First Merchants Corp (FRME) 2010 Q3 法說會逐字稿

Good afternoon and welcome to the First Merchants Corporation third quarter 2010 earnings conference call. All participants will be in listen-only mode. (Operator Instructions) We will be using user control slides for our webcast today. Slides may be viewed by following the URL instructions noted in the First Merchants news release dated October 14, 2010 or by visiting the First Merchants Corporations shareholder relations website and clicking on the webcast URL hyperlink. During the call, Management may make forward-looking statements about the Companies relative business outlook. These forward-looking statements, and all other statements, made during the call that do not concern historical facts are subject to risks and uncertainties that may materially affect actual results. Specific forward-looking statements include, but are not limited to, any indications regarding the Financial Services industry, the economy and future growth of the balance sheet or income statement. After today's presentation, there will be an opportunity to ask questions. (Operator Instructions) Please note this event is being recorded. I would now like to turn the conference over to Michael Rechin. Please go ahead.

Good afternoon. Thank you, Andrea. Welcome everyone to our earnings conference call and webcast for the third quarter ending September 30, 2010. Joining me on the call today are Mark Hardwick, our Chief Financial Officer, and John Martin, our Chief Credit Officer. Per the instructions from Andrea, our webcast begins on page four and that's where I'll begin my remarks. Our press release issued earlier today reflects our results from operations and other activities completed since June 30 and year-to-date. The quarter First Merchants earned $765,000 or $0.02 per share. The quarters results are a function of a strong net interest margin and the continuation of a moderating trend in our loan loss provision. Our net interest margin of 393 reflects lesser use of wholesale funding, along with the growth of core deposits throughout the Company.

Our year-to-date earnings, also on four, of $9.2 million include the core business, demonstrating a return to profitability, coupled with the exchange transaction completed in the second quarter. In combination, our year-to-date results represent a $43 million improvement in net income available to common shareholders on a year-over-year basis. The next two points, on page four, speaking to pre-tax, pre-provision run rate, and operating expense reflect our focus on block-and-tackle banking as our overall credit risk profile improves. At the bottom, I reference our loan loss reserve which at $83.6 million is 2.86% of our loan portfolio, the highest percentage since the beginning of the credit cycle. The reserve coverage of our non-accrual loans also grew in the quarter as our credit quality metrics improve. John Martin will cover our credit information incompleteness after Mark provides more detail on our results. Mark?

Thanks, Mike. Good afternoon and thanks for joining our call today. My comments will begin on slide six.

Slide six illustrates Management's plan to protect and strengthen the balance sheet, consistent with our 2009 and early 2010 guidance, regarding our capital preservation plan. Our loan to asset ratio now totals 70%, down from 78% seven quarters ago. The earnings asset risk profile is significantly more liquid and less credit dependent due to the addition of $220 million in new investment grade securities. As mentioned last quarter, we are focused on minimizing any future net pay downs. We do not have a desire to maintain a loan to asset ratio less than 70%. The loan portfolio declines during the quarter were accelerated by problem asset resolutions as impaired loans decline 16.5%. The composition of our loan portfolio, on slide seven, continues to produce a strong yield totaling 5.69%, and when added to the bond portfolio, earning assets have very good interest sensitivity positioning. $1.1 billion, or 31% of our earning assets repriced daily, and another $881 million or 24% of our earning assets were priced during the remaining 12 months of the year. This 45% of the earning assets are fixed beyond one year.

We are comfortable with how the balance sheet is positioned for current rate and we like how the balance sheet performs and a raising rate environment. The investment portfolio, on slide eight, has been the beneficiary of additional liquidity over the last seven quarters. Bond yields remain strong totaling 4.38% and the duration is still attractive at 4.1 years. Our other than temporary impaired investment securities, or our FGN PreTsl investment total $5.7 million and have a market value of $1 million. Including the portfolios unrealized loss, on the FTN PreTsl, of $4.7 million, the remaining portfolio still has a net unrealized gain of $27.3 million. The unrealized gain increased during the quarter by $7.9 million as market -rates declined and prices increased.

If you look at slide nine, the improvements in our common equity since year-end are the result of two significant transactions. The first was the completion of a $24.2 million registered direct private placement and the second, announced in our Press Release filed on form 8-K on July 2, was a completion of our $46.4 million exchange with US Treasury resulting in an after-tax gain due to favorable accounting treatment of $10.1 million. The reduction of preferred stock is reflected on line seven and produces the increases in line eight, and line six, for the remainder of the converted funds. The composition of the remaining liability, still on slide nine, has also improved as broker deposits and borrowings declined during the quarter by another $31 million, totaling $528 million over the last seven quarters. Our improved deposit mix is illustrated on page ten and remains very satisfying to Management as demand and savings deposits now total 63% of total deposits.

All regulatory capital ratios, on slide 11, are well above the OCC and Federal Reserve's definition of well capitalized. We are pleased total risk-based capital expanded, during 2009, from 10.24% to 13.04% and now totals 15.52% of total risk-based assets. Tangible common equity to tangible common assets declined during 2009 from 5.01% to 4.54%, but now exceeds the 2008 total, as TCE is 6.02% as of quarter end. Net interest income on slide 12 is holding up well totaling $7 million on a fully taxable equivalent basis, despite fewer loans and fewer total earning assets. Given the historically low rate environment, including a slight yield curve, we are very pleased with our net interest margin of 3.93% for the quarter. Total non-interest income, on slide 13, reflects some volatility due to line six securities, gains-and-losses from normalized for the portfolio activity, on line nine, return to $11.7 million for the quarter as gains from the sale of mortgage loans increased to $2.1 million.

The low rate environment has created another refinance wave and our pipeline is very full. Our mortgage team is doing an outstanding job of capitalizing on the demand. As you can see on line one, Reg E has resulted in virtually no change in our service charges for the quarter. We do have an ongoing effort in place to communicate with our customers on their behalf. Total non-interest expense on slide 14, totaled $35.1 million for the quarter. The total expense on line 11 were annualized for 2010, the amount would be $138.8 million, consistent with our trends. A $12.8 million reduction over the $151.6 million total in 2009. Under the protect and strengthen and capital preservation mode of operations, during the last seven quarters, a reduction was expected and necessary in salary and benefit expense and totaled -- which totals $18.1 million for the quarter. The pace of the decline for the year totals 6.3% year-over-year and is coincident with FTE reductions of approximately 45.

Please turn to slide 15. We are very pleased with our level of profitability during the quarter and we continue to be encouraged by our pre-tax, pre-provision run rate. As we continue to improve, our non-accrual levels and our non-performing levels reductions in line five are expected. This reduction will ultimately drive future profitability improvement as evidenced this quarter. Now John Martin, our Chief Credit Officer, will discuss our asset quality trends.

Thank you Mark, and good afternoon everyone. I'll be covering slides 17-26 of the presentation, starting with the quarterly highlights and then moving through the details of the credit quality metrics. I'll finish by reconciling our non-performing assets and then conclude with our charge off trends, allowance position and a credit cost summary.

Starting on slide 17, we saw improvement in our non-accrual assets during the quarter. We were successful in reducing our non-accrual loans through a number of actions. These included the sale of three targeted non-accrual loans, the restructure of assets through the use of troubled debt restructuring and charge-offs. Through these actions, we were able to reduce non-accrual loans from $120.2 million at 6/30/2010 to $98.6 million at 9/30/2010. The allowance for loan and lease losses remains stable, as a percentage of total loans for the third quarter, moving from 2.84% to 2.86% of total loans. The reduction in non-accrual loans improved the non-accrual to allowance coverage, which rose to 85% from 72% last quarter. 30 to 89 day delinquent loans improved to $23.8 million, from $32 million, while 90-plus days past due increased to $5.3 million, from $4.5 million, in the prior quarter. Next, a troubled debt restructurings and other restructured loans increased from $1.7 million to $5.3 million as we resolved issues related to specific projects. And finally, in aggregate, non-performing assets and 90-plus days past due decreased to $130.8 million, from $146.5 million, at 6/30/2010. While I don't see the issues within the portfolio entirely behind us, we've made significant progress this quarter and the stabilization that occurred over the past two quarters continues.

Now, referencing slides 18 through 19. The most significant change for the quarter was the direction in non-accrual loans. As just mentioned, we were successful in employing several tactics. A few of the more significant ones are as follows, first, we entered a troubled debt restructuring with specific borrowers whose loan was on non-accrual. Through the restructure we were able to move approximately $3.1 million to accrual, while the loss associated with the restructuring, had been recognized that previous quarter. While this was not the only restructuring, this was the most significant. Next, we identified a strategic buyer and sold a group of three loans totaling $9.1 million related to multi-family tax credit housing projects. One of the three loans had been moved to non-accrual in a previous quarter while another was moved to non-accrual this quarter. The net sale proceeds of $6.1 million reduced non-performers from the prior period of $3.7 million, eliminated a current quarter incremental $2.4 million in non-accrual loans and resulted in a charge-off of $3 million. Finally, we charged off a relationship of $3.4 million that had been assigned a specific reserve allocation in a previous quarter. While there may be some limited potential for recovery from our analysis we believe that it was appropriate to recognize this loss. So, turning to slide 20. The largest new non-accrual relationship for the quarter was $3.8 million and is a loan secured with both real estate and inventory. We believe, in this instance, we are adequately reserved. As far as the remaining non-accrual relationships, the degree of our granularity is beginning to once again be highlighted by the number of smaller non-accrual additions. This slide contains only relationships over $500,000 and highlights the larger number of loans that comprise the difference between the six relationships greater than $500,000 and the remaining number of loans in relationships below that threshold. Turning to slide 21. ORE increased for the quarter as we moved loans where we have been given control over the property to ORE, as well as those, where we have received Sheriff's deed. The largest property moved to ORE during the quarter was a residential land development loan in the amount of $2.2 million. The property is under contract to sell with no additional loss expected. Now, turning to slide 22. 90-plus days past due were impacted by an individual relationship with $1.8 million of matured loans that could not be renewed as a result of protracted negotiations with the borrower during the quarter. Absent this situation, we continue to see improvement in both 90 and 30-plus days past due.

Turning to slide 23, to recap the changes in the non-performing category, we started the quarter with $146.5 million in non-performing assets and 90 days past due. We reduced non-accrual loans by $21.6 million. We had a net change in ORE of $1.4 million and this was done by adding $6.6 million in new ORE's, selling $3.8 million and writing down $1.4 million. We increased 90-plus days past due $800,000 and restructured another $3.7 million that moved out of non-accrual. The net decrease then for the quarter in non-performing assets and 90-plus days past due was $15.7 million and shows market improvement for the quarter.

Moving on to charge-offs on slide 24. We continue to see the improvement from the reduction in the land and lot portfolio. This portfolio continues to liquidate in the corresponding charge-offs continued to abate with the reduction in exposure. Additionally, the challenges we face in commercial real estate are highlighted in the commercial mortgage category with the net charge-offs trending upward from 1.98% in the second quarter to 2.44% in the third quarter. Including them with slides 25 and 26, on 25 -- slide 25, we continue to make progress growing the allowance vis-a-vis the non-accrual loans. With the reduction in non-accrual loans for the quarter the allowance as a percentage of non-accrual loans grew to 85% up from 72% in the previous quarter. While challenges remain, the portfolio continues to stabilize and we are seeing signs of some improvement.

And then finally, on slide 26, as we follow our allowance methodology and we recognize charge-offs against provisioning for specific assets in prior periods, the allowance declined in absolute dollars while increasing as a percentage of total loans from 2.84% to 2.86%. At this point, I'll turn the call back over to Michael Rechin.

Thanks, John. That was a thorough report and nice improvement. Appreciate the coverage. We've just heard Mark and John's review of their primary areas of responsibility. In summary, I know our Management is pleased with core bank profitability. I think the quarters results are a cleaner reflection of our community banking model and the recurring drivers of our performance. For instance, Mark touched on this a little bit in his deposit commentary. Our demand, checking, and savings balances grew 3.7%. Our core relationship equation for deposit gathering grew 3.7% from June 30, and 7.6% from September 30 of last year. We're benefiting from the liquidity of our commercial and consumer customers while the demand for credit from those same customers remains modest. The mortgage area is an exception having come off a really productive quarter as you can see in our non-interest income detail. The pipeline in the mortgage business remains strong with our backlog in October at its highest point of the year. The commercial backlog has also grown about $26 million greater than it was a quarter ago, even among a lower activity environment. Our plan for 2011 calls for net growth in our overall portfolio promised on a gradually improving Indiana and Ohio economy. Our commercial loan balances declined in the quarter and while we look reverse that direction, we're pleased with the successful resolution of several problem situations. As John shared, our non-accrual loans showed a $20 million reduction and our overall impaired loans decreased nearly 17%. Page 28 summarizes, our plan for the fourth quarter and 2011, with our capital position augmented, our focus is on growth using the reliable processes we continue to invest in and the learning from the credit cycle. We're investing in our loan platform technology and in talent for our small business and middle market banking efforts. Our formula for growth in 2011 is very straightforward. Superior service, aggressive market coverage, and smart pricing. At this point Andrea, I'd open up the lines for questions that there might be.

Thank you. (Operator Instructions) Our first question comes from Scott Siefers of Sandler O'Neill.

Afternoon guys.

Hi. Good afternoon Scott. How are you?

Thanks. Hope you guys are doing well. Just a couple of questions on credit first. One, I was hoping we could get to sort of an overall sense for the pace of credit improvement you would anticipate going forward? You've had a few quarters now of kind of flat and down or improved trends is just your sense for the pace going forward and then just on reserving, you had a lot of good color on the methodology, but just as we look forward indicators that you'll be looking at most closely as you decide how much more to drawdown the reserve?

Scott, this is John Martin. Thanks for the question. When I look at the ace of performance of the portfolio, I think stabilized is the word I used. I think the last two quarters in terms of the ins-and-outs, we made a lot of progress this last quarter. I would, without speculating too much, say that it's pretty much stabilized at this point and would look for additional improvement in future quarters.

Okay and then just on the reserving, additional drawdowns, if we're kind of stable to improving would you anticipate just given that even though the reserves coming down, coverage ratios are improving? Would you anticipate additional drawdowns on the reserve?

Scott, this is Mark Hardwick.

Hi Mark.

We do have still almost $15 million, $14.9 million of specific impairment reserves and the trend of those specific impairment reserves is coming down. We ended the year about $26 million and then it went to $22 million, $18 million, and now we're about $15 million, and I do anticipate that we will continue to reduce the total amount of specific allocations primarily through charge off and obviously some resolution of those specifics. But as those migrate forward, we anticipate not fully providing for those reductions, in theory they are fully provided today and we should be able to charge them off without an additional provision. Some of the other components of the methodology, historical charge-offs, et cetera, drive some additional provision as we move forward. But we anticipate getting that impairment reserve level to a lower dollar amount which in turn would produce a smaller allowance as a percent of loans.

Okay, perfect. And then Mike, I guess one last question for you just on overall loan demand. I guess from your comments it sounds like 2011 you're thinking the loan book in aggregate will grow kind of steadily if not necessarily robustly. I guess that would suggest that maybe fourth quarter is the last quarter of declining trends so one, is that right and then two, any top level additional color you can provide?

Yes, jump back to your last question very, very quickly. I think John's page on migration, which is page 23, from my seat the line item that we pay a lot of attention to is the new number and so the new NPAs in the current quarter were $15 million, the prior quarter $27 million and, I don't have the work right in front of me but, I'm pretty confident the number the prior quarter of that was in the mid $30 millions. So that's a decline. It's not going to go to zero any time soon, but I think, that that's really what we look as a great predictor because all of the work beneath that, that John's team doesn't hand them with our line managers, you can't really predict when you can either get something remediated based on actual results or out of the bank. Going to your current question, the timetable you laid out is exactly what our plan calls for. For it to bottom, in terms of decline in overall loan volume, in the fourth quarter of this year to have net growth at the end of 2011, really beginning in the first quarter and kind of picking up its rate of growth through the year.

Okay, perfect. Thank you, very much.

Thank you.

Our next question is from Steve Covington of Stieven Capital. Please go ahead.

Good afternoon, Guys and congratulations on some great progress. Just a couple quick questions. I guess first of all, Mike, you touched on the goal of maintaining the margin in here and I guess, can you just give a little bit more color about how you can do that and maybe some opportunities you have on the CD portfolio to reprice?

Yes. I'll start on that side of the balance sheet and then we'll come back to the assets. But on the liability side, as you can see in the balance sheet, we still have significant amount of brokerage CDs that we've been letting run-off and that will continue to be the case. They are still incrementally highest cost of funding, but absent loan demand, that would be our strategy which will be additive or at least help preserve the margin that we've gotten. Run-off, that's a delicate one. Probably the toughest art, I think in our retail team in particular, where we are trying to take full advantage of what is a really exceedingly low pricing and trying to differentiate in the banking centers the difference between our core relationship retail customers and those pursuing the highest CD rates which we don't really aspire to be. On the asset side, still having great experience using loan floors actually. They are just at different levels. They are beneath the levels we are able to earn in perhaps the last eight quarters and actually based on competition in different markets, they are not as useable as they would have been, but really great smart negotiation. I think will allow us to not see dramatic reduction in our asset yields over the near term. That help?

That's helpful, thank you. I guess one quick one for Mark. Mark, as I'm trying to model, what is a good tax rate to use in, I guess, going forward?

You know, we've found the absolute best way to model that. I can't give you an exact rate but as to look at our tax exempt income and our [BOLE] income and that is all tax free and until we exceed income over and above the BOLE and tax exempt bond income, the tax rates essentially zero. So we've been able to migrate that and as income grows then the tax rate grows.

Okay.

Mike and Mark, this is Joe for a second.

Yes?

It seems like a number of the Indiana banks have actually had pretty decent numbers this quarter. Do you guys, this is sort of a global question, are you sort of -- can you sort of say you think that things have bottomed and what are your customers sort of telling you?

Boy, that's a great question. I think real estate is still soft. I think that rental rolls whether they be retail or industrial are still soft. Certainly from a pricing standpoint, if not vacancy, Joe, clearly in pricing. Tenant power is really still at a peak. We're tracking, and doing a better job of tracking line utilization than we ever have before, and that's moderated up just a little bit. Inventories have built a little bit, but if you look at the cash balances that we're keeping in our demand accounts, it tells you I don't think borrowing on a working capital purpose is imminent when you look at the level of our demand deposits.

Okay, thank you.

Our next question is from Stefan Quenneville of Macquarie. Please go ahead.

Good afternoon guys. Thanks for taking my question.

Hi, Steve.

Hi. Just a quick one for you. I'm curious on a little more color regarding the loan sale and was looking to get a little more detail on what that market looks like. For example, are there more opportunities that you see out there to pursue and also what those marks look like? It looks like you got about $0.67 on the dollar for any opportunities that you do see out there, if you were to get $0.67 on the dollar, would we expect to see kind of higher charge-offs if that were the case? Thanks.

Yes, Steve. Thanks for the question. This is John Martin. I don't think that we're actively pursuing loan sales. This particular opportunity was related to this situation, this particular borrower and these particular properties that met a strategic fit for someone that approached the bank and we looked at our position in these properties. The performance of the properties and made a decision based on that. Don't see it as an ongoing strategy to broaden into other opportunities.

Great. Thanks.

It's Michael Rechin. I will agree 100% with what John said. I think of it more if you follow the semantics as a note sale to a party that was very comfortable, it was an income producing multi-family project to a strategic borrower that was following the progress understood the three properties and how they geographically fit into their business. So it was more John's Team executing a strategic sale than what I think of the term loan sale.

Great. Thanks so much. I really appreciate the color. Thank you.

Our next question is from Daniel Cardenas from Howe Barnes. Please go ahead.

Good afternoon, Guys.

Hi, Dan.

You had mentioned that you expect loan growth to return in 2011. Can you give us a little bit of color as to what portion of your footprint do you think that growth is going to come from, and then maybe some color as to what the competitive side looks like right now?

Sure. We track the business in regions, even though we cover a relatively modest size geography, we have kind of six regions we think of established markets, and growth markets, being Columbus and Indianapolis and our pipeline in Indianapolis has been strong for about three quarters now and probably has had net growth in each of those quarters, certainly the last two. Columbus was slower to come back on board, but its pipeline has also grown here in the last three months. So that we clearly would look, based on the investment we're making in people there, that continue to show to be a growth market on paper or balance sheet basis in 2011. The balance of the Company, which is where we have our greatest deposit share, and as such where we've enjoyed a lot of that demand deposit build doesn't have as much vibrancy, but steady, not declining to Joe's question of a few minutes ago. I do think the markets are done in an economic decline and if you saw the statewide employment numbers, at least for Indiana, had a marginal tic of improvement of the first time in a while.

And are you starting to see a pick up in competition from the larger institutions in your footprint?

I'd say just about everybody is regaining some level of activity, yes. The pricing I don't think is really nutty yet. It's competitive. For our particular market space, for the lower middle market, I still think it's pretty healthy. So I still think it's reasonable risk return.

Okay and then you mentioned in slide 29 that you're looking to see an acceleration in small business opportunities. How big is your SBA portfolio and is that going to be the key driver to loan growth in the future?

SBA in and of itself will not be. We've developed a really efficient use of the product. I touched on it I believe in the last call. It's a $10 million line item for a couple of reasons. One is it's a new found, in the last year capability in the Indiana market, whereas our Columbus market kind of grew up with that as a core commercial banking pedigree with SBA capability attending to it. The other thing about it is that you sell a fair amount of the exposure as you can, so the balance sheet impact might be less than what the income impact can be. We're following really closely the expansion of the capabilities in the category vis-a-vis the Small Business Bill and the ceilings that are being raised and what we think of as the broader market space that the SBA financing fits. But it won't, if you think about the size of our overall loan category, $2 billion in commercial, it's never going to be a balance sheet mover. We think it's a great facilitator.

Okay, thank you. And then just one quick question. Given your TARP money that you have on your balance sheet right now of about $68 million, what are your thoughts about converting that into the funds that are going to be appropriated with the small business job and credit act?

I'd be interested your opinion. I'll answer the question. Maybe we could get your opinion off-line. We're looking at it really closely. We think that the highest level attribute to the program looks attractive to us. TARP repayment in kind of a 36 month period of time is going to become a high priority. That might be a tool, the Small Business Bill I'm referring to, might be a tool in 2011 that helps you get there with similar costs and characteristics. We need to understand the rest of the features of the program, which to our knowledge, and we have an individual on our team watching, haven't been fully described.

Excellent. Thank you.

Thank you.

Our next question comes from Brian Martin of FIG Partners. Please go ahead.

Hi, Guys.

Hi, Brian.

Mike, can you just talk a little bit about -- there's been a fair amount of activity down in the Indiana market recently with a couple banks being taken out and, I guess I'm just wondering, with capital getting a little bit better and your historic appetite for looking at transactions, kind of where you guys stand at this point with regard on kind of what you're looking at whether it be more FDIC, non-FDIC type of transactions?

Well, we have a very active review of the landscape in a couple of state area, Indiana, for sure, and Ohio and Illinois downstate. Illinois in particular. Our feeling is that the FDIC volume in that geography is likely to be really low. It has been to date and as someone pointed out earlier in the call, it seems line the results of some of our competitors seem to be firming up a little bit as well. So I don't think that that's going to be a long list of opportunities. In a more traditional way, the activity in the southern part of the State, and over on the other side in the Bloomington area, look to be the beginnings of a resurgence of traditional. We just have relationships with other people whose geographies we think would fit well with ours, but I don't think there's anything imminent there. John Martin referenced work to do yet in getting the portfolio where we want, but I don't think the two are mutually exclusive. But it's not the highest priority for us right now.

Okay, and where would your priority wise, where are your greatest interests when you look at the footprint?

I think Indiana. I think it's in markets that we understand that would be contiguous. There's obviously, I think, some nice franchise area between central Indiana and Central Ohio. All of that would be fair and, again, I referenced downstate Illinois as market needs that we feel we would be able to meet.

Okay, and then just two other questions. Maybe more for Mark. Just the expense base at this point, given the rationalization you guys have seen, I guess you talked about what had gone down year-over-year and the current level you're at does this feel like a pretty sustainable type of level or are you still looking to get more cost savings?

Well, it does feel sustainable. The part where we do think there's still continued opportunity is consistent with the improvements that we're seeing in credit. We had I think $3.2 million of overall expenses this quarter related to ORE and professional services on work out. So that's a category that we would anticipate as credit improves that costs will continue to go down.

Okay, and then just maybe the last one for John. Just when you look at the non-performings in the quarter and the improvement you're still talking about risk remaining in the portfolio. Does it now shift more to the C&I book or does it shift more to the commercial real estate book, in your mind, or can you just give a little bit of color as to what your expectations are as far as future risk goes?

Yes, I'd say it probably is not concentrated in any one area necessarily. I think the risks that we face are spread equally between the portfolios on a relative basis, don't see -- haven't seen as a result of what we're looking at on a regular basis in our portfolio review as concentrated in commercial real estate or in C&I. The issues that we do see, and we have identified, are just folks that have as a result of the recession experienced difficulties and some of which were hit more severely than others. So it's across the portfolio on a fairly even basis.

Okay and just the last thing, John. The loss rates in the commercial real estate book have come down a decent amount from a year-ago level. I think year ago they were almost 2.5%. They are now a little bit under 1.5%. I guess does it feel like that trend is or at least that level is reasonable or do you expect to have it go down a little bit further?

Yes, I'd say that, that level is probably non-reasonable to expect on a go forward basis and the improvement will be dependent upon largely as to which direction because it relates to commercial real estate the performance of the economy. We have seen some improvement on a macro level and I think its been helpful for our customers who have commercial real estate, their ability to lease and maintain the properties. I would say it's probably where it's at is probably a safe assessment going forward.

And the last thing, just the number of renewals in commercial real estate in 2011 versus 2010, is it a similar type of level? Is it more? Is it less?

I don't have the maturities annually in front of me by year-over-year, but I think, the it's spread fairly evenly across the portfolio in terms of renewals as the loans went on. Our structuring is fairly consistent with the type of real estate, so as the portfolio builds, the maturities that were set originally are fairly evenly spread across those books.

Okay, alright, I appreciate it. Thanks guys.

Thank you, Brian.

Our next question comes from Stephen Geyen of Stifel Nicolaus. Please go ahead.

Good afternoon guys.

Hi, Steve.

Really I guess just some additional color on the last question from Brian. If you look at slide 22, of the delinquency trends just curious, the improvement that we see if we I guess back out the large credit, the improvement that you saw was it across all loan categories?

It was. When I looked at the 90 days past due, the most significance, when you back that out was actually in the commercial loan portfolio. The 30 day plus, when you look at slide 22, includes the 90 day delinquency. Let me get the categories here. We continue to see improvement across commercial mortgage has come down in terms of a category. In the last quarter, the C&I portfolio as well, as I just mentioned we saw improvement there with some level of uptick offsetting that in the Ag portfolio. But unbalanced, it's pretty well spread in that 30-plus delinquent bucket across all portfolios.

Okay and last question. Looking at the borrowings, certainly down the last several quarters and over the last couple years and the security portfolio, you talked a bit about the potential for growth next year. Is the funding for that loan growth going to come primarily out of the security portfolio and is there the potential for borrowings to continue to decline?

Well, I think there's clearly still the potential if I heard your question, Steve, at the end for volume to decrease, I think, there's clearly that potential. This time last quarter I was talking about the loan reduction in the second quarter being lesser than the prior quarter. This past quarter reversed that a little bit, so it makes it a little bit less predictable for me. Part of it was the success in the exiting that we've been talking about. But we do need some loan demand, as I said, we're getting a lot of bids. We have an actual pipeline with approved commitments. As the front part of your question about how would you fund it, Mark kind of keeps a tab on what is imminent to be funded from a loan perspective and kind of manages the balance of the liquidity run as investment philosophy.

Yes, Steve, I'm very encouraged that we'll be able to continue to pay down our borrowings, they are at 4% interest rate approximately right now, and both the broker deposits and federal home loan bank advances and, if you look, we're having good success with demand in savings and our CDs are running off at some level as we're being really diligent on pricing. But we certainly have the ability to increase the CD pricing which is currently around 1% by a fairly marginal amount and generate the deposit necessary to grow to the loan portfolio. So, I feel great about our liquidity position for a number of reasons. We have a larger bond portfolio. We've paid down a large percentage of our borrowings. I think that we'll be able to do that. We have good demand in savings growth and I think with some modest modifications to our CD pricing we would be able to grow that portfolio again.

That's helpful. Thank you.

Thank you.

Thank you. This concludes our question and answer session. I would like to turn the call back over to Management for any closing remarks.

Real briefly, Andrea thanks for hosting the call. Thanks for all of the questions, the continued interest in our Company. We look forward to speaking with you again right after the first of the year around our fourth quarter results. If you have any questions for management that we weren't able to get to today I would invite calls to us directly. Thank you.

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