, or the Vancouver one just this quarter. So it's a little bit early yet to know the extent of that.

But we're also just picking up a lot of new customers who are coming to us because they're seeing the level of customer service that they receive from their existing banks eroding, and I think it's because of extreme expense cuts.

Okay. Makes sense.

And then, Andy, just a question on the total NPA number. If you could just quickly touch on the inflows and outflows there. Obviously a net increase of $15 million, and you can see the charge off number. But I don't know if you could speak to anything that paid off in the quarter.

Well, yes, let me take a look at a couple of things here. We had the charge offs that were 16, we transferred 6.5 to OREO, and then in the OREO bucket we sold about 2.5. So the OREO bucket you start off with 4.3, you put 6.5 in, you sell 2.5, you end up at 8.3.

We had additions in that bucket of non accruals of around 40, so -- and then you had a whole bunch of payments and advances in there. And I don't know the breakout on all that.

Because we are taking some of our non accrual builders vertical, so we're advancing to build a house. And then generally speaking, once we've got a house built, we can sell it.

Right. Okay. Those numbers -- that will work. Thank you.

Thank you, Jeff.

Your next question comes from the line of Aaron Deer with Sandler O'Neill.

Hi, Aaron.

How's everybody doing?

Good.

Andy, I've got a question for you. On the commercial mortgage portfolio, can you give a percentage breakout by category in terms of how much is retail, industrial, office, multi family?

I don't have the percentages in front of me, but I have the numbers.

Okay. That's fine.

So in retail, we have $99 million. Office is $154 million, multi family is $54 million, you've got $194 million in warehouse, $42 million in manufacturing and industrial properties. Some of the other bigger buckets that we have would be the hotel/motel at around $64 million, and multi family at $54 million. So those would be the buckets that are -- have some meat to them.

That's great. Thanks. And then did I hear earlier -- did you give the loan to value and debt service coverage ratios on that commercial mortgage [book]?

Yes.

Could you repeat that? I'm sorry.

Yes, across -- let's see, it was in my transcript. You're challenging me.

That's okay. You know what? I can go back and look at it later.

No, I can get it here real quick. Across the entire portfolio the loan to value is 63.6, with a debt coverage of 191.

If you just segregate out the income property component, which tends to have the more -- the CRE kind of risk that we're talking about, the loan to value is 61.6 and the debt service coverage is 1.6.

Okay. That's great. Thank you very much.

Thank you, Aaron.

Thank you. At this time there are no further questions.

Okay. Well, thank you so much for joining us this afternoon.

Thank you for participating in today's conference. You may now disconnect.