Columbia Banking System Inc (COLB) 2011 Q3 法說會逐字稿

Welcome to Columbia Banking System's third quarter 2011 earnings 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. You may begin.

Thank you, Lashanda. Good afternoon, everyone, and thank you for joining us on today's call to discuss our third quarter 2011 results. I hope you've all had a chance to review our earnings press release which was issued this morning. And I'm happy to say we had a terrific quarter.

With me on the call today are Gary Schminkey, our Chief Financial Officer, and Andy McDonald, our Chief Credit Officer. Mark Nelson, our Chief Operating Officer, will also be available for questions following our formal presentation.

Gary is going to begin our call by providing details of our earnings performance for the quarter, including the financial benefits for recent FDIC-assisted transactions, our capital position, net interest margin, and core deposits. And then Andy will review our credit quality information including trends in our loan mix, allowance for loan losses, and our charge-offs. I'll conclude by briefly giving you our thoughts on the economy in the Pacific Northwest and discussing our ongoing strategies as we move forward. We'll then be happy to answer your questions.

I need to remind you as well that we will be making some forward-looking statements today which are subject to economic and other factors, and 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 2010.

And now I'll turn the call over to Gary to talk about our financial performance.

Thank you, Melanie. Earlier today, we announced earnings of $18.9 million for the quarter ended September 30, 2011, or $0.48 per diluted common share. This compares to $2.5 million for the same quarter of 2010, or $0.06 per diluted common share. While our results are materially influenced by our FDIC-assisted transactions, we also enjoyed a strong net interest margin, quarter-over-quarter loan growth and improving credit metrics.

Included in earnings is a $1.1 million clawback liability expense which was a result of the better-than-expected performance of the loan portfolios we acquired during the first quarter of 2010. If you remember from previous results, the clawback provision in our purchase and assumption agreement with the FDIC requires us to reimburse the FDIC at the conclusion of the loss share agreement a calculated amount if total losses fail to reach a certain level. The present value of the estimated liability will be calculated quarterly and adjusted up or down through its non-interest expenses. We have expense of approximately $3.3 million [life] to date for the clawback.

We provided a table in our earnings release showing the impact of the accounting entries associated with our acquired loan portfolios. The impact can be significant, as well as volatile. The net effect of our acquired loan accounting resulted in additional pretax income of about $7.7 million for the current quarter. This compares to a pretax income of about $2 million last quarter ended June 30, 2011. For the [current] quarter, we recorded $14.6 million in incremental accretion over the contractual rate stated in individual loan notes for loans accounted for under ASC 310-30. The amortization of our FDIC loss-sharing asset was $10.9 million and the clawback liability, as I said, was $1.1 million.

In addition, we accreted $5.1 million into income from the discount on the Bank of Whitman acquired loan portfolio. This portfolio is not covered by any loss share agreement and was, for the most part, a relatively clean portfolio. As a result, we do not apply ASC 310-30 accounting treatment, so we accrete the discount in the same fashion as we would amortize net deferred loan fees on originated loans. We will accrete the discount to income based on a calculated schedule. However, when a loan prepays in full, the remaining discount is accreted to income immediately, making it challenging to determine an expected run rate.

The variability in earnings resulting from the accounting for the FDIC-assisted transactions will continue as changes occur in timing and amount of cash flows. Expected cash flows for certain of the acquired loans are reviewed at least quarterly.

Our tax-equivalent net interest margin for the third quarter was 6.53%, up from 5.24% for the same quarter last year. The margin was positively impacted by 194 basis points, by our accretion income and discount amortization related to our acquired loan portfolios. It was negatively impacted 3 basis points by interest reversals of $270,000 related to loans moving to non-accrual status during the quarter.

Average interest-earning asset yields increased 108 basis points to 6.88% in the third quarter of this year from (inaudible) for the same quarter of 2010. During the same period, average interest-bearing liability costs have decreased [27] basis points to 50 basis points for the third quarter compared to the same period last year.

Turning to non-interest income, after removing the effects of the change in FDIC loss sharing asset, and gain on bank acquisition, non-interest income for the third quarter of 2011 showed an increase of $1.5 million or 15.5% due to increased volume in service charges on deposit accounts and other non-interest income. Other non-interest income increased $1.1 million for the third quarter as compared to the prior year. The increase in this category is due to increases in loan fees and mortgage banking revenue.

Our efficiency ratio was 59.2% for the third quarter of 2011 compared to 68.3% for the same quarter last year. While we have been successfully managing our expenses, the efficiency ratio increased due to increased expenses associated with adding 18 branches to our retail system this year and from managing both our covered and non-covered problem assets. The efficiency ratio is also driven by revenue. Revenue growth has been slower than we would like as a result of the Pacific Northwest economy.

Although we expect total expenses as reported to continue at these levels for the foreseeable future, our management team has identified many initiatives to gain efficiencies. These initiatives will be evaluated over the next several months. The efficiency ratio is certainly higher than we would like, but as the economy recovers and revenue-generating opportunities resurface, we believe we are in a strong position to grow revenue faster than expenses.

Compensation and benefit costs for the third quarter are up $3.8 million over the same quarter last year due to the additional staff from our FDIC-assisted traction.

We recorded a tax expense of $7.2 million for the third quarter, for an effective tax rate of about 27.7%. The tax expense is lower than our marginal rate as a result of earnings from our taxes at municipal securities, along with other tax-exempt investments, such as bank-owned life insurance and affordable housing partnerships. We expect an effective tax rate of about 27% for the full year 2011.

Turning to the loan portfolio, we categorized the loans acquired from our Bank of Whitman transaction as discounted loans, which are included with our originated loans in the non-covered loan portfolio composition, not in the covered loan category. Our non-covered loans ended the quarter at $2.26 billion, up $342.1 million from December 31, 2010, and up $270.4 million from June 30, 2011. If we remove the loans from the Bank of Whitman transaction, non-covered loans increased $86.9 million or about 4.4% during the third quarter.

On a linked-quarter basis, commercial business loans increased $76.5 million or 9.2%. Commercial real estate loans increased $27.6 million or 3.1% and real estate construction loans declined $12.8 million or 15.6%. Again, these comparisons do not include the loans acquired in the Bank of Whitman transaction.

At the end of the third quarter, core deposits were up $321.7 million from June 30 of this year. Again, if we remove the Bank of Whitman core deposits at September 30, 2011, core deposits increased $82.4 million or 2.6% during the third quarter. Our ratio of core deposits to total deposits has increased from 90.1% at year-end 2010 to 90.4% at June 30 to 91.3% at September 30 of this year.

Our total risk-based capital ratio at September 30, 2011, was 21.87%, down from 24.2% at June 30 of this year and down from 24.5% at year-end. The decline in our risk-based capital ratio is a result of redeeming our trust preferred obligations during the quarter and acquiring assets from the Bank of Whitman transaction.

We also measured our tangible common equity to tangible assets. At the end of the third quarter, this ratio stood at 13.2% as compared to 14% at December 31 of last year. We continue to have strong liquidity with over $2 billion in available funds.

Investment securities increased $6.1 million during the third quarter. We continue to seek opportunities to invest our excess cash. The opportunity costs of doing nothing, or keeping this balance short-term, is tremendous. We believe the additional income will more than compensate for any increase in interest rates in the three to five-year time horizon.

Our main emphasis is certainly investment quality, but also the structure of the investment to have some predictability of cash flow. We are not reaching for yield. We're also very mindful of premium risk gained by investing in the mortgage-backed security market, which lately has tremendous prepayment uncertainty.

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

Thanks, Gary. Okay. I will begin my comments by discussing our loans not covered under FDIC loss-sharing agreements, which were approximately $2.2 billion as of September 30. For the quarter, our non-performing assets declined to $89.3 million or roughly 2.15% of non-covered assets as of September 30, 2011, down from 2.54% as of last quarter and down from 3.23% as of the end of last year. So we continue to make steady progress and are pleased that we've been able to report improving credit metrics throughout 2011. As you might recall, we peaked at 4.7% in September of 2009, so while we haven't resolved all the issues coming out of the great recession of 2008, we have, and we continue, to make progress.

As detailed in the press release, we had inflows of $15.8 million into the non-performing category, including $3.2 million associated with the Bank of Whitman transaction, and had outflows of approximately $23 million, including $1.5 million in charge-offs.

For the quarter, loans not covered under FDIC loss sharing agreements grew approximately $290 million, with the Bank of Whitman transaction accounting for 70% of this growth or roughly $204 million on a non-discounted basis. Thus, organic loan growth was about $86 million or 4.4% for the quarter. Most of the growth, approximately $147 million, was centered in commercial business loans where organic growth accounted for about 52% of the increase in commercial business loans and the Bank of Whitman transaction accounted for the rest of the growth in this segment.

I would like to note that organic growth was split between increased line usage and new business. Increased line usage accounts for about 52% of the $76 million in organic commercial business loan growth and can be attributable to the seasonal nature within our agriculture and fishing portfolios, along with increased usage within our finance company portfolio, which reflects the recent refinance activity in the single-family residential mortgage market.

New business was evenly distributed across the commercial business loan portfolio and was not concentrated in any one industry. We were especially pleased with the addition of some agricultural processing companies, which will add diversity to our Ag portfolio in eastern Washington and eastern Oregon, which has historically been focused on primarily growers.

The other segment which increased significantly during the quarter was the [firm] commercial real estate portfolio which grew about $134 million. Most of the growth in this portfolio, roughly 80% or about $107 million, was due to the Bank of Whitman transaction as organic growth was around $26 million or 3.1% for the quarter.

The performance of the commercial business portfolio was much improved during the third quarter as non-performing assets in this pool declined $8.1 million and now account for about 2% of the portfolio, down from 3.3% last quarter and 4.3% at the end of last year. Commercial business non-performing assets account for about 22% of our total non-performing assets.

The [firm] commercial real estate portfolio also showed improvement in its credit metrics for the quarter, with non-performing assets declining $7.3 million during the quarter. NPAs now account for about 3.1% of this pool, down from 4.4% last quarter and 4.7% as of the year-end 2010. NPAs in this segment appear to have peaked at 5.3% in March of this year. This is our largest segment of non-performing assets and accounts for about 34% of our total non-performing assets.

Our construction segments were essentially unchanged from quarter to quarter adjusting for the Bank of Whitman transaction. The modest uptick in construction non-performing assets was centered in one development project located in the tri-cities region of Washington State, which as I alluded to before, was acquired with the Bank of Whitman transaction. Non-performing construction assets at quarter end were around $29 million and account for 33% of our non-performing assets.

The only segment where we saw some modest negative migration was in our consumer portfolio. Consumer NPAs increased a modest $633,000 in the third quarter and was centered in a home equity line of credit to a single individual involved in real estate development. Absent this single credit, NPAs would have declined in our consumer segment during the third quarter of 2011.

Loans not covered by FDIC loss sharing agreements, which were past due at quarter end, were approximately $10.2 million or roughly 45 basis points, up modestly from last quarter's 38 basis points.

Loans acquired under FDIC loss-sharing agreements were approximately $786 million as of September 30 on a UPB basis, down from $840 million last quarter. So the pace of resolution within the covered loan portfolio remains consistent with what we were experiencing prior to the First Heritage and Summit transactions. The majority of the portfolio continues to be centered in real estate, with both construction and permanent loans accounting for about 65% of the portfolio, which is about even with last quarter.

Past dues for loans covered under FDIC loss-sharing agreements were just over $37 million or around 4.8% of the total portfolio as of quarter end, which was an improvement over last quarter when they were slightly higher at 6%. Loans covered under FDIC loss-sharing agreements, which were classified as non-performing loans for call reporting purposes, represents about 22.5% of the portfolio, up from 16.9% last quarter. The increase quarter-over-quarter was expected and results from our greater familiarity with the First Heritage and Summit portfolios. This trend is consistent with what we experienced with Columbia River and America Marine Bank.

With that, I'll turn the call back over to Melanie.

Thanks, Andy. I'm not going to spend too much time talking about the economy in the Pacific Northwest because not much has changed in terms of unemployment and real estate crisis. Economic reports are still mixed and the recent Federal Reserve survey suggests a hazier economic outlook is still resulting in businesses continuing to be cautious and holding back their spending and hiring. We believe the Pacific Northwest reflects the same pattern as the country as a whole.

In Washington State, the jobless rate declined to 9.1% in September, down from 9.3% in August, the same as the nation as a whole. Sectors showing gains include manufacturing, with the aerospace subgroup up 1,000 jobs, education and health services and professional and business services. Sectors losing ground include leisure and hospitality, construction, information, transportation, wholesale trade and financial activity.

Oregon's unemployment rate remained stagnant last month at 9.6%, 0.5 point above the national average. However, Oregon has added 27,000 jobs since September of last year, decreasing the unemployment rate by 1.1% and this is the second-largest drop of any state in the nation.

Both Washington and Oregon have seen significant cuts in government agencies, with schools being hit particularly hard. So again, both states expect a moderate job growth through the rest of this year and through 2012. These jobs will come from the private sector, since government is still likely to cut their payrolls further this year, as they struggle to balance their budgets.

As Gary mentioned earlier, we are encouraged by some good, solid loan growth during the past two quarters. Of course, we brought on new loans and relationships with our acquisitions, as our bankers worked very hard to identify good customers. Our banking teams have also deepened relationships with current customers and have been successful in taking market share from others. While we added over $100 million in new loan production for the quarter, the majority of these loans are coming from other banks, rather than representing new capital investments by companies.

As Andy indicated, one bright spot is the possible economic indicator and we can only hope that it's true -- was that our line of credit usage this quarter rose to over 57% for the first time in over a year.

Our acquisitions and our organic growth moved us from 9 -- up to the eighth ranking in deposit market share in Washington according to the FDIC's most recent report. This report is, as of June 30, so it doesn't reflect the deposits we acquired from the former Bank of Whitman. We have maintained the number one position in our headquarters' county of Pierce, as well as Klickitat, and in [Kelletts] County, which is in southwestern Washington, we rose to first place up from number three last year. In Oregon, we ranked number 15 in market share for the state and have the number one position in Wasco and Jefferson Counties.

I mentioned last quarter that the Dodd-Frank bill is very broad and complex and will likely usher in both good and harmful changes for community banks. Either way, we're anticipating that the increased regulations will certainly add expense to our industry. With rates projected to remain very low for the next couple of years, revenue growth could be muted.

We are externally focused to make sure we are offering all of our products and services to our client base, especially to our new markets with the desire to grow non-interest income, of course.

The other side of the income statement will keep us busy as well, as we work to control expenses. Technology initiatives underway will help us to move more efficiently to handle transactions, but credit costs are still elevated as we work through problem credits.

Capital management is an important component in our strategy. As Gary indicated, we did effectively utilize some of our capital during the third quarter through organic growth, repayment of our trust preferred obligations and acquisition of the Bank of Whitman. We announced an increase in our regular dividend from $0.06 to $0.08 for the quarter and a special dividend of another $0.05.

Additionally, we announced a stock buyback of up to 2 million shares or approximately 5% of our shares. All of this together reflects our commitment to utilizing all the tools appropriate to effectively manage capital, but I don't want this to be construed that we are not interested in other acquisitions, that the volatility in financial stocks right now makes at least open bank transactions a little trickier, but we will continue to look at opportunities that make sense for Columbia and our shareholders.

An additional consideration in capital management is trying to anticipate the economy's direction. Being a well capitalized bank will continue to be a priority for us. So we are well prepared to continue to navigate successfully during these volatile times and we look forward to the opportunities we expect ahead.

With that, this concludes our prepared comments this afternoon, and as a reminder, Gary Schminkey, our Chief Financial Officer, Andy McDonald, our Chief Credit Officer, and Mark Nelson, our Chief Operating Officer, are with me to answer your questions. And now, Lashanda, will you open the call for questions, please?

(Operator Instructions) Your first question comes from the line of Aaron Deer with Sandler O'Neill.

Hi, good afternoon, everyone.

Hi, Aaron.

My first question is, I guess, for Gary. With respect to the $19.7 million in discount accretion in the quarter, can you talk a little bit about how that breaks out between -- what amount of that was due to early paydowns versus what was kind of accreted through normal amortization?

Well, yes, I'll attempt to do that. It's difficult to split that out, but on Page 3 of the earnings release, we give a table that talks about the -- or shows the detail of the accretion for the pooled loans versus the accretion on the discounted loans. The accretion on the pooled loans of $14.6 million, that's more of a long-term proposition and it will continue in some symmetry to the FDIC loss-sharing asset.

I think where you're coming from is incorrect, but I think your question really is the accretion on the Bank of Whitman loans, the discount, and since those weren't on the books very long, most of that is related to maturities and payouts. Did that answer your question, Aaron?

Kind of. I mean, it's -- you're getting at where I'm going, but I'm just trying to better understand kind of what we can expect in terms of a quote, unquote, "normalized level" of accretion versus what we saw this quarter that was clearly some significant outsized amount.

Yes, I think you'll see more of normal accretion numbers with our pooled loans. The loans accounted for the Bank of Whitman are the discounted loans. That number -- we reported $20.5 million left on that discount. Most of that will be gone, I would imagine, within the next year and a half or so. That's going to be a little quicker because that is related to maturities and -- or most of it related to that.

Okay. That's helpful. And then I applaud the decision on the dividend and the buyback. I guess with respect to the share repurchases, is there any targeted activity level on that front or is it just going to be discretionary? I guess is there a 10b-51 plan or anything like that that you've thought about putting in place? Where does that stand?

Yes. It is a 10b-51 plan and we'll be able to trade in blackout periods and that sort of thing, so, yes.

Any kind of targeted activity level or --

We're actually not going to disclose that, Aaron. It's all subject to rules and regulations.

Okay. Thanks for taking my questions.

Sure. Thanks, Aaron.

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

Hi, Jeff.

Hi. A question on the margin, really the core margin -- I think you have indicated in the past that you think that reverts to the [425 to 450] range. I guess given all the noise and really, hoping for the core answer here, is given all the things in play, does that core revert back below [450] in the next couple of quarters or are there some tailwinds? If you could maybe talk about maybe some -- the determinants of what's -- if you can stay above [450].

Aaron, this -- excuse me -- hi, Jeff. This is Gary.

Hi, Gary.

Hi. Our margin did increase a little bit this quarter. We did pick up some steam on our core deposit cost for the quarter, but I think our position still remains that over the next 12 months, we will have some pressure on loan pricing and we will reach a floor essentially on what we can do on our deposit costs. I'm not sure that we're there yet, but very shortly, we will be, I would assume, but we still expect some intense competition on the loan side and where we would see some repricing of our existing loans through the competitive arena.

And Gary, just to follow up on the -- you mentioned some expenses to continue at similar levels. I guess any -- is that outside of any bump from having Bank of Whitman on the books for a full quarter? And maybe if you could talk about non-interest income too, if there's any bump there sequentially for both those line items?

Well, I'll start with expenses, I guess. For the expenses, we are looking at initiatives to become more efficient, but at this point, given the Bank of Whitman additional expenses and the expenses that we're carrying prior to our conversion of those systems, which would occur late in the first quarter of next year, I would expect those to be pretty flat next year, given our fourth quarter -- third and fourth quarter run rates.

On the -- for the non-interest income, we're looking for that to remain fairly strong. I mean, we had a good bump this quarter compared with last year with the increased emphasis that -- where we see in mortgage banking, trust and other wealth management and other services. We hope that we can get some good gains from that area.

Okay. So essentially, not looking for much change on both line items in Q4?

No, I would not expect much change in Q4.

Got you, okay. And then lastly, Melanie, just a question on the capital levels. Obviously, you announced a lot of initiatives there, but you've still got some elevated capital numbers. Is there sort of a base level where you'd want to see those at least stay above sort of a guideline, either TCE or total risk based, that you'd want to keep above?

Well, we've said before that we feel that we wouldn't want to drop below 14% total risk-based capital and the economy is really the wild card still and I know that we've said that quarter after quarter. I would say that things appeared much more positive as far as the economy in the second quarter and then the third quarter, a lot of things happened.

And we feel comfortable in carrying a little bit higher capital levels than the 14% right now until we figure out really what direction the economy is going and depending on what day of the week it appears to really change. But as I said previously, there are a lot of things that we still see as opportunities for us to be able to deploy capital and just -- it's taking longer than we would like.

Got it, okay. Thank you.

Uh-huh.

Your next question comes from the line of Dave King with Roth Capital.

Hi, Dave.

Hi, good afternoon, guys. So I was definitely encouraged to see the buyback announcement and the other [things] you did this quarter, so (inaudible) that.

Good.

As far as just the loan growth, that was also pretty encouraging. That increase in line utilization maybe -- has that continued at all into this quarter and did that kind of continue throughout the quarter? How should we think about that?

Mark, do you want to talk a little bit about the pipeline?

Yes. Well, there is some seasonality to our line utilization and it's something we're looking at on a regular basis. I guess -- I don't have any current information to tell you how much we expect that to continue into the fourth quarter, but I will tell you that our pipelines are filling very nicely and it's not because there's a lot of new business being created out there.

It's because our people are really in front of our client base and looking at prospective opportunities, and that's -- in our commercial middle market teams, we've seen some strong opportunities there. Our professional lending teams is part of our wealth management group and that's a bit tempered on the retail side with consumer and small business still being fairly soft.

That's helpful. Then maybe along those lines, how did the pipeline, I guess, look at quarter end kind of versus last quarter, just to give us some kind of help there? And I understand that some of that was seasonal, but just --

It's up about 10% quarter-over-quarter.

Okay, good. And maybe one other one -- Gary, I think you mentioned that compensation costs, some of that's because of additional staff for FDIC deals, etc. I guess trying to take a step back a little bit and think about it, those and other general workout costs, maybe including legal and professional, where are those running at today, or what's kind of a core kind of expense rate we can look for kind of longer term looking out a couple of years that's not going to be necessarily there just because of all the things you guys are doing right now, having the credit and FDIC deals?

Yes, that's a tough question looking out over a couple of years. We do have -- and again, this is off the top of my head --

That's (inaudible).

-- $200,000 or $300,000 a quarter for the -- keep the systems running at the Bank of Whitman roughly, but as far as the expenses for workout of the covered and non-covered loans, that would continue, I would assume, at least through next year into the following year at maybe a slight decline, but roughly the same, I would assume at this point.

Okay. That's helpful. Thanks.

Um-hum.

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

Hi, Joe.

Hello, there. How's everyone?

Good.

Good.

Good. I wondered if you could, I guess, elaborate a little bit more about some of the pricing pressures you're seeing on the loan side, both the C&I and CRE, and then I guess specific to CRE, just talk about the types of projects where you're seeing some good opportunities now.

This is Mark. Let me talk a little bit about the pricing pressures because there is a lot of competition out there and it's -- we're seeing it on alternative to prime types of opportunities on short-term credit and we're seeing pressure on longer term rates, five, 10, and see some competitors going out longer than that. We have a pretty good discipline around our pricing and where we want to be, so if we have an alternative scenario, we want to be competitive, but there are different ways of looking at it that make sure we maintain our profitability. And so we have a pretty strong discipline about that.

Yes, the thing that I would add -- and this is Andy -- is that certainly, last year, especially toward the end of last year, the beginning part of this year, we saw floor levels decreasing and now, we're seeing floor levels be eliminated, and so, certainly a lot of pressure on floors within the commercial business segment. And then as Mark alluded to in the CRE segment, the pricing pressure is really more people reaching out in the yield curve.

It was interesting because we do track secondary market transactions as a means to see how well and how competitive our current pricing structure is, and recently, there was a batch of Fannie Mae multi-family underwritten stuff, so a pretty vanilla kind of product. The portfolio had an average yield just a little bit over 5% and was purchased at a premium of 103.5. So that's going to effectively give you a yield of, what, around [460, 465] or something like that. So you can see that people are pushing out on the yield curve for yields even though the absolute rate isn't that high.

In terms of the projects that we've been underwriting, they continue to be fairly low loan to value projects. Some of that is driven by where cap rates are today, so I can't get too excited or try to lead you to the conclusion that we're very conservative from an LTV standpoint because some of that is just by cap rate, but from a debt service coverage, we continue to underwrite in excess of [130 and 135], so we're kind of picking and choosing our places. Multi-family was a good spot for us last quarter. We did a little bit more multi-family this quarter, but we actually were able to find a couple of good retail products, as well as some industrial stuff that was close in to the I-5 corridor.

Excellent. That's very helpful. And then I guess one just separate question following up on some earlier questions on capital management. How should we think about the possibility for future special dividends perhaps if some of the M&A activity doesn't materialize?

Well, obviously, we're going to take a look at that every quarter and we were successful in deploying some capital this quarter and there are other ways that we could do it other than special dividends, such as organic growth, but I just want to make sure that you know that we do look at all the different options and this quarter, it just really made sense to do the special dividend. And it'll be on the table again next quarter if we're fortunate to have a similar quarter.

Okay. Appreciate it, Melanie.

Uh-huh.

(Operator Instructions) Your next question comes from the line of Matthew Clark with -- I'm sorry -- with KBW.

Hi, Matt.

Hey, good afternoon. I guess my first question may be on the Bank of Whitman. I thought that that franchise had about [$215] million or so loans before maybe reserves, before the mark. It looks like it shook out somewhere around 185 or 183 here. I'm just curious as to what happened there between now and then.

Well, we acquired, at the date of acquisition, a little over $200 million in loans and I'm trying to remember, $230 million to $240 million, at roughly a 15% mark, and then of course, we had -- not substantial, but a decent amount of payoff maturities prior to the end of the third quarter. So we ended the quarter at roughly $183 million in loans that were originally from Bank of Whitman.

Okay.

That's net of the discount.

Yes, net of the discount.

Right, okay. And on the expense side, can you just maybe isolate the contribution from the Bank of Whitman, the non-interest expense for us, I guess August through the end of the quarter?

We are just so mixed together by this. When we do these acquisitions and try to combine as much as we can as fast as we can to gain efficiencies that we just don't keep track of the acquisition separately from a P&L standpoint.

Okay. Okay, no problem. And then on the accretion on the pooled loans of $14.6 million, I think this might be related to the first question that was asked on the call, but any way to break out that 14.6? What is just kind of the regular accretion on the coupons there versus what might have been the accelerated disposal of loans, the income from unexpected payoff and so forth?

I don't have that information in front of me, Matt.

Okay. Okay, never mind.

That's something that I've been -- I will attempt to pull that out though for next time if that's helpful.

Yes, it is. Okay. Thank you. And then just lastly, as it relates to Reg Q, any -- have you guys begun to pay any meaningful amount of interest: on your commercial deposits? Do you -- I guess how do you think about the potential for competitors to maybe try to pay up for some of those deposits to pick off some market share in and around you?

Mark?

We have not begun to pay up on business deposits. We have seen a few programs announced by some competitors. It doesn't seem to have had much impact as the rates are fairly low today. There are so many variables involved in that. Some of those same competitors are increasing their fees, so that really just has not been an issue for us, pretty much a non-event so far. On down the road, it could have impact particularly as rates rise and we have a very aggressive -- and by that, I mean we frequently look at competitive issues across the board within our senior management group here and assess our position. So we'll continue to watch that.

Right now, we're the net receiver of new deposits and some are coming from banks that are paying us a little bit for their business deposits, but they continue to come to us because of the service levels. They've just been dissatisfied with the service levels that they received elsewhere.

Great, thanks, guys.

Your next question comes from the line of Brett Rabatin with Sterne, Agee.

Hi, good afternoon.

Hi, Brett.

I wanted to ask a question around credit quality, just asset quality is improving, you'd have some inflows, but I guess I'm curious just to have a discussion around the provisioning level going forward, kind of given where credit is going. I mean, is it fair to assume that provisioning will continue to be fairly minimal or can you give some color around your thesis on kind of the black box of the reserve?

Yes. The dynamics of provisioning for us right now is, if you think of it, one of the levers. Certainly, it's improving credit quality, it's declining loss rates and then it's organic loan growth, and what we are experiencing, even though the charge-off levels are much higher than we would like, they're significantly lower than where they were, say, a year ago and a year and a half ago. So we do have the declining loss rates and then we did have a substantial improvement in our watch list this past quarter.

So we had a lot fewer loans that would draw a much larger percentage in the allowance, and while we did have organic loan growth, you have to remember that organic loan growth draws the least amount of allowance because theoretically, we're only booking good loans, right, at day one. And so I think effectively what's occurring right now is relative to the issues that we have, we can see that we've been basically sort of releasing from the reserves. And I would say that as long as the economy remains stable, that trend will probably continue for a few more quarters, but there will come a point where those trends will stabilize out in terms of credit quality is not going to get that much better and the loss rates aren't going to get all that much lower. And so then the provisioning will be driven more by organic loan growth and then I would expect a higher provisioning because of that. Does that help?

Yes, that helps. And then maybe just -- I think you mentioned that the watch list was down. I think classified was like 5.3% last quarter. Is it down much from 2Q?

Well, we never really talked about what our classified levels are, so I'm not sure where you're getting that number.

Just from the 10Q with the new disclosures. Anyway, the other question I wanted to ask was just around -- I want to make sure I understood the commentary around liquidity and securities, maybe jut some thoughts on if you were saying you were going to deploy some cash and if that might help the margin.

Yes, absolutely. I think our first preference, of course, is to have customer relationships and use that cash for lending and so on, but as a backup, and in addition to it, we would also look to add to the securities portfolio to utilize some of that cash. We're looking into the three to five-year range, and I know that people say that staying short in case interest rates rise makes some sense, but I just think that that argument started two or three years ago as well. So the amount of income that you lose today and going forward, I think more than makes up for the increase in interest rates. So we would still look to invest into that three to five-year timeframe.

Okay. And then Andy, if you want to follow up with me on that stuff offline, it's fine. I'm just talking about what you put in your 10Q as it relates to credit quality, so that's all I had. Thank you.

Thank you.

And there are no further questions at this time.

Okay. Well, thank you very much for joining us this afternoon and we'll talk to you at the -- after the end of the year.

This concludes today's conference call. You may now disconnect.