Heartland Financial USA Inc (HTLF) 2012 Q4 法說會逐字稿

Greetings, and welcome to the Heartland Financial USA Incorporated fourth-quarter 2012 conference call. This afternoon, Heartland distributed its fourth-quarter press release, and hopefully you've had a chance to review the results. If there is anyone on this call who did not receive a copy, you may access it at Heartland's website at www.HTLF.com.

With us today from management are Lynn Fuller, Chairman, President and Chief Executive Officer; John Schmidt, Chief Operating Officer and Chief Financial Officer; and Ken Erickson, Executive Vice President and Chief Credit Officer. Management will provide a brief summary of the quarter, and then we will open up the call to your questions.

Before we begin the presentation, I would like to remind everyone that some of the information management will be providing today falls under the guidelines of forward-looking statements, as defined by the Securities and Exchange Commission. As part of these guidelines, I must point out that any statements made during this presentation concerning the Company's hopes, beliefs, expectations, and predictions of the future are forward-looking statements, and actual results could differ materially from those projected. Additional information on these factors is included from time to time in the Company's 10-K and 10-Q filings, which may be obtained on the Company's website or the SEC's website.

At this time, all participants are in a listen-only mode. (Operator Instructions) As a reminder, this conference is being recorded. At this time, I will now turn the call over to Mr. Lynn Fuller at Heartland. Please go ahead, sir.

Thank you, Robin, and good afternoon, everyone. We certainly appreciate everyone joining us this afternoon as we review Heartland's performance for the fourth quarter and full year of 2012.

For the next few minutes, I will touch on the highlights for the quarter and the year, and then I will turn the call over to John Schmidt, our Chief Operating Officer and CFO, who will provide additional color on Heartland's quarterly results. And then Ken Erickson, our EVP and Chief Credit Officer, will offer insight on credit-related topics.

Well, we are certainly pleased to report that Heartland has just completed a remarkable year in which the Company set two quarterly earnings records and shattered all of our previous annual earnings marks. A record setting year for net income of just short of $50 million -- it was at $49.3 million -- and that was a 76% increase over 2011's net income of $28 million. On a per-share basis, Heartland earned $2.73 per diluted common share, and that's an EPS increase of 122% over 2011.

For 2012, our pretax pre-provision earnings surpassed all previous years at $80.7 million. That compares to $67.7 million for 2011. Our superior performance produced an annualized return on average common equity of 15.59%, and 17.19% on average common tangible equity. Our return on average assets was 1.03%, and net interest margin ended just short of 4% for the year at 3.98%. Obviously, we are very pleased with these excellent results.

Net income for the fourth quarter of 2012 was $8.9 million, which exceeded last year's fourth-quarter earnings of $6.2 million by 43%. On a per-share basis, that is $0.50 per diluted common share in the fourth quarter of 2012 compared to $0.31 per diluted common share in the fourth quarter of 2011.

As we reported last quarter, Heartland's NIM finally slipped below the 4% level, so we were pleased to see this quarter's NIM fairly steady at 3.81%. Going forward, this low interest rate environment will challenge margin. Deposit rates have some room to further go down. However, both loan and investment yields will drift lower as well.

While John Schmidt and Ken Erickson will provide additional color on Heartland's operating results in a few moments, I'd like to summarize some key contributors to Heartland's successful year.

The first of these is loan growth. Including acquisitions, loans increased by 14%. While we started the year strong, loan demand moderated in the second half, resulting in organic growth of $183 million, an increase of 7%. We continue to focus on proactive business development, calling on potential new commercial agri business and small business clients.

As you are all aware, Heartland is a participant in the Small Business Lending Fund, which provides added incentive to originate small business loans. As a result of our success in growing qualifying loans, the cost on our $81.7 million of SBLF preferred stock is now at 2%. Consistent with our business model, the SBLF helps Heartland provide affordable credit to small commercial and agricultural clients, which in turn helps to increase employment and stimulate economic recovery in the communities we serve.

Another significant contributor to Heartland's extraordinary year was a record $1.6 billion in mortgage loan originations by our Heartland Mortgage and National Residential unit. As a result, gain on sale of loans increased fourfold over the previous year. We continue to build our capabilities in this line of business with the addition of new products, technology and sales personnel.

One of our highest priorities over the past four years has been the reduction in the level of nonperforming loans, and I am very pleased to report that over the course of 2012 we made significant progress on this front. Nonperforming loans ended the year at 1.53% of total loans, a decrease of 25% from year-end 2011, and I might add, the lowest ratio we've seen in five years. We expect continued reduction in NPAs as we keep a watchful eye on Heartland's credit quality. With our allowance at 90% of NPLs, we are very comfortable with our reserve position. Other real estate continues to be at a manageable level as well, and with the rebound in real estate prices, we've experienced smaller write-downs on these properties.

Looking now at the balance sheet, total assets increased by $391 million in the fourth quarter to nearly $5 billion. This increase was driven in part by two acquisitions that closed during the quarter.

In terms of deposits, we experienced phenomenal growth in 2012. Excluding acquisitions, deposits increased by $384 million or 12% over year-end 2011. Including acquisitions, deposits increased by $636 million, and that is a 20% increase. We continue to benefit from a very favorable shift in our deposit mix through the growth of non-interest-bearing demand deposits, which now represent 25% of total deposits.

Moving on to capital, our tangible capital ratio eased to 5.78% as a result of organic and acquired growth, along with a very small amount of goodwill. Our regulatory capital ratios of risk-based capital and Tier 1 capital continue well above required levels, and again, I would emphasize our very shareholder-friendly equity structure. John Schmidt will provide more details on our balance sheet and income statement in his comments.

2012 was a busy year for M&A at Heartland. In summary, we announced and closed three transactions, and they include a three branch purchase with over $50 million in deposits from Liberty Bank FSB, and that was merged into Dubuque Bank and Trust. Three more banking offices and $128 million in assets from First National Bank, Platteville, Wisconsin, which has been merged into Wisconsin Bank & Trust. And most recently, Heritage Bank NA, Phoenix, Arizona, with $109 million in assets, which will be merged into Arizona Bank & Trust.

As we enter the new year, the sheer number of opportunities in the form of willing sellers in all of our markets allows us to be very selective in picking only the most accretive M&A partners that fit our business model. Presently, we are evaluating several accretive transactions that supplement our current footprint, as well as new attractive markets in both the Midwest and the West.

Our consumer finance subsidiary, Citizens Finance Company, completed its best year on record, with net earnings of $2.8 million compared to $2.4 million in 2011. For the year, Citizens' ROE was an enviable 21.16%.

In concluding my comments today, I am pleased to report that in December, the Heartland Board of Directors declared a special cash dividend of $0.10 per common share, which was paid on December 28, 2012. We were very pleased to reward our stockholders with the special dividend in recognition of our Company's exceptional financial performance in 2012. With the special dividend, total dividends per common share for 2012 were $0.50.

Additionally, at its January Board meeting, the Heartland Board of Directors elected to maintain our quarterly dividend at $0.10 per common share, payable on March 8, 2013. It is certainly worth mentioning that Heartland has paid an increased or level dividend in every quarter since the Company's inception in 1981.

Well, our performance has not gone unnoticed. We just recently learned that Forbes Magazine recognized Heartland as one of the best banks in America, coming in at number 39 on their list of 100. Reflecting Heartland's successful year, our common stock performance was certainly a highlight, moving from $15.34 per share at year-end 2011 to $26.15 at year-end 2012, and that is a 70% increase.

In recognition of our stock performance, KBW recently named Heartland the fourth best performing bank stock among banks with assets above $3 billion.

I will now turn the call over to John Schmidt for more detail on our quarterly results, and then John will introduce Ken Erickson, who will provide commentary on the credit side. John.

Thanks, Lynn, and good afternoon. My comments will be directed at adding the depth to the press release, with a focus on the fourth-quarter results. Additionally, I will provide estimates on some key operating metrics for 2013.

I would reiterate Lynn's comments relative to Heartland's annual performance. While the fourth quarter fell short of our expectations, we are still very encouraged by the underlying operating strength of the Company.

Let's look at the balance sheet. The investment portfolio continued to expand as a percentage of total assets, ending the quarter at 31% in comparison to 29% at the end of the third quarter. Included in this total was $25 million of investments associated with two acquisitions completed in the fourth quarter.

At current speeds, we have approximately $119 million of investment cash flow to reinvest over the next six months. Given our current investment deployment, we would expect returns in a 1.8% range for these new purchases. As a reference point, the duration of the portfolio currently sits at 4.3 years versus 4.16 years at the end of the third quarter.

Moving to the loan area, last quarter, we suggested we would see an expansion in loans held for sale consistent with the creation of mortgage-backed securities. This is yet come to fruition, as we have been able to deliver these securities faster than anticipated. We would still forecast an expansion of this line item by as much as 50% on a go-forward basis.

The held-to-maturity loan growth of $340 million for the year and $174 million for the quarter can be attributed to both organic growth and acquisitions. The acquisitions Lynn alluded to in his comments account for $158 million of the annual loan growth, resulting in organic growth of $183 million. This compares to our forecasted growth of $200 million. Loan growth for the fourth quarter totaled a relatively moderate $25 million.

Total deposits increased by $343 million for the fourth quarter and $636 million annually. Again, this can be attributed to both organic growth as well as acquisitions. Acquisitions accounted for $198 million of the quarterly growth and $251 million of the annual growth.

Moving on to the income statement, our net interest margin, expressed as a percentage of average earning assets, remained stable at 3.81% compared to 3.84% at the end of the third quarter. Overall, margin dollars in the fourth quarter increased to $38 million from the $36.8 million recorded in the third quarter of 2012.

The points we made in the past several quarters relative to margin continue to hold true. Specifically, we continue to see opportunities to expand and improve our already granular deposit base. The investment of these new low-cost deposits, combined with the run off of the existing investment portfolio, will have the obvious effect of reducing the return in that portfolio. Pricing pressure on new and existing credits will likely continue through 2013.

Relative to our cost of funds, we feel there are incremental opportunities to reduce our non-CD funding costs, which we will be employing in 2013. Our cost of funds will also see the benefit of growth in demand and savings deposits as a percentage of our overall funding structure.

Obviously, our greatest opportunity is in our CD book, with $197 million maturing in the next six months at an average rate of 1.03%. We have an additional $163 million maturing in the second half of the year at an average rate of 1.76%. We would model an 80 to 90 basis point reduction on this maturing book [from] the melded costs of the 1.36%.

For the coming year, we would forecast the margin to decrease in terms of margin percentage. However, we expect the total margin dollars to increase. This expansion is consistent with our annual forecasted balance sheet growth of 5%, which would include $200 million of held-to-maturity loan growth. In both cases, I'm speaking to organic growth.

Ken Erickson will provide additional color on the provision for loan and lease losses, which totaled $3.4 million for the fourth quarter. We would model provision for new loan growth at 1.25% with low-level losses based on the current portfolio.

Relative to noninterest income, noninterest income totaled $27.2 million for the fourth quarter compared to $29.8 million in the third quarter of 2012. The most significant quarter-over-quarter change in this category was a $5.3 million reduction in security gains. While appreciation in the portfolio remains strong, the relatively modest loan growth combined with a well-positioned portfolio reduced the opportunities to take gains.

Gain on sale of loans continues to be the largest contributor to noninterest income at $14.3 million for the quarter. While refinancing represented 71% of the total quarterly production, management is keenly focused on shifts in mix to a greater concentration of loans made for the purchase of homes. Assuming the current rate environment continues, we would expect the total amount of mortgage loans originated and sold to the secondary market to grow to over $2 billion in 2013.

Finally, included in other income is $693,000 related to the transfer of property to other real estate from loans at an appraised value, less cost to sell in excess of the loan balance.

Let's move on to noninterest expense. Total noninterest expense increased $2 million quarter over quarter. The largest component of noninterest expense continued to be in the salaries and employee benefits area, which increased by $2.2 million. The largest component of this change was a one-time $759,000 charge associated with an appreciation gift for those employees who weren't participating in the management incentive program. Also contained in this total is $5.9 million in commissions associated with mortgage production, which compares to the $5.7 million recorded in the third quarter.

Fourth-quarter professional fees include $500,000 of costs incident to the two Q4 acquisitions, including increased audit-related expenses. Advertising reflects a substantial quarter-over-quarter increase, primarily related to a year-end customer appreciation event and expenses surrounding new product introductions. Included in other noninterest expenses this quarter is $442,000 of costs associated with early service contract termination fees and severance and retention amounts related to our fourth-quarter acquisitions. Also included in this total is a $366,000 accrual related to mortgage repurchase obligations. This is down from the $1.5 million recorded in the third quarter. While we continue to monitor our exposure, we currently don't foresee any significant additional charges on a go-forward basis.

The effective tax rate for 2012 was 32.07% compared to 26.89% for 2011. We would model in the 30% to 32% range for 2013.

In closing, I would provide the following relative to anticipated forward metrics for 2013. We look for reduced investment portfolio returns on a portfolio which we would hope to see drop below 30% of our assets in 2013. Provision costs driven in part by $200 million of loan growth. Deposit growth somewhat slower than 2012, focus on demand and now maturity deposit areas. Margin dollars increasing, with margin expressed as a percentage of average earning assets continuing to moderate. Gains in sale of loans increasing consistent with loan originations expected to exceed over $2 billion in 2013, with margins starting to trend down.

Relative to overhead expenses, we see compensation costs increasing, driven by the increased mortgage production I referred to, the buildout of the infrastructure to support the expansion of mortgage and acquisitions, the fact that all increases for exempt employees occur at the outset of the year. I do think it is important to note that without the acquisitions, we see recurring operating costs decreasing by as much as $2 million from this quarter's results.

As Lynn indicated, growth in SBLF qualifying loans has reduced our rate to 2%, at least preliminarily at this point, which suggests an annualized cost of $1.6 million. For your information, acquisitions require a proportionate increase in qualifying loans, which does challenge our ability to reduce the rate further.

With that, I would turn it over to Ken Erickson, our Executive Vice President and Chief Credit Officer. Ken.

Thank you, John, and good afternoon. It is my pleasure to record a successful year as it relates to the improvement in credit quality within Heartland's loan portfolio. As shown in the earnings release, we reported a reduction in a percentage of both nonperforming loans and nonperforming assets, with nonperforming loans reduced to 1.53% of total loans and nonperforming assets reduced to 1.59% of total assets. Year-over-year, nonperforming loans has been reduced from 2.31% and nonperforming assets reduced from 2.39%.

The fourth quarter showed a slight increase in nonperforming loans. We placed six larger credits totaling $13.6 million on nonaccrual in the fourth quarter. $6.8 million of these new nonperforming loans is expected to be resolved within the first or second quarter of 2013. We do not anticipate additional losses on these new nonperforming loans.

Through the difficult economic period of the past few years, we have been very diligent to recognize credit losses on a timely basis and to manage our problem assets towards resolution as quickly as possible, with a goal of realizing the maximum return of principle from these assets. We are proud to greatly reduce net charge-offs recorded in 2012 and a significant reduction in nonperforming assets that has been accomplished by managing those assets versus the bulk liquidation of the assets.

As stated in prior quarters, it is our opinion that the current market for quick liquidation requires a discount in value that exceeds the projected carrying costs of these properties. We continue to believe that the preservation of capital remains a stronger priority than a faster reduction of nonperforming assets.

We completed the sale of $7.8 million of properties in the fourth quarter, 22% of the assets owned at the beginning of the quarter. As of December 31, we had $3.5 million contracted for sale to be delivered in 2013, with the expectation that another $6.6 million will be contracted in the very near future.

At December 31, we owned 25 residential properties with an aggregate book value of $3.7 million, and we owned a total of 111 commercial properties with an aggregate book value of $32.1 million. Of the commercial properties, 45 are individual residential lots with a value of $2.3 million and 34 are land or land developments with a total value of $19.8 million.

Our allowance for loan and lease losses as a percent of loans and leases decreased from 1.53% to 1.37%. The allowance has been reduced by 11 basis points over the last 12 months, from 1.48% to 1.37%. The portion of the allowance maintained for impaired loans has gone down during the same time period, therefore leaving our allowance on non-impaired loans relatively unchanged, increasing from 1.31% to 1.32% year-over-year.

A valuation reserve of $3.9 million is recorded for the loans obtained in acquisitions. Excluding those loans from the allowance for loan and lease losses as a percent of loans and leases calculation would result in a ratio of 1.45% as compared to the 1.37% as shown in the press release.

Next month, we will launch our Small Business Loan Center. This should provide an easier access to credit and faster turnaround times for the small business customer and add efficiencies in the handling of these customers by our business bankers. Most of our banks have selected dedicated staff to serve this market niche.

With that, I will turn the call back to you, Lynn, and remain available for questions.

Thank you, Ken. And now we will open the phone lines for your questions.

(Operator Instructions) Chris McGratty, KBW.

I may have missed the expense guidance, but can you help me on -- I think you identified a couple one-timers in the quarter. Can you help us maybe start 2013 with a run rate -- maybe you provided the guidance.

I think the best way to approach it, Chris, I suggested in my comments that if you take out some of the unusual items that came through, including that one-time special appreciation gift of nearly $800,000, plus other related costs associated with the two acquisitions we completed, you could pull out about $2 million of call unusual or one-time costs that ensued in this quarter. So that run rate would then be down by the $2 million.

But again, on the plus side, we have the normal increases that come through for our salaried employees, if you will, which we did try to hold to 3%. Overall, probably went a little bit north of that, but that was the range we looked at for our salaried employees.

Okay. On the costs associated with the mortgage business, obviously you gave a pretty constructive outlook. Can you help us with how quickly the expenses are variable to the extent mortgage volumes are up a bit?

If you look overall, how much the expenses are related -- the commission income, as we said, ran about $6 million for the quarter, $24 million for the year. So roughly speaking, about 50% of the overall, if not north of that, will be on a variable basis, purely variable basis.

Okay, great. And then last one, can you -- maybe I missed it -- on the size of the investment (inaudible) going forward, but can you give a little color there?

What I was suggesting, we would look to see that trend below 30% of our overall asset base. And by and large, we are looking for the balance sheet to grow by 5% for the year, and we expect, again, that investment book to slip below 30%.

Great. Thank you very much.

Jon Arfstrom, RBC Capital Markets.

Just to follow up on mortgage, I just want to make sure I understand your guidance. You are saying about $2 billion in production and maybe some moderation in gains as the year progresses.

Right.

And that's kind of suggesting the type of run rate we've seen the last couple of quarters is a fair assessment of where we are sitting, at least in the near term?

I think for the near term -- and again, we would expect to go north of $2 billion. How far is still -- it's certainly dependent on the overall rate environment. But is the current run rate sustainable? We think it is, and we actually would anticipate, given what we are putting in place, some expansion of that. Some of that has yet to be put in place, but we are anticipating on a go-forward basis that we should be able to expand that overall run rate as well.

Jon, I might just add that there is some seasonality to that business. About two weeks of December gets kind of slow around the holidays. So you should expect a little bit of seasonality in this business.

But you are basing your comments, obviously, on some of the things you are seeing in the pipeline and some of the hiring you have done, is what you're saying?

Yes, we are going to continue to ramp up the number of salespeople, so we would expect to have greater volume. I'm just saying we will always experience a little bit of a tailoff in production during the Christmas holidays.

Okay. Just a couple more items. For you, John, just on the securities gains, there was one number that surprised us, and I think all the analysts differ in terms of whether you carve it out or not. But we've kind of gotten used to it over the last few years.

You can't [change] it both ways, by the way.

Yes, exactly. Just curious how you view that. I know it is difficult to maybe project the timing on that, but is that a zero number going forward? Is it maybe the type of number we saw in 2010 or 2011? How do we look at that?

I would tell you we think it is -- there is a number out there, John. We think it is probably less than 2012. And again, you look at the overall appreciation in the portfolio, there is a lot of embedded gains there. But by the same token, it is the age-old discussion between do we take the gains and forgo the future income. Certainly much of that discussion then is driven by the loan growth. If we can hit the loan growth numbers, then there is an opportunity to harvest some more of that gain -- not harvest, but realize some of that gain.

But again, that is all a swing on -- it is a swing on that, but it's also a swing on what we've always discussed as far as when we take gains. It's when -- many times, and almost all times, it's when the security has performed as well as it is going to perform and we say this is the time to sell the security out. And we will do that taking gains, and we've taken losses in the same vein.

Okay. That is a good segue to my last question here, maybe for you, Lynn. You came up short on the $200 million organic growth goal, but not by much. It is obviously very close to that. And you are setting that $200 million goal out there again. I'm just curious if you are feeling more or less optimistic about that. And then maybe as a second part, if you could contrast what you are seeing in the Midwest versus the West in terms of opportunities.

I'll take the first part of that question. We started out 2012 feeling reasonably optimistic. The number of banks had (technical difficulty) their participation in the growth -- net growth of loans. And as I said, the first half of the year was going pretty darn well.

I think what happened in the second half of the year, a combination of things. Building uncertainty in the market, the election, what was going to happen with taxes, the cost of healthcare, Obamacare, all of that, I think, led to uncertainty in the minds of our clients and put a lot of people on the sidelines. Part of the fiscal cliff is resolved, but in part, it has also been kicked down the road. And so there is still that amount of uncertainty.

If we can get some positive movement out of Washington, I think everybody will feel a bit better, and it will be a bit more predictable as to what our future is going to look like and people will start spending again. So we think we will have a pretty decent 2013, but some of it depends on what happens in Washington.

As far as which markets seem to be doing better, despite of the drought, ag really did quite well this year. And so the Midwest seems to be hanging together pretty well, and the West is recovering. We are starting to see pretty good activity coming out of Arizona, as an example. Housing supply there is short, so they are starting to build again. Denver is seeing the same type of thing, as well as Montana.

So the Western markets seem to be pretty good recovery. The Midwest seems to kind of just be getting along pretty well. It doesn't have the kind of severe swings that we see out West.

So I'm pretty hopeful that we can generate that type of loan growth this year, organic loan growth. There is still some business that is moving out, so when we talk about 200, we are talking about net growth of 200.

Yes, I think we know that one larger credit we'll be paying off in Q1, which I think we already have loans to replace that, John. So maybe a little bit of a slow start, but Ken also alluded to the small business area that we are putting in place, which will free up our best producers to go out and make some additional loans. So there is a lot of efforts under way here.

We also announced the BluePath initiative that we also would feel that would [gearing] be some additional potential loans for us as well in the energy-efficient area.

And we still want to continue to pursue small -- qualifying small business loans. We'd like to see that cost of funds get down to 1%. If we can get it from 2% to 1%, that saves us about $800,000 annually (multiple speakers), $850,000, thereabouts. So we definitely want to continue to pursue those types of loans.

Okay. All right. Thank you.

Brad Milsaps, Sandler O'Neill.

John, just back to the mortgage banking income, just a couple questions. Just kind of using MBA data as a proxy, it looks like your market share for the last few quarters has stayed relatively stable in terms of kind of originations to overall originations. Can you maybe expand a little bit more on -- obviously, you believe you can take some additional share there.

And then secondly, the margin on your gains, it has been hovering right around 3%. A lot of banks I'm looking at are closer to 200 basis points. Can you talk a little bit more about your outlook there and maybe some things you're doing differently to get a little bit better margin?

A couple thoughts. One, I think we have opportunity in the Minneapolis area. We've been building that out along the way, and I think that does provide upside, as well as Wisconsin. Denver, providing -- we have opportunities there as well, Brad, and Lynn can speak to this at the same time. Arizona and California, all those markets, really we see significant opportunity to continue to expand our market share. And again, just to reemphasize, we are keenly focused on shifting the mix from refi to purchase.

Relative to how we are getting it done, I think our ability to hedge the pipeline. Also the introduction of -- we have several products out there, VA, FHA products, Ginnie Mae products, all of which contributed to an enhanced margin. And again, our hedging into the secondary market and the mortgage securitization all, I think, contributed to that enhanced margin. And I would say really an institution discipline is certainly part of this overall discussion at the same time.

I'll add to that, Brad. Our Midwest markets are doing much better than they ever have in the past, because our originators have found that they are better off getting paid a reasonable rate on the production they have versus just trying to crank volume through. And again, on the FHA and VA volume we do, we get a better margin on that type of business.

And then with the purchase versus the refi, we've been able to close purchase transactions within 30 days, far better than what most other competitors are able to do, and then refis within 60. So a lot of the clients are recognizing that there is value, as well as realtors, to get these deals closed in a reasonable period of time; where many of the large originators, Wells, US Bank, so forth and so on, are pushing out both purchases and refis much farther than that.

So, John, obviously, it is going to be market-dependent, but do you sort of foresee -- if the industry is going to 150 basis points or 100, do you guys feel you can stay 100 basis points above sort of where the industry is, based on the technology you have in place and sort of how you are approaching the business?

I don't know what the basis point spread is, Brad, but I do think we will be able to get more margin than some of our competitors, because we can -- we have the ability to push the production through the pipe faster than they can. And I do think that we do a better job of serving those clients and adding value.

I don't know how many basis points (multiple speakers). Is it 100? It may be -- not be that much, but there is a benefit to our model, and then we are getting paid more. I think that is because we can get the deals done. So that all is yet to be determined, but there is going to be some an additional incremental spread that we are going to be able to garner as a result.

Our philosophy has been that we are willing to take a little less in volume and get paid for the work we do; otherwise, you just continue to run your overhead costs up through your processors, your closers and people doing the docs. So we would rather be paid for the work we do than just give it away.

Sure, sure.

Just to reemphasize, we really do think there is an opportunity to add producers, commissioned producers in several of our markets to take -- back to your original question, there is opportunity to take market share out there. And we are going to be able to do that in 2013.

So it is probably a balance of both those, Brad. Are we going to see expanded mortgage income? Likely, given, again, the current rate environment, based on the fact that we are able to generate more income for a loan and maybe somewhat reduce. But then you add in these new producers that are also attracted to our model. I think that combination should hopefully encourage that increased income for 2013.

And John, will you have to incur sign-on bonuses and the like to attract additional lenders, like you did to bring sort of this first wave in?

I think we will. That number has continued to diminish over time. But there are some -- whether it's sign-on bonus or -- call it that for lack of a better description at this point -- but it is not overly material. It is certainly proportionate to the overall income stream; relative to mortgage, it's not material.

Okay, and final question, Ken, I just missed this in your comments. The uptick in new nonperforming loans, I think you seem to indicate that you didn't feel like that was a big issue. But I was just curious if you could sort of repeat your comments there just so I could hear them. And I apologize for missing them the first time through.

I think I said we had -- let me pull my comments. There was six additional loans that we put into -- six significant ones. And in aggregate, it was $13.6 million that we placed on nonaccrual this quarter. Half of those, $6.8 million, I expect to be resolved in three to six months at the most. The rest is going to be a little longer-haul, but I don't see any additional losses in those, anything significant past what we've done in the fourth quarter.

So a little uptick. We were trending down every quarter, seemed to plateau a little bit in this quarter. But with what we have in the works and the continued progress we are making in those, it should continue to step down both the nonperforming loans and nonperforming assets in 2013 as we see those right now.

We had a pretty sizable number, Brad, of OREO sales that got pushed into this quarter. So we were kind of anticipating some of that to go through fourth quarter of 2012, and now it looks like it is going to happen first quarter of 2013.

Okay, and Ken, anything specific on those loans? I know all your banks have had their (inaudible) in the third quarter, I think you mentioned last call. So just curious -- anything -- all those loans similar or just happen to be a lot of different one-off situations?

No, they were scattered out across banks. Probably the common thread, though, in those is still land-related. So you still have borrowers that are running out of gas on those, where the projects gets stalled out or demand it just isn't there. That portion of our portfolio is significantly less than what it was a couple years ago. But that is probably the driver of over half of what we took nonaccrual this quarter.

Okay, great. Thank you, guys.

(Operator Instructions) Stephen Geyen, Stifel Nicolas.

Lynn, you had mentioned acquisitions and you sounded fairly upbeat about the prospects. Just curious if you could kind of talk a little bit about maybe your outlook. Is it similar? Are you looking at the similar type opportunities as what you've added in the last couple quarters as far as size? And how do you look at it overall? Is there some cost take-out complement to it, as well as strategic?

Yes, there are cost take-outs, and yes, they are strategic. We had three transactions, as I mentioned. One was just a branch purchase. But all of those were melded into existing charters. I guess that was a bit short of $300 million for 2012. I'd be pretty disappointed if we didn't do at least a double that in 2013, so somewhere close to $600 million.

But they would tend to be a bit larger. We may not be doing three; we may be doing one or two. It just depends. We feel capable operationally doing about one per quarter. I'm not sure we will do that this year, though. But I do think in dollars, it should be at least double the number of dollars.

It is just about as much work to do a $100 million deal as it is to do a $300 million deal. So our preference would be to do a bit larger ones. But again, they have to be accretive, and I've just never seen so much activity. We've got multiple transactions in every state, other than New Mexico; we really don't have anything going on. That market has really been consolidated down pretty well. And we also have opportunities, as I said, outside of our current footprint, both Midwest and West.

So it is a great position to be in, because we can be very picky as to which transaction we are going to do a culture fit and as to how accretive it is going to be.

You talked about the cost of funds and ability to reduce -- or you could potentially reduce the cost of non-CDs. So I was just kind of looking at the wholesale funding. Where do you see the opportunities there?

In the wholesale funding overall? If you are speaking to the trust preferreds in that area, Stephen, there are some opportunities out there. There is a $20 million trust preferred at 8.25% that we do think about, but -- that is at least part of the discussion on a go-forward basis. That is probably the biggest (inaudible) for us at this point that we continue to talk about on a quarterly basis, because it is currently callable on a quarterly basis. That is the largest opportunity.

I mean, repos and everything else, we really continue to keep our eye on -- we have our eye on everything, obviously. But I think we have ratcheted those all the way down; maybe a little room, but not much at this point. So I think we've done a very good job. We will continue to look for opportunities certainly, but I think we've done a nice job of trying to push those down.

All right. And maybe just one real small question on the OREO expenses. Just curious how much is like just the operational, or the management expense, taxes, management fees (multiple speakers)?

(multiple speakers) taxes, things of that nature?

Yes, exactly, versus valuation changes.

I think the annual property tax sits at around $800,000 on what we currently have. And we have two full-time employees managing the ORE properties. And you are saying -- your question, Stephen was how much impairment ran through there?

Right, this quarter.

On that other real estate? About $1 million.

Okay, great. Thank you.

There are no further questions at this time. I would like to turn the floor back over to Mr. Fuller for closing comments.

Thank you, Robin. In closing, we are obviously very extremely pleased with Heartland's record financial performance for 2012. Our successful year is a result of several factors, including significant improvement in credit quality, a strong net interest margin, solid loan and deposit growth and robust mortgage loan originations. And add to these factors three successful acquisitions, along with a favorable M&A environment for a well-positioned company like Heartland, I think it is easy to see why we are so optimistic when it comes to our future.

Again, I'd like to thank everyone for joining us today and hope you can all join us again for our next quarterly conference call, which will be April 29, 2013. So look forward to listening with you again on that date, and have a nice evening, everyone.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.