First Financial Bancorp (FFBC) 2011 Q4 法說會逐字稿

Good morning and welcome to the First Financial Bancorp fourth-quarter and full-year 2011 earnings conference call and webcast. All participants will be in listen-only mode. (Operator Instructions). After today's presentation, there will be an opportunity to ask questions. (Operation Instructions). Please note this event is being recorded.

I would now like to turn the conference over to Ken Lovik, Vice President Investor Relations and Corporate Development. Please go ahead.

Thank you, Andrew. Good morning, everyone, and thank you for joining us on today's conference call to discuss First Financial Bancorp's fourth-quarter and full-year 2011 financial results.

Discussing our operating and financial results today will be Claude Davis, President and Chief Executive Officer, and Frank Hall, Executive Vice President and Chief Financial Officer and Chief Operating Officer.

Before we get started, I would like to mention that both the press release we issued yesterday announcing our financial results for the quarter and the year and the accompanying supplemental presentation are available on our website at www.bankatfirst.com, under the investor relations section. Please refer to the forward-looking statement disclosure contained in the fourth quarter 2011 earnings release as well as our SEC filings for a full discussion of the Company's risk factors.

The information we provide today is accurate as of December 31, 2011 and we will not be updating any forward-looking statements to reflect facts or circumstances after this call.

I will now turn the call over to Claude Davis.

Thanks, Ken, and thank you to those joining the call today. We are pleased to announce another quarter of strong performance, reporting net income of $17.9 million or $0.31 per diluted common share representing an increase in earnings per share of 14.8% over the prior quarter and 25.4% over the fourth quarter of 2010.

For the full year, we reported net income of $66.7 million and diluted earnings per common share of $1.14 or increases of 12.6% and 14.9% respectively over our annual performance in 2010. Return on average assets were 1.09% and return on equity was 9.89% for the quarter and 1.06% and 9.37% for the full year, again significant increases compared to our performance one year ago.

Our adjusted pretax pre-provision earnings were $31.5 million for the fourth quarter, remaining strong at 1.92% of average assets. The decline compared to the third quarter was significantly impacted by items related to the branch acquisition, including elevated cash balances, higher occupancy costs, core deposit and intangible amortization, but was offset partially by higher service charges and bank card income.

Net interest margin decreased during this quarter to 4.32%, driven primarily by an increase in interest earning assets and the continued decline in our high-yielding covered loan portfolio. Frank will provide more details on these items later in the call.

In early December, we closed the Flagstar branch acquisition, successfully completing all integration activities and transferring the relationships acquired to the First Financial brand. We are pleased to welcome the new associates joining First Financial from Flagstar and look forward to building a strong relationship with all of our new clients.

2012 was a busy year for us on the acquisition front as we closed two branch transactions that allowed us to greatly accelerate our growth plans in two key strategic metropolitan markets. Through the Liberty and Flagstar transactions, we added 38 new banking centers to our existing network with approximately $730 million in client deposits as of December 31. These transactions significantly enhanced our scale and brand in the Dayton and Indianapolis markets, providing an immediate lift to our existing commercial teams already operating in those markets.

We paid our second variable dividend during the quarter, representing a 100% dividend payout ratio based on our third quarter's reported earnings per share of $0.27. The variable dividend which we believe is unique in the banking sector yielded 6% based on yesterday's closing price of $17.90.

As discussed in the earnings release, the Board has authorized a regular dividend of $0.12 per share and a variable dividend of $0.19 per share for our next scheduled dividend to be paid in April of 2012 increasing the yield to 6.9% based on the same closing price.

As of December 31, our tangible common ratio was 9.23%, Tier 1 leverage ratio was 9.87%, and our total risk-based capital ratio was 18.74%. Our ratios are still well in excess of our stated thresholds with a tangible equity ratio of 7%, Tier 1 leverage of 8%, and total capital ratio of 13%.

Despite the assets acquired during the year related to the branch transactions, we still have the ability to support significant growth and under the most constraining of our thresholds have capacity to support approximately $1.5 billion in additional assets.

Total classified assets declined for the sixth consecutive quarter, down $10.2 million or 5.9% compared to the linked-quarter and down $39.8 million or 19.7% compared to December 31, 2010.

Total nonperforming loans to total loans decreased 3 basis points to 2.57% during the fourth quarter and total nonperforming assets to total assets decline to 1.31% from 1.40% as of September 30. As of December 31, 2011, our allowance for loan losses related to uncovered loans was $52.6 million, representing declines of $2 million compared to the linked-quarter and $4.7 million compared to December 31 of 2010.

The year-over-year decline in the allowance of 8.1% is directionally consistent with the year-over-year declines in net charge offs of 33%, nonperforming assets of 10.4%, and classified assets of 9.7%. We ended the year with an allowance to total loan ratio of 1.77%.

Total loans excluding the covered portfolio increased $30.8 million or 4.2% on an annualized basis compared to the prior quarter. We were able to capitalize on the strong pipeline at the end of the third quarter as originations and renewals in our commercial and commercial real estate portfolios drove meaningful growth in these key business lines during the quarter.

Commercial and commercial real estate balances increased 16.6% and 10.2% respectively on an annualized basis. Our pipeline and level of existing commitments in the commercial and commercial real estate portfolios at year-end remain healthy and should provide solid prospects for continued growth heading into 2012.

Considering that we are still operating in an uncertain economic and regulatory environment, we were satisfied with our results for both the quarter and the year. Throughout the year, we remained focused on the execution of our client service-based Community Bank business model while our strong capital position and the dedication of our associates allowed us to capitalize on growth opportunities and seamlessly close and to integrate two strategic acquisitions.

We produced solid and consistent earnings throughout the year, driven by a continued emphasis on operating efficiency, implementation of deposit rationalization strategies, and lower credit costs. During 2012, we will remain focused on these aspects of our business while also aggressively pursuing the growth potential provided by our recent acquisitions as well as within our legacy franchise.

I will now turn the call over to Frank for further discussion on our financial performance.

Thank you, Claude. I will start by providing a few comments on some of the operating results of the quarter and the major components of performance. We have also provided supplemental information furnished separately that is available on our website, bank@first.com, in the investor relations section, or in the 8-K we filed last night.

As in previous quarters, this supplement is crucial to establishing and maintaining a clear understanding of our reported results as well as the concepts that have a material effect on our current and future performance. As many of you know from following our Company, our operating results are materially impacted by unique accounting and reporting requirements and the strategic distinctions we have made related to our 2009 acquisitions.

However, to aid in a clearer understanding of our strategic activities, we will focus primarily on the ongoing or strategic aspects of our business on this call. Our earnings release and our supplemental information should provide sufficient information and transparency into the purchase accounting details and the impact of nonstrategic components of our results. These complexities have also been discussed at length in our previous earnings calls and the technical accounting call that we hosted on February 4, 2011. This information is also available on our website.

Fourth-quarter 2011 GAAP earnings per diluted share were $0.31. Our operating results are best summarized on the pretax pre-provision income slides which are on pages 3 and 4 of our earnings supplement. Our adjusted pretax pre-provision earnings were $31.5 million for the fourth quarter, representing a decline of $1.6 million or 4.7% compared to the third quarter. The decrease was driven by higher other real estate owned write-downs as well as higher occupancy costs and core deposit intangible amortization resulting from the Liberty and Flagstar branch acquisitions, offset partially by higher service charges and bank card income provided by the acquisitions.

Higher wealth management fees and an increase in the credit valuation adjustment related to client derivatives combined to offset the decline as well. Overall, our adjusted pretax pre-provision earnings to average assets for the quarter remain strong at 1.92%.

I will note that had the total excess cash from our acquisitions been fully deployed into investment securities at the time of closing each acquisition, our linked-quarter pretax pre-provision earnings would have been approximately flat.

Net interest income on a linked-quarter GAAP basis was up slightly, though as Claude mentioned, our net interest margin did decrease to 4.32%, due primarily to a higher earning asset base as a result of our acquisitions.

A continued decline in our high-yielding covered loan portfolio contributed to the margin pressure. However, the positive impact of deposit pricing changes coupled with loan portfolio increases would have yielded a relatively stable margin when excluding the acquisition impact on the earning asset base.

With regard to our elevated cash balances, net interest margin and net interest income were negatively impacted during the quarter as we were selected in deploying cash due to the interest-rate environment as well as our strategy to increase the duration of our investment portfolio. In total, we received $621 million in cash from the Liberty and Flagstar acquisitions and purchased $417 million of new securities during the quarter, a majority of which did not settle until late in the quarter. Collectively, these purchases had a weighted average yield of 2.44% and a duration of 3.4 years.

Taking into account additional cash flows from paydowns of covered and uncovered loans and our investment portfolio, we still have a large cash balance to deploy, which will most likely occur in the investment portfolio. So far during the first quarter of 2012, we have continued to deploy cash, purchasing $131 million of new securities with a weighted average yield of 2.75% and a duration of 3.9 years. We anticipate purchasing $300 million of securities throughout the remainder of the first quarter, of which approximately $75 million are reinvestments of investment portfolio cash flows.

In an effort to diversify our investment portfolio and increase yield, we also purchased a limited amount of investment grade single issuer trust preferred securities within the Company's risk tolerance guidelines. These securities have a weighted average yield of 6.17%. We continued to purchase similar securities during the first quarter of 2012 and will continue to do so in future periods on a selective basis. The maximum targeted exposure related to various types of corporate securities is 10% of the total investment portfolio.

As we noted in the third quarter, we have successfully extended the duration of the investment portfolio by executing a securities trade through which we sold $162.6 million of shorter duration CMOs with a duration of up to 2.2 years and replaced them with $161.6 million of mortgage backed securities and CMOs with a duration of 3.8 years. In connection with the sale portion of this trade, we realize a $2.5 million pretax gain.

As a result of our investment activity during the quarter, we increased the duration of the investment portfolio from one year as of September 30 to 2.4 years as of December 31. In light of the recent Fed comments on interest rates, we remain confident the duration extension is the right strategy.

Turning now to the liability side of our margin management, we were successful in further offsetting the margin decline as we continued to execute on our deposit rationalization strategy, which began in the third quarter of this year. During the fourth quarter, we continued these strategies and reduced rates on our CDs and core deposit products, introduced a more market rate-sensitive profitability model for business and public fund relationships, and developed modified renewal rates for single service CD customers, where there is limited opportunity for additional product sales to occur prior to maturity.

Through these actions, we were able to lower our total cost of deposit funding to 64 basis points, a decrease of over 15% or 12 basis points compared to the linked-quarter and down over 35% or 35 basis points compared to the fourth quarter of 2010.

Excluding the effect of deposits acquired as part of the Flagstar transaction, we reduced time deposit balances by $163 million or 9.8% during the quarter, a portion of which consisted of high-cost single service CD balances.

We have over $120 million of single service CDs maturing during the first quarter of 2012, so we expect to continue reducing time deposit balances if we cannot cross sell these customers additional First Financial products.

One final comment on net interest margin is that while the industry overall was faced with challenges in this area, we are in the fortunate position to still have additional leverage to pull to mitigate these challenges. Both our investment portfolio yield and our liability costs relative to our peers indicate that we have further room to improve.

Our historic performance relative to peers has been somewhat intentional as we manage the post-acquisition challenges of client retention and our investment portfolio was poised to meet any sudden liquidity demands. We are now ready to close these performance gaps.

Our deposit costs relative to peers is approximately 5 basis points above the median and our investment portfolio yield is approximately 50 basis points below peer median. While we are not suggesting that we will fully recognize a 50 basis point improvement in our investment portfolio yield, we will begin to manage a portfolio that is similar in structure to our peers.

Noninterest income earned in the fourth quarter of 2011 excluding reimbursements due from the FDIC and other covered loan activity was $15.1 million as compared to $14.1 million in the third quarter of 2011 and $16 million in the fourth quarter of 2010. The increase compared to the linked-quarter was primarily driven by higher service charges on deposits and bank card income resulting from the branch acquisitions as well as higher trust and wealth management fees and a credit valuation adjustment related to client derivatives.

Noninterest expense in the fourth quarter of 2011 excluding the effect of acquired nonstrategic operations and other acquisition and transition related items and as noted in Table 2 of the earnings release, was $47.2 million as compared to $44.8 million in the third quarter 2011 and $47.6 million in the fourth quarter 2010. The increase in noninterest expense of $2.4 million or 5.1% compared to the linked-quarter was primarily driven by higher salaries and benefit expense, occupancy costs, and core deposit intangible amortization resulting from the branch acquisitions as well as higher professional service fees and valuation adjustments to uncovered OREO.

We have disclosed a tremendous amount of detail about the balances, yields, and quarterly valuation results of our loans accounted for under SOP 03-3, which should aid you in evaluating our acquired loan portfolio. And as I mentioned earlier, I will not discuss the details of purchase accounting-related items.

However, I do want to highlight the actual credit costs related to covered assets experienced during the fourth quarter. Page 10 of the supplement provides the components of credit losses which totaled $2 million for the quarter compared to $2.6 million recognized in the third quarter. This marks the third consecutive quarterly decline in credit costs related to covered assets and continues to reflect a relatively stable credit outlook for the covered loan portfolio.

Overall, the performance of the covered portfolios continues to exceed our initial estimates and the quarter-to-quarter changes continue to be positive.

Claude spoke briefly to our capital ratios and while they remain strong, we did have several influencing factors relative to the decrease in our tangible book value. These factors include the impact of acquisitions and the impact of assumption changes in our pension valuation model.

While the discount rate used to value the pension benefit obligation declined from 5.36% in 2010 to 4.22% in 2011, the pension valuation impact is a financial reporting convention that may be taken somewhat out of context. Our pension remains overfunded and produces pension income for the Company when compared to other companies that may have underfunded pensions that require pension expense to be recorded.

With that, I will now turn it back over to Claude.

Great. Thanks, Frank. Andrew, we will be happy to open the call for questions.

Thank you. We will now begin the question-and-answer session. (Operator Instructions). Scott Siefers, Sandler O'Neill.

Frank, I guess the first couple of questions is for you. It sounds like managing both the securities portfolio and even deposit costs more proactively is going to be kind of a key to preserving or maybe even enhancing margins in the next couple of quarters.

I wonder if you can talk about, one, how quickly are you able to affect a change on the securities portfolio side? It sounds like you kind of started in the last couple of quarters. You've been pretty active this quarter and will continue to do so. Is that something that takes place over the full year or can you affect it pretty rapidly in the first quarter or two here? How does that manifest itself?

And then on a related question, so the trust preferred purchases, can you just talk about some of the characteristics of the securities you are purchasing just given kind of the changing accounting treatment? And could those be called away from you, etc.?

Sure, so I will start with the timing of the investment portfolio. We do expect to put our excess cash to work fairly quickly. And I would expect us to take a more aggressive position in managing our cash balances to a lower level. So I would expect to see that happen throughout the first quarter.

But as I noted in the prepared remarks, our performance relative to peers has a lot of history baked into that performance delta so I wouldn't expect to recover the full 50 basis points, but over time I would expect our performance to start to look similar as we will continue to structure our investment portfolio similar to our peers.

Then as it relates to the trust preferred securities, it is our expectation, candidly, that they do get called away. These are issued by the largest financial institutions in the country. So we do have an expectation that they would be called away and that's okay. We knew that going into it.

Great, that's helpful. Then just add one question either -- one additional question either for you, Frank, or Claude. It's just on how you think about capital management priorities given what appears to be a pretty sustained low rate environment. So you've got this enormous yield given the 100% payout target and then just as you kind of counter that or counterbalance that with M&A opportunities, I guess unless you buy lots of higher-yielding assets, doing things like future deposit acquisitions, just might not have as much value as long as rates are this low. So how do you think about that kind of trade-off as you look at all your capital management opportunities?

Sure, Scott. It's Claude. It's something we continuously evaluate and I would tell you that as we have stated in previous quarters, the Board evaluates it every quarter and I think to the extent that we don't have deployment opportunities, we will continue to consider the variable dividend because we think that's the highest and best use for shareholders.

The two branch deals that we did in 2011 were specifically done to accelerate our growth both on the deposit and on the loan side in Indianapolis and Dayton, so we did get those very strategically because of those two core metropolitan markets. So that was to your point about how valuable are deposits today. Just as a reminder, that's why we did those and I get your point in terms of the return expectations on deposit only type deals.

So we will continue to evaluate it. We certainly look at other M&A transactions if they would again make sense strategically for us or internal growth rates on the asset side when that eventually returns.

We would certainly want to deploy that capital if we can in the business at the right rates of return. If we can't and we are still above our capital thresholds, we will continue to consider the variable dividend.

Okay, that's helpful color. Thank you very much.

Emlen Harmon, Jeffries.

Good morning. It was good to see organic loan growth continue and actually even pick up a little bit in the quarter. I was hoping you could give us a sense just of kind of what the source was there and just if you're seeing any success in specifically Dayton, just kind of new markets that you moved into recently?

Certainly. Most of the growth was in commercial real estate and small business. A little bit of growth in the consumer portfolios but not -- the bulk of it was commercial and small business.

In terms of Dayton, we have been in Dayton actually for about five years now and so we continue to see growth in Dayton, continue to see growth in Indianapolis. What we are hoping is with the branch acquisitions and the brand awareness improvement that provides us as well as just the additional clients that we will continue to see that growth accelerate in those markets. As well as Cincinnati in our other markets that we are a part of.

But I'd say it's still a bit early to see kind of what the impact is of the branch acquisitions since they just closed in the last three to four months.

Okay, great. Then I guess just one other question on expenses. Could you give us a sense of just kind of what the -- what you would expect for a trajectory for expenses here heading into 2012? And with both Liberty and Flagstar kind of on the books now, any opportunity to bring expenses down a bit as we head into the new year?

Sure, this is Frank. The expense level I think what you are seeing in the fourth quarter I would probably call it the high watermark for our expenses going forward. We have not yet fully recognized all of our cost savings opportunities related to those acquisitions and we just culturally are continually looking for ways to improve our efficiency and lower our overall cost structure.

Okay, thanks for taking the questions.

Jon Arfstrom, RBC Capital Markets.

Thanks, good morning. Frank, just a follow-up on the securities portfolio. You mentioned targeting $300 million in purchases, but I guess $75 million of that is existing portfolio reinvestments. But what kind of a securities portfolio size target do you have as you start to change the approach a bit?

Sure, Jon. We actually don't have a target investment portfolio size and the reason for that is we just want to have our excess cash fully invested. So as we see what the results are, both from retention of the recent acquisitions and the response to some of our deposit rationalization strategies, we think that's the right target for now and that's how we will manage the overall size of the portfolio.

The duration is still -- while it's approaching three years, that still should provide sufficient cash flow for us to meet any of those potential liquidity demands.

The only thing I would add to that, Frank, is that -- Jon, the other part of it is that with our deposit rationalization strategy, we view that the portfolio is almost entirely core deposit funded. We don't have any leverage strategies now nor any intended.

That makes sense. Claude, for you a follow-up on the loan growth. You have seen a lift in commercial real estate, the core commercial real estate over the past few quarters and can you talk a little bit about what the common theme is in the core CRE portfolio?

Yes, that's a business that we have always been in and have continued to stay in and what we have been seeing I would say through 2011 obviously, we have all been very cautious in that sector due to some of the challenges that have been experienced. Where we have seen our new opportunities are really with those investors who weathered the storm well, had the liquidity and the cash and the capacity to kind of grow and expand if you will kind of when assets were at a cheaper level. And so we have actually seen the quality be very good from our perspective in that book; obviously staying away from the high risk areas like residential development or some of the higher risk areas that you would expect that are more speculative.

So we have actually seen some really nice quality credits come our way in that area in 2011.

Your comments on the pipeline earlier, that would apply to that portfolio as well?

It would. It's across the board.

Chris McGratty, KBW.

Good afternoon, guys, or good morning. Just a question on the acquisition front. Yesterday we saw a deal in Indiana. Two questions. One, is that a type of acquisition that you would look at? Two, given your -- given the Fed's kind of comments yesterday on interest rate policy, do you think this drives -- this forces banks to consolidate?

Well, obviously we won't comment on other deals. As we have always said when we think about M&A, we look at markets that we believe are strategic. So we have been pretty clear about our market area being Ohio, Indiana, Kentucky with a specific focus in terms of M&A on what I would call metropolitan market interests. So that's how we think about kind of where we focus any M&A interests that we might have.

I do think the Fed's position and it's still not clear really to us when they say 2014, is that a forecast or is that a policy statement? It first sounded like a policy statement but the more I have heard last night and this morning, it sounds more like a forecast to me.

But if you assume that's the case, I think it's obvious that all of us will have margin pressures as a result of that kind of an extended period of 0% rates and I think that in combination with the Dodd-Frank rollout and the impact of regulation, I would certainly expect that would accelerate M&A across market areas. But I would just emphasize again, our focus is in our core market areas and predominantly in some of the metropolitan markets that we think are good potential growth opportunities.

Sure. And just a quick follow-up on the dividend. Is there a -- I know you guys have been pretty clear or very clear on kind of your expectations to maintain it unless something of size comes about. I guess the question becomes do you think that's a -- are you seeing opportunities of size maybe in 2012 that you could potentially see better use of capital or is there a magic size for a bank that you would consider to say hey, I need to reconsider the dividend?

Like I say, we will keep looking at it every quarter and contemplate both organic as well as acquisition opportunities in that context. Chris, I would say just on the M&A front, I think I mentioned this last quarter, is with the two deals that we did in 2011 to really position ourselves well in Dayton and Indianapolis and with still a lot of work to do in terms of market share gain in Cincinnati, we actually don't feel like we need to do any more deals. We feel like we've got lots of organic growth opportunity in those three metro markets and in our non-metro markets even though in many of those we have large market shares.

So I would tell you on a day to day basis we're really focused more on growing those metropolitan markets that we are part of and certainly should an M&A opportunity make itself available, then we would look at it if it hit our strategic criteria.

Then we will contemplate the dividend in the context of all of that and that's the way we -- every quarter when the Board meets, that is the discussion we have.

Okay, just a point of clarification. When that day comes, will it be a concurrent event or will you kind of try to telegraph the market ahead of time in terms of the dividend policies?

I wouldn't want to speak for the Board in that event.

All right, thanks.

Kevin Spellman, DVM Asset Management.

Good morning. I just had a quick question on the TARP warrants and just wanted to verify my understanding in light of your dividend policy now. As I understand it, every penny above $0.17 a quarter drops a strike price on that warrants penny for penny. Is that correct?

It's not quite that simple. There is more of a formula involved with it. It's a formulaic number that we're working through and working through the analysis and we will have to make the adjustment at the appropriate time.

But your observation is correct. There is an adjustment required.

Okay, where will we get that? It's above $0.17, correct?

$0.17, that was our dividend before we entered the TARP program, so yes, that is the threshold.

We will provide additional clarification on that to the market here shortly.

Okay, thank you.

Joe Stieven, Stieven Capital.

Good morning, guys. First of all, good quarter. Claude and Frank, isn't the real issue that certain people are beating around the bush is that you guys are showing tons of opportunities on the M&A side but you just don't want to take dilution, and that's why you have sort of been disciplined. Isn't that fair to say that you are seeing lots of stuff, but you are just being real disciplined and you are not just going to give the capital away to somebody?

Joe, this is Frank. We certainly don't comment on what we would look at, but again as Claude mentioned earlier, our acquisition philosophy and approach to evaluating transactions is unchanged. And so the strategic fit is first. Can we manage the operational risk is second? And then third, is it financially compelling? So we remain disciplined and still maintain the same financial hurdles adjusted for specific situations as we have in the past.

So yes, if your conclusion about our previous acquisitions is that they were disciplined, then I would say yes, that's continuing.

Bryce Rowe, Robert W. Baird.

Thank you, good morning. Frank, can you help me out with the I guess the roughly $2.5 million of expenses that are not likely to recur? Is that -- that's not included in kind of the merger-related expenses, correct?

That's correct. There are some that have to do with leasehold improvements that we accelerated or we recognized an acceleration of that amortization because of a physical change in location. So there are multiple elements in there.

And most of those charges are in the occupancy bucket of the expense -- operating expenses?

That's correct.

Two more questions. The core deposit intangible amortization, can you tell us what that was for the quarter?

Sure, so as we have acquired some deposit franchises here recently, we recorded core deposit intangible and the accounting rules are that we amortize that over time. So that's -- if you're looking for a specific dollar amount, I don't think on a stand-alone basis it was that material.

Okay, fair enough. Last question, I think last quarter I asked this question. Single service CDs were roughly $600 million and you talk about $120 million of those maturing in the first quarter. What's the maturity schedule like for those CDs over the remainder of 2012?

Sure, give me just a moment. Most of them should be coming due over the course -- throughout 2012.

And my number is correct, is it roughly $600 million?

It's a little bit less than that now. It's about -- I want to say it' about $450 million-ish.

All right, thank you. I appreciate it.

David Long, Raymond James.

In regard to the securities portfolio, obviously more sophistication there. How are you allocating or reallocating or adding resources to manage that?

That's a fantastic question and that's actually what we are working through and why you are not seeing the instant switch to a portfolio that looks similar to our peers.

We are going to evaluate each asset class where we think we should have exposure and understand what resources are required there before we make any trades in this space. So each asset class will go through its own evaluation.

We will look at whether or not that's a resource we need to bring to have internally or is it something we can outsource? But we will survey best practices on what makes sense there and we will certainly provide some additional commentary on that as we execute.

Great, thanks.

Kenneth James, Stern Agee.

Good morning, gentlemen. If I have heard you correctly in the past, part of your reason for discipline I guess on traditional deals or maybe leaning more toward branch deals you haven't been in a hurry to kind of take on other peoples' potential problems in the loan portfolio.

Have you seen any -- or what have you seen I should say in regards to progression in the credit cycle to where you would be more comfortable? Have we hit an inflection point in all of the credit cycle to where you think you're more comfortable with larger traditional deals or is that a factor at all?

No, that's a fair statement that I think we are at a stage in the credit cycle where visibility is much better than it was six or 12 months ago and I think a lot of the real estate pricing while still volatile is certainly more stable than it was six to 12 months ago.

So I would say as we look at loan portfolios to the extent that we do or will, I think we would have more confidence about predicting what the right mark would be as well as our own experience of having now worked two years on two failed bank transactions and seeing the outcome of some of their poorer problem assets. That's a fair point.

Okay, have you given any consideration or is it just kind of a complete no-no that you would consider buying distressed credit given your workout experience, ample capital, liquidity, all the rest of it? It seems like there would be a lot of it out there that could be had at a good price for someone that would buy it and have the capability to work it out. Is that something that has ever even come up?

That's an interesting idea and I wouldn't tell you that it hasn't at least been surfaced as an idea. But obviously that would require a fairly extensive evaluation because that would be a fairly significant departure from our strategy, but no, and interesting idea.

Lastly, just on the securities portfolio, given that we were managing it for low rates, are you doing anything I guess to kind of protect from prepayment risk or premium amortization risk if rates should fall even further?

That's certainly part of our -- the analysis that we go through and we certainly monitor that and take that into consideration, so it is part of the evaluation that we go through.

Okay, some people I guess make it a stated point if we buy 4% coupon -- low coupon pools, kind of a vanilla strategy like we are going in to buy low coupons or we just won't buy premiums -- have any stated rules like that.

Again, we certainly try to avoid purchasing securities with the tremendous amount of premium risks to them, but occasionally we will make exceptions depending on what the underlying assets are in the pools.

Okay, and then just last point, just on the corporate securities of 10%, as a trust preferred, is it going to be viewed just like I guess an investment-grade industrial would be, trust preferred for a bank? Was it the same thing in that 10% pool?

Yes, those securities that have credit risk associated with a corporate issuer.

All right, thanks a lot, guys.

(Operation Instructions). Jeff Davis, Guggenheim Securities.

Good morning. Two questions. Let me ask them both and then I will be quiet. One, if you commented I joined a little late. So my apologies, just say so and I will read it in the transcript.

One, any difference in the level of activity in Cincinnati versus Indy from an economic perspective and loan demand? And then secondly, are there -- I know to the extent you are underwriting and whether holding in your portfolio or selling it meets your credit criteria, but in terms of the franchise finance book, are there any broad trends that can be discerned from looking at the fast food industry about the consumer and maybe even a regional tilt to that?

First question in terms of the Cincinnati versus Indianapolis comparison, our loan growth, if you will, or loan demand has been stronger in Cincinnati. However, a couple factors there. One is we have a larger market share. We have been here longer. We have a larger sales team. And just in general, Cincinnati is a larger market overall than Indianapolis is.

I would say we are gaining momentum in Indianapolis. We've seen some nice growth there and it's building and I think we are also looking at recruiting in that market so that's a future expectation that we have that we will see greater growth out of the Indianapolis market.

But to date Cincinnati has clearly been larger and may get larger (multiple speakers).

Let me just ask then -- is Cincinnati performing generally stronger than Indianapolis regardless of your growth efforts?

No, I wouldn't say so. There are a lot of I think both markets have been slow and steady of late is how I would describe them. Both have I think weathered the recession reasonably well. I think the Indianapolis real estate market has been stressed, but other parts of the Indianapolis economy has been pretty good. And I think Indiana overall with some of their public policy positions I think has done a good job as a state managing through the recession.

So we don't see significant differences between the two at least in terms of the clients that we work with.

On your second question on the franchise piece, --

Yes, this is Frank. I would just tell you that the conventional wisdom about the franchise business is that it's recession proof and I think what we have learned by studying the business that we have acquired is that's not entirely true statement. Fortunately the loans that we acquire there are covered loads. So that's a lesson that we get to learn without too much downside.

And the other point that I would make there as far as things that we can learn from that business and apply it to the rest of the business, I would just remind you that it is a national platform. So similar to the question that you asked about differences between Cincinnati and Indianapolis, much of what we see in consumer behavior is across the country, so it may not necessarily be applicable to our primary operating markets of Ohio, Kentucky, and Indiana.

Right. Understood, but I was just more curious as a second derivative data point is the credits you look at, are they telling you that all of a sudden consumer America is picking it up a notch or just more steady from what you might have seen nine months ago?

Yes, I don't know --

I may be asking too much nuance, but maybe just a second derivative question or third derivative or whatever it would be.

Fair question and I don't know that we've looked at it in that context or maybe the other way I would say it is, I don't know that we have a deep enough data pool to kind of make that kind of a second derivative conclusion. Because the other part I would tell you is that at least in terms of what we look at, it would be very dependent also on the different concepts that we underwrite into.

So one concept may be doing very well that may or may not be indicative of the consumer, maybe more indicative of if it's a McDonald's, McDonald's may just be doing a heck of a job right now as it relates to their product lineup. So I don't know that we have enough data or that we have even thought about it in that context to be honest.

Thanks, fair enough. So then the last question on it, are they seeing more demand or consistent demand from nine months ago?

I would say slightly up. But it's not I would say significant but no, slightly up.

Okay, thanks much.

Joe Stieven, Stieven Capital.

Sorry for my follow-up but back to the concept of capital, if you look at your capital ratios, give us a thought what you think more normalized capital for you is. Because all of us who sort of like this dividend I guess the question is how long will it be out there? And I think the easiest way without giving an answer is saying here's sort of what we think normalized capital should be for us. Then we could sort of extrapolate out from there. Thanks, guys.

Sure, Joe, I understand the question. The way we tend to think about kind of capital is we state it in terms of thresholds and we have been public about our statement about our thresholds, which are 7% tangible, 8% leverage and 13% total capital, which means as a threshold, we won't go below those levels is our target.

And so with our ratios being well above that and then comparing that to what our capital deployment opportunities are, it's that comparison that our Board goes through on quarterly basis to say does it make sense to continue the variable dividend or not? And so that's the way we will continue to look at it is what's a capital deployment opportunities versus where our current capital ratios are in the context of those thresholds?

So if I caught -- so in a static environment, in a vacuum, that would support a couple billion dollars actually?

Yes, we estimate about $1.5 billion.

Exactly. In a static environment, right. Okay, that's huge. That is huge. Thanks, guys.

This concludes our question-and-answer session. I would like to turn the conference back over to Claude Davis, President and CEO, for any closing remarks.

Great. Thank you, Andrew, and again just finally thanks to all those who participated on the call and your interest in First Financial. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.