Independent Bank Corp (Michigan) (IBCP) 2007 Q1 法說會逐字稿

Greetings, ladies and gentlemen, and welcome to the Independent Bank Corporation first quarter 2007 earnings conference call. At this time, all participants are in a listen-only mode. A brief question and answer session will follow the formal presentation. (OPERATOR INSTRUCTIONS) If anyone should require operator assistance during the conference, please press star zero on your telephone key pad. As a reminder, this conference is being recorded.

Also, as a reminder, I'll read the Safe Harbor statement. This web cast may contain forward-looking statements as defined in Section 27AI1 of the Securities Act of 1933, as amended. Including statements regarding among other things the Company's business strategy and growth strategies, expressions, which identify forward-looking statements speak only as of the date this statement is made. These forward-looking statements are based largely on this Company's expectations and are subject to a number of risks and uncertainties, some of which cannot be predicted or quantified and are beyond their control. Future developments and actual results could differ materially from those set forth in contemplated by or underlying the forward-looking statements. In light of these risks and uncertainties, there can be no assurance that the forward-looking information improves to be accurate. This web cast does not constitute an offer to purchase any securities, nor solicitation of a proxy, consent, authorization, or agent designation with respect to meeting of Company stockholders. It is now my pleasure to introduce your host Mr. Michael M. Magee, President and Chief Executive Officer. Thank you, Mr. Magee, you may begin.

Thank you. Good afternoon. We are pleased you could join us on our conference call to discuss first quarter 2007 results. Earlier today, we reported first quarter 2007 net income from continuing operations of $4.3 million compared to $13.1 million in the first quarter of 2006. Our diluted earnings per share from continuing operations of $0.19 this quarter compared to earnings per share of $0.56 in the first quarter of 2006.

Based on continuing operations, our return on average equity was 6.75% and our return on average assets was 0.54% in the first quarter of 2007 compared to 21.33% and 1.57% respectively in the first quarter of 2006. The decline in comparative quarterly net income from continuing operations was primarily due to the following factors. A decrease in net interest income, a rise in credit costs, the first quarter of 2007 included approximately $765,000 of nonrecurring charges or about $0.03 per diluted share. These nonrecurring items relate to a good will impairment charge and costs associated with our branch acquisition. And the first quarter of 2006 included $2.8 million of nonrecurring income or about $0.12 per diluted share from the settlement of litigation.

Obviously the rise in credit costs is the single most significant factor adversely impacting our results. And Rob will discuss this area in greater detail during his remarks. Despite the decline in earnings, we believe there were several positives in the first quarter, including further stabilization in our net interest margin, which was unchanged on a link quarter basis. Growth of 9% in recurring noninterest income on a comparative quarterly basis. The completion of our acquisition of 10 branches, which we expect to further accelerate noninterest income in lead to improvement in our net interest margin and the completion of the sale of our insurance premium financing operations. We also announced some significant structural changes, most notably a decision to consolidate our 4 Bank Charters into one. But before I discuss these changes further, I will turn the call over to Rob Shuster, our CFO to cover first quarter 2007 results in more detail. Rob.

Thank you, Mike. Good afternoon. I will focus my comments on net interest income in our margin, certain components of noninterest income and noninterest expense, asset quality, and conclude by reviewing some of the assumptions related to our revised earnings expectations for 2007. Tax equivalent net interest income totalled $31.2 million in the first quarter of '07, which was down $2.2 million or 6.7% on a comparative quarterly basis and was down $305,000 or 1% on a link quarter basis. The decrease in the comparative quarterly tax equivalent net interest income was due to a 41 basis point decline in our net interest margin to 4.23% from 4.64%. Partially offsetting this was $60.9 million increase in average interest earning assets, primarily as a result of growth in loans.

On a linked quarter basis, our tax equivalent net interest margin stabilized, despite the flat yield curve and continued competitive pricing conditions in our markets for both loans and deposits. The link quarter net interest margin was unchanged at 4.23%. In addition, average interest earning assets were also basically unchanged on a link quarter basis. However, as I mentioned earlier, tax equivalent net interest income was down $305,000 on a link quarter basis because of two fewer days in the first quarter compared to the fourth quarter of '06. Loans were flat in the first quarter at $2.48 billion. This lack of loan growth reflects several factors including a relatively weak Michigan economy, competitive pricing conditions, and our caution in booking any new commercial real estate loans involving construction and development of residential property. On a comparative quarterly basis, our yield on average interest earning assets and our cost of funds both increased due principally to higher short-term interest rates. On a link quarter basis, our yield on average interest earning assets and our cost of funds both increased by about 5 basis points.

Moving on to some of the more significant categories of noninterest income. Service charges on deposit accounts increased by $420,000 or 9.4% on a comparative quarterly basis, but we're down $264,000 on a link quarter basis. The link quarter decline is primarily due to 2 less days in the first quarter as well as seasonal variations. Visa Check Card interchange income was up 20.1% on a comparative quarterly basis and was up 5.6% on a link quarter basis. These increases reflect growth in debit card usage. As mentioned in last quarter's conference call, we rolled out a company wide rewards program at the start of 2007, seeking to achieve further growth in debit card transaction volumes in the future. Gain's on real estate mortgage loans totalled $1.1 million in the first quarter of '07 on $69.2 million of loan sales. Total mortgage loan origination volume was $116.8 million in the first quarter of '07, down about 1.5% from the first quarter of '06. Real estate mortgage loan servicing income declined by $126,000 on a comparative quarterly basis and declined by $78,000 on a link quarter basis. These declines primarily reflect changes in the impairment reserve on and amortization of capitalized mortgage servicing rights. The first quarter of 2007 included a $100,000 impairment charge on capitalized mortgage loan servicing rights.

Manufactured home loan origination fees and commissions fell by 52% on a comparative quarterly basis and by 38% on a link quarter basis. As a result of continuing weakness in this sector, we recorded a nontax deductible good will impairment charge of $343,000 in the first quarter of 2007 related to first home financial, which was acquired in 1998. This is the last of the good will remaining related to this acquisition. Noninterest expenses totalled $28 million in the first quarter of 2007, which is up $1.7 million or 6.6% on a comparative quarterly basis. The aforementioned good will impairment charge of $343,000 and $422,000 in branch, acquisition, and conversion costs account for 44% of the comparative quarterly increase in noninterest expenses.

Our assessment of the allowance for loan losses resulted in the provision for loan losses of nearly $7.5 million in the first quarter of '07, which was substantially higher than the comparative quarter in '06. Nonperforming loans increased to $48.1 million or 1.93% of total portfolio loans at March 31, 2007, which represents an $8.8 million increase since the end of 2006. The rise in nonperforming loans in the first quarter of '07 was primarily concentrated in the commercial loan and real estate mortgage loan portfolios. Nonperforming commercial loans rose by 5.9 million in the first quarter. This is principally due to one commercial loan with the balance of $4.9 million becoming nonperforming during the first quarter. This loan is for a retail development real estate project in southeastern Michigan. Based upon an updated appraisal and taking into account estimated liquidation and holding costs, we established a $1.2 million reserve on this credit.

As many of you are aware, we discussed during our last earnings conference call the review of our commercial loan portfolio that was conducted. This was not a credit that we anticipated any loss on at year-end. In addition, our nonperforming real estate mortgage loans also increased by $2.7 million during the first quarter. Net loan charge-offs totalled $4 million in the first quarter of 2007 or 0.65% of average portfolio loans. The net loan charge-offs were broken down as follows, $1.9 million in commercial loans, about half of which was comprised of one charge-off at our East Lansing, Michigan based bank that involved borrower fraud, $1.2 million in consumer loans, and $0.8 million in real estate mortgage loans. Our allowance for loan losses rose to $30.3 million or 1.22% of portfolio loans at March 31 of '07, compared to $26.9 million or 1.08% of portfolio loans at year-end '06. An analysis of the components of the allowance at March 31 of '07 is as follows, the portion of the allowance allocated to specific loans totalled $4.4 million, an increase of $1.7 million since year-end, due primarily to specific reserves established on nonperforming commercial loans, including the $1.2 million on the one commercial real estate loan that I discussed earlier. The portion of the allowance allocated to other adversely rated loans totalled $9.3 million, which is unchanged since year-end.

As I've discussed before, we utilize a 12-point loan classification system with 1 being the best and 12 being the worst. In the total of loans rated 7 or higher, which some might call "Watch Credits" was approximately $111 million at March 31 of 2007, up just slightly from the $109 million at December 31 of 2006. The portion of the allowance related to historical losses totalled $8.8 million, which is an increase of $1.4 million since year-end due primarily to the rise in the level of net loan charge-offs. We utilize a 10-year rolling average in calculating this component of our allowance with the most recent 24-month period weighted the highest. And finally, the subjective or unallocated portion of our allowance totalled $7.8 million, an increase of $0.4 million since year-end due primarily to economic conditions in Michigan.

I now want to focus the balance of my remarks on our revised earnings outlook for the remainder of '07. As we indicated in this morning's press release, we currently expect '07 full-year earnings to be in a range of $1.20 to $1.40 per diluted share. This revised estimate takes into account the following primary assumptions compared to actual first quarter results. One, continued flatness in loans with little growth for the balance of the year. Two, the tax equivalent net interest margin during the remainder of 2007 is still estimated to be about 20 basis points higher than the level experienced in the first quarter of '07. This improvement is comprised of an expected 9 basis point positive impact due to improving spreads at Mepco, and an expected 11 basis point positive impact due to the TCF Branch acquisition. The branch acquisition is expected to result in an improvement in quarterly after tax income of approximately $0.04 per share taking into account the impact on the net interest margin, noninterest income, noninterest expenses, and intangibles amortization. The provision for loan losses is expected to be $4 million to $5 million per quarter. The impact of -- of the subsequent three quarters having one, two, and two more days respectively compared to the first quarter approximates an after tax benefit of about $0.05 per share in total or about a $0.01 per share per day.

And finally we expect average outstanding diluted shares of 23 million. It might be helpful if I take our average -- our actual first quarter diluted earnings per share from continuing operations of $0.19 and work up to our revised guidance that would suggest an average quarterly run rate of $0.33 on the low end to $0.40 on the high end for the remaining 3 quarters. Starting with the $0.19, the first quarter included $0.03 of nonrecurring charges, included in noninterest income. We expect $0.04 per quarter after tax improvement from the branch acquisition. At a quarterly loan loss provision of $4 million, it is a $0.10 after tax improvement from the first quarter. And at a quarterly loan loss provision of $5 million, it is a $0.07 after tax improvement. And finally, we pick up about $0.01 per share for each extra day in the subsequent quarters compared to the 90 days in the first quarter. This brings you to a range of $0.34 to $0.37 per quarter. We also anticipate a net benefit for the year of about $0.02 per share related to the announced Charter consolidation and cost reduction initiatives based on the implementation, timing, and expected one-time severance and data processing costs. The high-end of the revised range, the $0.40 per quarter would anticipate the quarterly provision for loan losses declining to about $3.4 million.

The quarterly provisioning range of $4 million to $5 million assumes a net loan charge-off level of about $3 million for each of the ensuing 3 quarters. If the balance of outstanding loans remains relatively flat, this would result in our allowance for loan losses rising to 1.34% to 1.46% of total loans by year-end. We did repurchase 295,000 shares of our common stock in the latter part of the first quarter. And as a result of this, in the aforementioned branch acquisition, our tangible capital ratio declined to 5.12% at March 31, 2007. Our internal capital policy requires a minimum tangible capital ratio of 5% with a target range of 5.5% to 6.5%. You may have noticed in our balance sheet at quarter end that we had about $95 million in federal funds sold in other overnight investments. Further, we had an additional $20 million in short-term investments included in securities available for sale at March 31st. The $115 million represents excess funds from the branch acquisition, which we're not yet utilized to pay down brokered CDs. Over the next several quarters, these funds will be utilized to pay down maturing, brokered CDs, thereby reducing our total assets in increasing our tangible capital ratio. This reduced level of assets, along with projected retained earnings in excess of dividends should bring us back above a 5.5% tangible capital ratio by the end of the year. However, given the current circumstances with our stock price, we will be considering repurchases as -- at least as long as we remain above the 5% tangible capital threshold required by our internal capital policy.

This concludes my remarks, and I would now like to turn the call back over to Mike.

Thank you, Rob. Well, the economic conditions in Michigan and other industry dynamics have clearly impacted our performance. We're dedicating all of our energy and resources to those areas of strategic interest which will ultimately benefit our customers, employees, and shareholders in a long-run. As part of this effort, we are implementing two distinct initiatives designed to set Independent Bank Corporation on a path for renewed growth.

First, we are implementing a Charter consolidation that will merge our four existing Charters into one consolidated Charter, headquartered in Ionia, Michigan . The Independent Banks based in Bay City, Troy, East Lansing and Grand Rapids will now be one. Consolidated under the single umbrella of Independent Bank. A unification that all ready exist, reflected in our company-wide branding initiatives. The consolidation of our Charters has intended to enhance Independent Bank's Customer Service and to enable more efficient credit administration and leading processes, that will lead to improved risk management and asset quality over time. While our core Charter structure has served us well in the past, this move will help us to improve our operating flexibility, capture incremental cost savings, and position the organization to become increasingly opportunistic as we look to identify new areas of strategic interest. It's important to note that our fundamental approach to community banking has not and will not change.

In fact, we believe that this Charter consolidation will enable us to sharpen our focus on community banking. This shift to consolidate will ultimately serve to bring us closer as one community banking family. As part of this objective, we will be implementing a new executive management team structure. Reporting to me, they will have oversight for the key areas for the consolidated operations. First, Brad Kessel, will serve as Executive Vice President and Chief Operating Officer. He has been with Independent Bank Corporation for nearly 13 years and is currently President and CEO of Independent Bank. In his new role, he will oversee human resources, compliance, technology, operations and treasury management, and he will remain in Bay City. Stefanie Kimball, will serve as Executive Vice President of Commercial Lending, as we announced last week, Stefanie has recently joined our organization following a 25-year career with Commercial, and will be responsible for company-wide commercial lending, credit risk management, and credit administration. Stefanie will be based in Troy.

Dave Reglin will serve as Executive Vice President retail banking. Dave has been with Independent Bank Corporation for 25-years and is currently President and CEO of Independent Bank, West Michigan. He will concentrate on statewide branch sales and operations and be responsible for retail lending, including mortgage banking as well as retail product development, title insurance, investment in insurance services and marketing. He will remain in Grand Rapids.

Rob Shuster will continue to serve as Executive Vice President and Chief Financial Officer. Rob joined the Independent Bank Corporation family in 1994. Rob will oversee the key financial of the accounting, finance, investor relations, corporate governance, and Sarbanes Oxley Compliance. He will also continue his work as President and CEO of Mepco Finance Corporation. Rob will remain in the Ionia office. Other than the changes with Stefanie, the majority of the rest of the organizational changes will not become effective until the end of the third quarter when we expect the Charter consolidation process to be officially completed.

Our second initiative is part of our ongoing effort to strengthen IBC's long-term operating model. As we strive to be the Community Bank of Choice in Michigan, we are committed to improve efficiencies and performance at all levels. After conducting an intensive audit of our current cost structure, and evaluating the impact of the Charter consolidation, we are initiating changes, including a workforce reduction that are projected to reduce noninterest expenses by $4 million to $5 million annually. About one-half of these cost reduction initiatives are expected to be implemented in the second quarter of this year with a balance being completed in the third quarter. We also expect to incur a 1 to $1.5 million one-time charge primarily for the severance and data processing conversion cost. Allow me to place this decision within a broader context.

In recent years, our staffing levels have remained largely intact. Despite significant changes in the ways our customers seek to interact with Independent Bank. During this time we have seen a marked increase, in ATM utilization, internet based banking, and direct deposit. Now through a careful review of our customer points of contact and transaction activity, as well as the administrative efficiencies we anticipate from the Charter consolidation, we have determined that these changes require reduction in our workforce levels if the organization is to be positioned for future growth. It is also important to emphasize that our focus on strengthening IBC's operating model is not just about reducing costs. Our strategy does not call for shrinking into prosperity. Rather we remain strongly focussed on achieving long-term profitability by growing our revenue base as well as through the redeployment of our resources and new customer centric initiatives to deliver our products and services more effectively and differentiate us from the competition. In conclusion, we believe IBC is well-positioned to achieve improved growth given the initiatives we have in place. While we are not pleased with the results delivered in the quarter, we remain confident that our business fundamentals remain strong as we position IBC for the future. I would now like to open the call up for any question you may have for Rob or myself.

Thank you. (OPERATOR INSTRUCTIONS) Our first question comes from the line of Terry McEvoy with Oppenheimer.

Good afternoon.

Terry.

Hi, Terry.

Just the first question is about 3 months ago on the call we were looking at a provision for full-year '07 equal to that of '05 suggesting about an $8 million provision. Now it's 19.5 to $22.5 million. I was wondering if you could walk me through over the last 3 months what has contributed to the large increase in the expected provision for the year?

Terry, I could go through the components in the first quarter and, I guess what I'd tell you for the ensuing quarters is the estimate is based on what we saw in the first quarter. And I hope that we've over estimated those numbers. But looking at the first quarter, the 7.5 million, I guess where there were the surprises. If you break it down, about $2.8 million of the provision related to mortgage and consumer loans, which was substantially higher than what we estimated. And it's really in two areas. Net charge-offs for the first quarter were about $2 million, which was substantially higher than what we originally estimated in that area. Then in addition to that those charge-offs in our model push our historical allocations up.

So our historical allocations in that area went up by about $800,000 because of the elevated level of net charge-offs. The balance of the provision, about $4.4 million was in in commercial. And then I'll go through one last piece, which is the subjective portion, 4.4 million on commercial. Of that amount, we had as I indicated $1.9 million in net charge-offs again, which was substantially higher than what we anticipated, including about half of that arising from one credit at our East Lansing affiliate, at which we discovered fraud and had about a $900,000 charge-off. Again, those charge-offs pushed up historical allocations by about $600,000 because applying a higher historical rate to the portfolio. And then lastly, specific reserves were up about 1.7 million, including the 1.2 million on the one commercial credit that I referred to earlier of 4.9 million. So the charge-offs, the historical increase in the specific reserve, being at those elevated levels really pushed the reserve quite a bit higher.

And then finally, the subjective piece of the allowance was up about 400,000, that piece is based on a model where we input a variety of economic factors into the model and it produces a number for us on our subjective allowance. I guess I would say when we walked through the guidance back in the fourth quarter and indicated that we were looking for the allowance to return more to 2005 historical levels, we indicated that that was certainly the wild card in those numbers, which is why we specified what we were looking for in the allowance. But this first quarter was well beyond what we would have anticipated. Although, I think certainly you could make the statement, probably the 8 million was overly optimistic. Certainly we didn't expect to see the 7.5 million we ran in this first quarter. And as a result of what we saw in the first quarter, particularly with the elevated charge-offs in the mortgage and consumer area, the look on a go forward basis, we -- I walked through those numbers, the 4 to 5 million range, assuming about $3 million in net charge-offs.

And just one other question, a $4.9 million loan the commercial real estate development project in Southeast Michigan. Why wasn't that picked up in the portfolio review in the fourth quarter, and since it wasn't, was it at least included in that watch list credit the 7 plus at the end of '06?

I think it may have been on the watch list credit. But it was a performing loan with a long-term customer. It was not something we anticipated this type of situation to arise. And we got an updated appraisal late -- late in the third quarter, which taking that into account along with going down a liquidation path where once we start down that path, including discounting an updated appraisal, we're also factoring in holdings costs, including foregone interest for the holding period, liquidation costs and the likes, so when you move into a liquidation mode, it certainly changes the scenario how you're looking at that situation.

Terry, I'd just add that that credit, as Rob pointed out was current at quarter-end. Also a brother-in-law who is not on the loan nor guarantees it was financially supporting the project for the developer. And that ceased the middle of the quarter and the developer notified us he was unable to cash flow the project anymore. While the loan was current.

Thank you very much.

Our next question comes from the line of Brad Milsaps with Sandler O'Neill.

Hey, good afternoon.

Hey, Brad.

Hey, Rob. Just a couple more questions on your guidance. Going back to the previous quarter you talked about somewhere in the neighborhood of 25% service charge growth, 14% personnel expense growth, and about 12% growth in occupancy expense. Do those still hold pretty true in terms of, I guess the TCF Branch purchase and that all is being encompassed in your new guidance?

Yes, those -- the only thing that changed a little bit was the amount that ultimately got allocated to core deposit premium declined a bit from what we originally anticipated when we got the final core deposit study completed. But the $0.04, I kind of took those -- those items and I took the estimated -- positive impact on the net interest margin and tried to boil them all down to the $0.04 per share quarter, just to make it a little bit more direct. But those percentages from the last conference call are essentially where we expect to end up. But the bottom line is we expect to be at about $0.04 a quarter improvement because of the branches coming online.

The $2.3 million year-over-year increase in CDI amortization expense, that's a little bit on the high side?

Yes, it is.

Okay. And then, and final question back to the credit -- to the credit problems, can you kind of talk about or give us some more color -- just kind of what wholesale changes you may have made on the underwriting side or with personnel? I know you brought in the new lady recently to oversee commercial lending and I'm wondering how much credit oversight she'll have. And is the potential for maybe further wholesale changes as a result of her hiring not only with people but as she takes a look at the loan portfolio, et cetera. Can you offer a little bit more color there?

Sure, Brad, I'd be happy to. Stefanie Kimball will be on board next Monday. She comes to us as mentioned in the press release from Comerica Bank, where her last position was credit strategies and solutions. Prior to that, she was Senior Prior to that she was Senior Vice President of Credit Risk Management for Comerica Bank. She will have full responsibility for commercial lending, including origination and monitoring and processing of commercial loans. Through the consolidation of the and part of the reason when I looked at the consolidation of the 4 banks into 1. As we move more towards line management or if you ask someone to take responsibility for a specific area within the company, it's very difficult to have full responsibility if you're sharing that responsibility with 4 different banks. Because in the past, we've put that responsibility on the banks for the quality of their loan portfolio. When you bring someone in and you make them accountable now for the quality this being originated throughout our branch network or throughout our markets, you have to if you're making them accountable, you have to give them the authority with the accountability. And so, it was one of the reasons that we looked at consolidating the 4 bank Charters into 1, so that all areas of commercial lend ing and all of our senior VPs in all of our markets, all of our loan officers and all markets will report to her and she'll have responsibility for that.

The other thing that we will be doing is that Stefanie will be developing a commercial loan workout department, something that we currently do not have. And she has some thoughts already in mind, and I believe even some people to work in that area for us. But she has been her and I have been in contact almost on an every other day basis about conversations she's having already with individuals within our company and then also ideas that she has on wanting to implement some wholesale changes immediately. So she'll have full responsibility of that area when she starts. I want to point out too as you know. We mentioned last quarter that we've gone through a commercial loan review. Part of that was looking through our processes, procedures, and identifying the best practices out of -- from the four banks. Pete graves headed that up for our corporation and did a fantastic job. Unfortunately our company's at a size right now that we can't ask our people to wear multiple hats.

In key lines of business or areas of responsibility for our company as far as technology, we need specialized individuals who can take full responsibility and their time's not being shared or their efforts not being pulled in different directions. So Stefanie will have commercial lending and she'll have that full responsibility. Pete Graves will be our Chief Information Officer and be responsible for technology. And those are two key areas of our bank that, again, you can't ask one person to wear multiple hats.

Brad just two other real quick comments is one, the loan review function will report to through a different channel. So there will be that check and balance on the commercial lending function in the sense that loan review, which is already in place the sense that loan review, which is already in place will not report through to Stefanie. And the second thing that -- I think has maybe hurt us a little bit more is historically we've focussed on lending on real estate and that's served us generally very well over the years and up until '06 and into '07, our historical charge-offs in the real estate area tended to be quite low, obviously. That's changed over the last several quarters. And I think the experience Stephanie brings to our organization in the area of CNI lending will give us a little bit better potential for diversifying our commercial lending more and not relying as much as we have in the past on commercial real estate lending.

Okay. Great. And final question, are the bids for some of these loans -- trying to get them off the books quickly, are the discounts just too wide right now for you guys to consider that?

We are exploring it. Obviously we want to get our nonperformers down as quickly as possible. And if you recall back in the latter part of '05, we had a couple of sales of nonperformers. One was from -- actually it was back in '04 I think was part of it, one block was from the Gaylord acquisition and then we had another block, I think later that year, actually in '04. So we've done that in the past. And I think we'd certainly be looking at that opportunity, but I can tell you Michigan, they're extracting a heavy discount and it just may not be good from a timing perspective to try and liquidate at prices that aren't really fair market value.

Okay. Great. Thank you.

Our next question comes from the line of Jeremy Steel with Lansing State Journal.

Good afternoon. I've got a couple questions that revolve around the reorganization from consolidating those four charters. I'm wondering, do you have an idea yet how many workers you -- or what kind of workforce reductions you might be looking at? and I'm wondering how quickly that's beginning to be happening and from where across your operations those folks might be leaving you from?

Jeremy, it'll be less than 75 individuals out at the banks. That's spread out throughout the state at 120 locations. So less than 75, and all of those employees impacted the plan right now is that we're going to meet with them starting next week. We want to identify -- we want to meet with those employees, let them know during the week of April 30th, we did say in an internal e-mail that it may take until May 11th because we wanted to give ourselves some time in case there ways anyone on vacation. But it's our intent by May 11th, to identify sit down with all the employees impacted, notify them that their job has been eliminated and so that as you can imagine there's a lot of anxiety right now with the staff as far as who is on the list. And we want to get to those individuals as soon as possible, and then get the announcement out to all the rest of the employees to say we met with the employees impacted and that concludes the round of cost saves at the banks level.

What's going to be happening to your 4, your 4 division offices?

Well, the new home office will be located here in Ionia, Michigan. And I'm sorry?

Do you expect to be moving folks from East Lansing or Grand Rapids to Ionia or?

No, we do not. It was very important. And I appreciate you asking the question, Jeremy because I'd like to talk to you a little bit about our Community Bank philosophy. Our Community Banking philosophy has always been to have the decision makers as close to the customer as possible. That's what I believe is community banking. When we go and -- when I visit with one of our branch managers in their community, I appreciate it when he introduces me to a customer as the President of the Company. The customer looks at the manager and say I thought you were the President of the Bank. That's the type of community banking I believe serves us very well. So we're refocusing on community banking. All of the current managers will continue to report to the same Senior VPs they are right now. And all of them will be located exactly where they're at.

We will have regions throughout the state that the Senior VPs will be responsible for branches in those regions who will report to one of the EVPs that I mentioned earlier, Dave Reglin, who will report to me. So we're not adding layers of bureaucracy in the project that were keeping. Nor are we making the organizational chart flat, we want it to be only 4 layers of management between the customer and the top decision maker.

How many employees do you have overall?

About 1400.

1400. Thank you.

Our next question comes from the line of Matt [Finn] with Signal Capital Management.

Good afternoon, gentlemen. Just a couple of quick questions for you. What is your efficiency ratio now, and do you have sort of a target for that? And I guess maybe follows with the last couple of questions. And same thing with the reserve of nonperforming loans, do you have a target in mind that you can talk about?

Well, let me -- you said reserve to nonperforming loans? Was that the second part of the question?

Right.

We don't have a target. Obviously we want our nonperforming loans to be as low as possible. But in terms of target, we go through a calculation on what the allowance needs to be based on four factors that I kind of covered in my remarks, which one is specific reserves where we're looking at specific reserves on various commercial credits. The second piece is historical allocations. And that's driven largely by net charge-off levels. The third piece is based on commercial loan classifications. And then there's a fourth piece that we call sort of the unallocated, which is based on economic factors. That drives whatever the allowance is and that's how it's computed.

In terms of nonperformers, we'd certainly like to see a level of nonperformers return more to pure group levels and to historical norms, which would put us more at about 70 basis points then as compared to the 190 that we're at. And the second question on efficiency ratio, the efficiency ratio was about 66%. That's clearly higher than what we've historically operated at. And we would like to be more into the mid 50s. That's more along the lines of where we've historically operated at.

Right. Okay. Well, thank you very much. Appreciate it.

Our next question comes from the line of John Rowan with Sidoti & Company.

Good afternoon, gentlemen.

Hi, John.

Hi, John.

Rob, a quick question. You said you're looking for 23 million average diluted shares for the remaining of the year. Does that include buybacks? You did mention the fact that you'd be in there repurchasing shares.

Well, what it does. It really assumes the 23 million assumes no share repurchases after -- as I mentioned in my remarks, we repurchased 295,000 shares later in the first quarter. So that really didn't impact the first quarter level that much. So the 23 million just assumes that 295 that came late in the first quarter. And what I said is given the current circumstances we will be considering repurchases as long as we remain above 5% tangible capital. So the 23 million does not assume any additional repurchases.

Okay. And then just to kind of circle back, I didn't quite catch everything. You're talking about having static loan balances for the remainder of the year, but you said your asset basis go down. Why your assets would be turning down for the rest of the year?

Yes, because we have 115 million of short-term investments that we -- we closed on the branch acquisition on March 23rd and brought in, I think about -- it was a little over 200 million in cash from that branch acquisition. I think about 210 million. And we paid off all of the borrowings that were available to pay off before the end of the quarter. But we still had about 115 million in cash. And so if you look at the balance sheet, we've got about 95 million in Fed funds and overnight investments. And then we've got roughly in my comments I said about another 20 million of securities in securities available for sale that are just short-term investments.

As brokered CDs come up on maturities over the next ensuing quarters we will be liquidating those short terms investments and paying down the brokered CDs. And in addition, given the current flat yield curve, we would expect our overall securities available for sale to continue to decline. They've declined the last couple of years because in this environment it's tough to construct trades that you can earn any spread on. So as securities available for sale other than that group I just talked about, mature will be using those to pay down brokered CDs. That's why the trend in the balance sheet is going to be downward. Based on current brokered CD rates and what you're earning in short-term investments, you're not getting much of any spread anyways. So it's not really going to have much impact on the margin.

Okay. And just one last question. Can you kind of give us the idea of a tax rate you have assumed in your guidance?

Yes. A lot of it is going to be very dependent on the provisioning level in overall earnings because you're running. The two components that you're running relative to nontaxable earnings would be the earnings on bank owned life insurance and the earnings on the [muny] portfolio. And the bank-owned life insurance earnings on a quarterly basis are running roughly about 450,000. And then the tax exempt earnings are running at about 1.6 million or so. At least that's the tax impact of it. So that's what's driving that. And so I would suspect with the level of provisioning I talked about we'd be somewhere in the 26% range or so.

Those are all of my questions. Thank you.

(OPERATOR INSTRUCTIONS) We do have a question from the line of Steven Guinee with Stifel Nicolaus.

Hi there. Good afternoon. Question on the subjective portion that 400,000. If you can talk about, was there anything specific that was a result of? Or is just kind of a general --

We, Steve, we have a model that we -- yes, we input a lot of different economic variables into it. Things like employment rates, level of existing home sales. And that produces a -- an overall composite number. And we compare that overall composite number to the previous quarter composite number and then that change either up or down alters the unallocated or subjective portion of the allowance. So it's really just driven by economic factors. And it's a blend of both Michigan economic factors and some U.S. economic factors.

Okay. Also, was there any performance based accrual in the first quarter?

There was for I think long-term incentive and for E-sap but we, the bonus accrual to some degree. And I don't have the exact figure, total figure handy.

Are you --

But did have some incentive accrual.

Okay. Considering the fairly challenging loan environment, are you looking at the structure? Are you fairly comfortable with where you're at? And where it needs to be relative to retaining the lenders that you currently have?

That's a very good question. We implemented last year or it takes effect for 2007 a new annual incentive plan that roughly 50% of an officer's incentive is tied to corporate and bank performance and the other 50% are tied to management by objectives. MBOs. And those MBOs have -- an officer could receive a bonus even if the bank or the corporation doesn't hit their targets. If the commercial loan officer generates their volume and hits their asset quality measurements. We have -- it's a certain percentage of those MBOs is tied to production, and then an equal portion is tied to quality, both asset quality and documentation of the credits in their portfolio.

So when we reviewed that, we actually -- we made -- we hired Mercer to help us look at our compensation package in some of those individuals to make sure we were competitive with the marketplace, we had to raise their base salary, along with implementing this new incentive program. So I guess the bottom line question is, yes, we're comfortable that our compensation package is very competitive for the marketplace.

Okay. Thank you.

Seeing as there is no further questions in the queue, would you like to make any closing remarks?

Just like to thank everyone for participating in the call. And again, if anyone has any further questions, just give Rob or myself a call.

Ladies and gentlemen, this concludes today's teleconference. Thank you for your participation.