Independent Bank Corp (Michigan) (IBCP) 2009 Q1 法說會逐字稿

Hello, and welcome to the Independent Bank Corporation first quarter 2009 earnings conference call. All participants will be in a listen-only mode. There will be an opportunity for you to ask questions at the end of today's presentation. (Operator Instructions). Please note this conference is being recorded. Now I would like to turn the conference over to Mr. Michael Magee, President and CEO. Sir, please begin.

Thank you. Good morning, and welcome to our first quarter 2009 earnings call. I am Mike Magee, President and CEO of Independent Bank Corporation. Joining me on the call today are Robert Shuster, our Chief Financial Officer; Stefanie Kimball, our Chief Lending Officer; and Brad Kessel, our Chief Operations Officer who is responsible for retail collections.

Following my introductory comments, Rob will provide a detailed review of our financial performance during the first quarter. Following Rob's comments, Stephanie will provide a progress report on credit quality for commercial loans and Brad will provide an update on retail. We will conclude the call with a brief question-and-answer session.

Also please note that an accompanying PowerPoint presentation will be referenced throughout today's call. To access this presentation, please go to the Investor Relations section of our website at www.IBCP.com. Furthermore, please also note that this presentation may contain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Please refer to our Safe Harbor provision on slide two of the presentation for additional information on forward-looking statements. I will begin today's discussion with a high level overview of our first quarter as summarized on slide four of the accompanying slide presentation. Before I summarize our financial results, let me preface my comments with a few important points.

Although our results for the quarter were not what we would have liked, IBC's foundation remains strong. Our pre-tax, pre-provision core operating earnings showed solid growth on a year-over-year and linked quarter basis demonstrating our ability for generating profit growth when more normal economic conditions return. Unfortunately, we continue to face the continued downturn in the Michigan economy and the impact of which has been felt in many of the communities we serve.

For the first quarter ended March 31, 2009 we reported a net loss attributable to common shareholders of $19.7 million or $0.84 per share compared to net income from continuing operations of $300,000 or $0.01 per diluted share in the first quarter of 2009. The decline in profitability is largely attributed to a $19.5 million increase in provision for loan losses which was driven by a significant decrease in underlying collateral values as property values continue to decline in our state.

As we have stated in past quarters, to help address these issues we continue to work very closely with our borrowers to identify the best possible outcomes for both them and the bank. In the first quarter, for an example, we imposed a temporary foreclosure moratorium as we awaited the details of the administration's plan to assist homeowners. Since that $75 billion program was announced, we have been working with our borrowers to pursue the most appropriate options to help our customers stay in their homes.

On a positive note, our proactive efforts to manage our credits has resulted in a decrease in our commercial nonperforming loans as well as a decline in watched credits and 30 to 89-day delinquency levels. In just a moment, Stephanie will speak to these efforts in greater detail. Despite the challenges within the credits, our core operating earnings remain strong. For the full year, our tax pre-provision or pre-tax pre-provision core operating earnings rose more than 34% to $17.8 million from $13.2 million in 2008 and $3 million or nearly 20% higher than the fourth quarter.

Additionally, our net interest margin continued to expand to 5.13%, up 83 basis points over the past 12 months and up 33 basis points from the last quarter. Our current margin is among the best in the banking industry and our regulatory capital ratios remain above minimum required to be considered well capitalized.

As we have said in past quarters, IBC operates in an efficient manner. Despite our internal efforts to contain costs due to the increase in loan and collection expenses, noninterest expense increased by $3.1 million to $33.4 million compared to a year ago period. However, with the elimination of any accruals for bonus and contributions to our employee stock ownership plan, compensation and employee benefit costs were reduced by $1.6 million or 11% in the first quarter compared to a year ago period.

During the fourth quarter, the Company announced its participation in the Capital Purchase Program and the receipt of $72 million investment from the U.S. Treasury. It is important to note that we do not view our participation as a bailout or a sign of weakness as the rules of this program are designed to help healthy banks shore up their financial position, improve their balance sheet, and further increase their capital position.

We are please that the Treasury considered the strength of our business and was motivated to make an investment in IBC's future. This investment has enhanced IBC's ability to extend lending in line with borrowing demand while ensuring we do not compromise our strict lending standards.

In the 109-day period ending March 31, 2009, we have made $335.4 million in loans of which half was either renewing or refinancing existing loans. Looking ahead, the difficult economic and financial environment of 2008 has continued into 2009. We would expect that these circumstances to persist for the next several quarters. IBC is not immune to the challenges that have adversely impacted financial results across the banking sector.

And we will likely continue to face significant challenges ahead. At the same time, our solid regulatory capital ratios allow us to remain focused on the fundamentals of community banking and on our bank-wide directive to grow deposits, enhance asset quality and improve operating efficiencies so that we can emerge on solid footing once this economy recovers. With that, I will now turn the call over to our Chief Financial Officer, Rob Shuster, for a review of our financial performance during the period.

Thank you, Mike. Good morning, everyone. I am starting at page 6 of our presentation which summarizes the various items impacting first quarter 2009 results. As Mike mentioned, our loss was pretty much entirely driven by elevated credit costs.

As outlined on page 7, there were some positive factors evident in our first quarter '09 results. Most notable was the continued strength of our net interest margin, growth in noninterest income and stable noninterest expenses when factoring out loan and collection expenses and losses on other real estate. Stefanie and Brad will discuss the ongoing challenges related to credit and I will discuss capital at the end of my presentation.

Page 8 provides an update on the valuation allowance on our deferred tax asset. As I mentioned in last quarter's conference call, in the near term, it is likely that neither income nor losses will be tax affected. The $293,000 of income tax expense in the first quarter represents some state income taxes at the stand alone subsidiary level and some federal alternative minimum packs on certain preference items.

The total valuation allowance on deferred tax assets of $43.7 million at the end of the quarter represents $1.82 per common share and is a significant potential future source of capital once we return to profitability on a consistent basis. Mike mentioned in his comments the growth in our pre-tax, pre-provision core operating earnings. The table on page 9 provides details on this non-GAAP measurement which we believe demonstrates our ability to navigate through this difficult credit cycle in our capacity to absorb credit costs.

This capacity has grown even stronger in 2009. Pages 10, 11 and 12 of our presentation provide information on our tax equivalent net interest margin, net interest income and some various factors impacting the first quarter. We continue to exercise strong discipline in pricing both loans including the use of interest rate floors on commercial loans and on deposits.

Such discipline is a primary factor leading to our strong margins as well as the change in loan mix with growth in higher yielding finance receivables. However, with respect to deposits, we continue to see nonsensical pricing by some competitors in many of our markets. A handful of financial institutions are still offering CD rates that are 100 basis points or higher than similar term brokered CD rates.

In comparing deposit growth rates at various financial institutions, one must understand the pricing tactics being employed. We experienced a $19.3 million decline in non-brokered CDs in the first quarter which I completely attribute to the aforementioned pricing conditions.

Page 13 provides information on our tax equivalent net interest income and margin sensitivity based on our March 31, 2009 balance sheet. As you can see in the base case, tax equivalent net interest income is $140.8 million compared to an annualized level of about $140 million in our first quarter and the tax equivalent net interest margin in the base case is 5.27%.

Moving on to some of the more significant categories of noninterest income on page 14 of our presentation, service charges on deposit accounts declined as we continue to see a decrease in NSF occurrences in related fees. Many banks are experiencing this decrease that I believe reflects belt-tightening on the part of consumers.

Mortgage loan servicing continued to produce a loss. As you are probably aware, mortgage loan interest rates plunged to record low levels during the first quarter. This led to a further decline in the fair value of our capitalized mortgage loan servicing rights at quarter end and a $700,000 impairment charge as well as a higher level of amortization of this asset.

Absent impairment charges or recoveries of such charges and assuming a more normalized level of amortization, this line item should run at about a positive $650,000 per quarter. Because of the record low mortgage loan interest rates, we are experiencing a big surge in refinancing volume.

Gains on mortgage loan sales climbed to $3.3 million in the first quarter and mortgage loan origination volume and loan sales volume increased by 140% and by 187% respectively over the fourth quarter of 2008. Moving on to page 15 of our presentation, all of the increase in total noninterest expense over the year ago quarter was credit driven, either in the form of higher loan and collection costs or increased losses on other real estate owned.

As Mike mentioned in his comments, compensation and employee benefits declined by $1.6 million or 11.3% compared to the year ago quarter. Pages 16 through 20 of our presentation provide information on the provision and allowance for loan losses as well as net loan charge-offs. Because Stefanie and Brad are going to cover credit quality in detail, I will move forward to page 21.

This slide has details on our securities available for sale at quarter end and provides both the cost basis and current fair values. As you are aware, in April 2009, the FASB issued updated guidance on fair value and other than temporary impairment. We will be adopting this new guidance in the second quarter and do not presently anticipate any significant current impact on our results of operations.

Page 22 covers our regulatory capital ratios. As you can see, we remain comfortably well capitalized, although these ratios are down from year end due to our first quarter loss. One method to increase these ratios that should not be overlooked is reducing total assets.

Since the end of 2006, we have reduced our total assets by $450 million or 13.2% and our total risk-weighted assets by $300 million or 11.3% while at the same time improving our net interest income. We intend to continue to pursue deleveraging as necessary. Page 23 provides some observations on liquidity and capital. At March 31, 2009, our parent Company had approximately $28 million of cash on hand which provides better than two years of coverage on our preferred stock dividends and our trust preferred dividends without any need for cash from our subsidiary bank.

In addition, our bank subsidiary continues to have ample unused borrowing capacity. We are initiating a strategy to replace some short-term borrowings at the Federal Reserve Bank or Federal Home Loan Bank with intermediate-term, generally two years to five years, callable brokered CDs to further improve our liquidity profile. Although this strategy will increase our cost of funds, we believe the liquidity benefits currently outweigh the impact on funding costs.

In the first quarter of this year, the Federal Reserve Bank issued SR 09-4. This document discusses capital in the payment of dividends. The document reiterates the Fed's view that voting common shareholders equity should be the dominant element within Tier 1 capital.

Historically, tangible common equity represented 70% or more of our Tier 1 capital. At March 31, 2009, our ratio of tangible common equity to Tier 1 capital had declined to 43%. For purposes of Tier 1 capital, tangible common equity includes an add back of $20 million related to the accumulated other comprehensive loss on available for sale debt securities and on cash flow hedges.

We will be exploring a variety of strategies to increase the tangible common equity ratio to our Tier 1 capital. Obviously, the retention of future earnings would be the most cost effective method to achieve this objective. That concludes my remarks and I would now like to turn the call over to Stefanie Kimball.

Thanks, Rob. And good morning, everyone. My remarks will follow slides 25 through 36 as I discuss our commercial lending credit quality results and the initiatives we continue to implement as we confront this challenging credit and economic cycle. Before I turn to the slides, I would like to make a few comments.

As Mike referenced in his remarks, our management team continues to work diligently with our clients through this very difficult Michigan business climate. While national economic conditions deteriorated rapidly in 2008, many of our clients have been under significant stress now for several years. With each passing quarter, a number of them cannot continue on and they default on their loans.

While this continued to be the case during the first quarter of 2009, we can point to several bright spots that are attributable to the efforts of our dedicated commercial banking team, the team with whom I have the privilege to work. We have been steadfast in our commitment to relationship banking and to our philosophy of working with our clients as long as they are working with us.

While we continue to see the most severe economic stress with clients that depended in the past upon the sale of residential real estate, that stress has now clearly spread to other industries and businesses. Fortunately, the enhanced credit processes that we have put in place are comprehensive and they have been implemented across all segments of the portfolio and position IBC to meet the new challenges as they arise.

Now turning to page 25. I would like to overview some highlights. The watch credits decrease $17 million or 8% to $189 million during the first quarter, as new watch credit slowed and our existing credits moved through the workout stages. Further, we have seen the early stage watch credits decline significantly over the last several quarters.

Commercial loan delinquency continues to be at low levels for our Company at 1.4% of the portfolio for the 30 plus accruing loans. Overall, nonaccruals decreased $9 million and further plans are in place to dispose of loans or property for an additional reduction in NPAs of $10 million.

Our charge-off levels were elevated with the increase due to write-downs on the deteriorating collateral values. Properties and other real estate owned continued to decrease as loans move through the workout cycle. Now turning to page 26 to look at some of the details. Outstandings declined at a consistent pace with last quarter decreasing $36 million.

The new and renewed loan volume of $93 million is up from $75 million the previous two quarters primarily as a result of the seasonal renewals that are experienced in the first quarter. Overall loan demand remains weak with very few clients embarking upon new projects. Most businesses are looking to pay down debt.

We have seen an increased interest in SBA loans as a result of the enhanced programs that have been offered as part of the stimulus package. Turning to page 27. Over the past two years, we have seen a significant decline in the high risk commercial real estate categories and nominal growth in our C&I and owner occupied portfolios.

This helps reshape our overall portfolio and reduce the reliance on real estate-related loans. Our remaining exposure in the high risk areas of land and land development is now under $75 million. These two segments have generated most of our losses during the last two years. Adding to the construction portfolio into the mix, these three segments now total $118 million and they have reduced 50% in the last two years on average.

Turning to page 28, our watch credits declined $17 million or 18% during the quarter. There are two bright spots in this decline. First of all, the decrease can be seen in the early stage internal monitored credits which are shown in the yellow bar of our chart in our presentation. This segment declined $14 million.

In addition, the nonaccruals declined which I will discuss further. Turning to page 29, another bright spot is our focus on strong early collection efforts as we stay close to our customers and administrative discipline which has resulted in continued low levels of delinquency.

Turning to page 30, our nonaccruals decreased during the quarter by $9 million as credits continued to move through the workout cycle. Approximately $4.6 million in loans moved into ORE while several payoffs and charge-offs all combined to reduce the level of nonaccruals. Further, plans are in place to dispose of loans or the underlying collateral for an additional $10 million.

Now turning to page 31, the composition of our nonaccrual portfolio continues to be driven by, with 47% in the land, land development and construction portfolios. Overall nonaccruals are $66 million. Reserves are in place or charge-offs have been taken for 50% of the loan amount for our nonaccruals.

This is the result of the declining collateral values that we have experienced in our markets. Last quarter, we reported a 42% overall reserve and the quarter before 38%. Land and land development at 34% of the nonaccruals continues to be a key area of challenge. Several appraisals that we received this quarter showed values declining by 40% to 80% from values that were reported just 12 to 15 months earlier.

As one illustration, we have a residential development where the appraised value of developed lots in a very nice wooded metropolitan area fell from $100,000 a lot to $20,000 during a 15-month period. Given this deteriorating market, we have strategically decided to take some incremental short-term losses this past quarter to move a number of properties or loans as essentially a hedge. And that is the approximately $10 million that we have previously referenced.

Turning to page 32, the charge-offs for commercial loans totaled $23.8 million for the quarter. This painful level of loss is up $6 million from the previous quarter. A significant portion of this charge in both the past two quarters has been the result of our continued write-down of nonaccrual loans as collateral values have fallen significantly in our market.

The uncertainty as to when the real estate market will have bottomed and when the demand for real estate will begin to increase has significantly impacted values. Absorption rates for residential real estate projects in particular are being forecasted as very slow and far out into the nature.

Turning to page 33, the levels of ORE increased $4.6 million. ORE has risen significantly since the second half of 2008 as several foreclosures have taken place and a number of deeds were negotiated with borrowers outside of foreclosure.

Turning to page 34, the effective management of troubled assets continues to be a key challenge for our industry and our bank. Real estate loans in particular can have very lengthy workout cycles with a 12-month redemption period for residential development.

Overall, the level of nonperforming loans did decline $9 million during the quarter and another $10 million have disposition plans as I outlined. These transactions have been the result of our special assets team's negotiations. While we continue to explore the sale of nonperforming loans with the assistance of investment bankers, the market has weakened further and we have found that our own efforts produce more favorable results.

Accordingly, we have recently dedicated two additional lenders to facilitating transactions. We will continue to monitor the investment banking market looking for it to stabilize. We are hopeful that some of the government programs will resuscitate the depressed market for troubled loans. Currently that market, or the lack thereof, has put further downward pressure also on real estate values. A number of investors appear to be on the sidelines awaiting these new programs.

This has impacted the appraisals and the transactions in the market and have really been limited almost exclusively to foreclosures or fire sales. Regarding the ORE portion, we started last year with about $2.5 million in ORE and we now have $16.5 million. ORE now comprises 20% of our nonperforming assets.

We continue to utilize outside experts in commercial real estate management to assist us in the strategic evaluation of our other real estate, as well as in the day-to-day management. If a property ends up in a bank's ORE portfolio it is important to reassess the highest and best use of the property.

If our client's project or business failed we cannot assume just placing a "for sale" sign on the property will move it. We have found in some cases, some properties have better marketability by repositioning them for an alternative use.

Now, turning to page 35. Over the past two years, we put in place credit best practices and are confident that these will serve as good foundation for managing through this very difficult cycle. While this foundation is comprehensive, the new realities of today's market also require flexibility and a focus on continuous improvement in managing our portfolio and our team.

Along those lines, then turning to page 36, some recent examples of our continuous improvement are outlined. We continue to add to staff of our special assets group. Since our last conference call, we have two additional lenders working on the special assets team and have another starting soon.

As I mentioned earlier, we have dedicated two seasoned commercial lenders exclusively on the facilitation of transactions to reduce the level of nonperforming assets. We remain committed to ongoing training for the commercial lending team including workshops that practice the skills that are required in today's challenging economic environment.

We are expanding our SBA lending capabilities and participating in the new 7(a) and other programs. And also recently we have hired a new senior credit officer who brings significant experience and talent to our team. In closing, while navigating through Michigan's economic challenges continues to be quite a journey we are fortunate to have a team that is dedicated to doing whatever it takes to help our clients and our Company weather this credit storm.

Our focus on the fundamentals of community banking and relationship approach position us to serve our communities well. We remain ready and committed to lend to businesses in our communities at appropriate credit and pricing terms. We believe the value proposition for community banking and our relationship approach is strong over the longer term, perhaps even greater now than it was before the downturn as the clients will really want to know their banker and they will favor a bank with dedicated professional staff that is in their own community.

I will now turn the call over to Brad Kessel, Executive Vice President and Chief Operating Officer, for a discussion of our retail credit quality metrics. Brad?

Thanks, Stefanie. Good morning. Please turn to slide 38 in our presentation and I will give an overview of the main points to be covered in my portion. I will briefly cover Michigan economic conditions, the retail portfolio, new loan production, management initiatives, total retail past dues, nonperforming assets and retail losses.

On slide 39, along with the rising Michigan unemployment rate, our number one tracked reason for delinquency continues to be loss of income followed by excessive obligations. On slide 40, we see the Michigan Association of Realtors reports a slight uptick in February 2009 sales. However, the average sales price is more than 30% less than that reported one year ago.

These two economic measures, falling real estate values and rising unemployment levels, have had a direct impact on management's approach towards maneuvering through this downturn. First, if our borrower is willing and able to make some level of payments we are making every effort to work out an acceptable payment arrangement. Second, if the borrower is unwilling or unable to make payments all efforts are being made to accelerate the acquisition and disposition of the underlying collateral, all the while optimizing our net proceeds.

On slide 41, I would like to comment on several initiatives to address the challenging credit cycle. Over the last 12 months, we have almost doubled the number of staff within the retail collection department. This includes transferring a number of staff from the front end origination side to back room collections. Additionally, we have also leveraged branch staff to collect early-term installment delinquencies drawing on their local knowledge of the customer.

Over the last few quarters, management has continued to increase the number of tools in its loss mitigation tool box. These tools include payment plans, modifications and refinances, all of which enable us to keep borrowers in their homes. At the same time, short sales and/or accepting deeds in lieu have also been successful loss mitigation tools.

In those instances where the liquidation of the collateral is deemed to be in the best interest of the bank, management has put in place an effective real estate management and disposition process that utilizes the Internet, local realtor base and our auction partners. Finally, we continue to monitor the rollout of the FDIC public-private investment fund as a possible outlet for nonperforming loans.

Turning now to page, slide 42 of the presentation. You can see that our portfolio continues to shrink in outstandings. This past quarter, mortgage outstandings declined by $23.1 million while consumer outstandings declined by $21 million. Yet as you can see on slide 43, our retail loan production was exceptionally strong during the first quarter, particularly our salable mortgage production with $142.6 million in the first quarter of 2009 versus $49.6 million in the fourth quarter of 2008.

Total retail originations exceeded $164.5 million for the quarter as our customers take advantage of the low rate environment, particularly the low salable rates. On slide 44, nonperforming mortgage loans increased by 158 basis points and consumer nonperforming increased by 67 basis points during the quarter.

However, we are pleased to see both the mortgage and consumer 30 to 89-day past due categories improved by 37 and 38 basis points respectively during the quarter. Slide 45 further reflects this positive trend in the 30 to 89-day categories with mortgage past dues declining by $3.7 million and consumer past dues declining by $1.7 million.

Turning to slide 46, nonperforming mortgage loans increased by $11.8 million and consumer nonperforming increased by $2.0 million during the quarter. Of the $56.8 million nonperforming loans at quarter end, $4.0 million was current, $18.5 million involved active loss mitigation efforts and $35 million was in some stage of foreclosure.

On slide 47, can you see our total mortgage nonperforming assets increased by $13.2 million during the quarter. Of the $67 million in nonperforming retail loans, $8.7 million was ORE and $0.6 million was ORA. At quarter one 2009, these balances are net of $8.7 million in write-downs.

Slide 48 highlights our workout efforts during the first quarter. As you can see, we have completed 92 home retention actions for $14.1 million in loans and an additional 28 home forfeiture actions. We believe our workout success rates will meet or exceed some of the nationally reported data as we have worked towards achieving a 31% housing ratio and/or 10% reduction in payment for those borrowers exhibiting financial hardship.

On slide 49, during the first quarter, we charged off $5.8 million in retail loans. More than 94% of these loans relate to loans collateralized by real estate. Some of these losses are first-time write-downs on newly defaulted loans, while many of these losses are second-time write-downs on loans moved to ORE after completion of the lengthy foreclosure process.

On slide 50, you can see we were able to liquidate 52 properties during the first quarter despite the fact that the winter months are typically a very slow season for Michigan real estate. In closing, we experienced further increases in nonperforming loans and heightened net losses. Yet we remain optimistic given that our front end loss mitigation efforts are positively impacting our portfolio results as seen by a reduction in early-term delinquencies.

In addition, on the back end, our ORE function has been effective in managing and disposing of properties in an orderly fashion. Now I would like to turn it back to Mike Magee.

Thank you, Rob, Stef, and Brad. IBC has a rich history spanning more than 140 years during which our nation has experienced wars, downturns, as well as unparalleled growth and prosperity.

Moving forward, we are likely to face more tough conditions. But I am confident that we will continue to develop creative and prudent solutions to these challenging times. Despite today's persistent headwinds, IBC remains well capitalized and our entire team is focused on strengthening our position for the eventual economic recovery.

That concludes our prepared comments. At this time, we will open the line for questions from investors and analysts.

Thank you. (Operator Instructions). We will pause to allow parties to enter the queue. (Operator Instructions). Our first question will come from Stephen Geyen from Stifel Nicolaus. Please go ahead.

Yes, good morning. Just wondering, hi, there. With the weak economy and I guess you're considering losses, I guess, I am looking at page 18 of the handout, allowance for loan losses and you're considering historic losses and other subjective factors. Just wondering how you go about driving the reserves for a one to four family with the historic high NPLs?

Well, a couple of things. First, and I think we covered this in the 10-Q and 10-K, but we have used a net charge-off method that looks at the past five years with the most recent years weighted the heaviest. Granted, that takes into account a longer period of time, but we also adjust that for current delinquencies and defaults and are writing down assets that are delinquent on a current basis.

So one of the things you don't necessarily see reflected here is the write-downs that have been taken. Page 19, may be, Stephen, a better representation, because there what we do is take and allocate the allowance between the various segments and if you look, the allocation. And I will preface this by saying, the allowance is available for any losses within the portfolio.

But in the mortgage category, you have an allocated allowance of about $15.2 million. One year's historical charge-offs are about $14 million. So we have got roughly a little bit more than currently one year's worth of coverage on charge-offs, and similarly on consumer installment loans, $6.8 million allocated allowance, $4.5 million of one year's charge-offs.

And again, that doesn't take into account the fact that we are writing down assets that -- and going through and looking at valuations on loans that are delinquent. So that sort of, I think, doesn't reflect itself in the allowance.

Okay. That's all the questions I got today. But nice job on the presentation and providing information to us on the street.

Thanks, Stephen.

Thank you.

The next question will come from Brad Milsaps from Sandler O'Neill. Please go ahead.

Good morning.

Good morning, Brad.

Good morning.

Hey, Rob, can you talk a little bit about the growth in the premium, excuse me, not the premium, but just the finance receivables? If I recall, you typically, you are purchasing or financing automobile warranties. With what all is going on in that sector, can you talk a little bit about what is going on with your portfolio?

Well, we have seen fairly good growth there. As you are aware, what we do is we provide and administer a payment plan which allows a consumer to purchase a vehicle service contract and make payments over time. That payment plan could be canceled at any time by the consumer.

Upon cancellation, we go back to our counterparties which includes both the agent that sold the vehicle service contract as well as the administrator or insurance company that backs the vehicle service contract and get a return of the unearned premium on the vehicle service contract. We have seen growth in volume there for a couple of reasons.

One, I think that the stability of our funding source has proven to give us a competitive advantage within that arena. And, two, I think people are keeping cars longer and so that's led to, at least the feedback I get, to more sales activity of vehicle service contracts. So I think the combination of those two things has led to some growth there. I think we do expect that growth to level off here.

And for a number of reasons. We, a portion of which is, we are looking at that as a percentage of our overall loan portfolio and while it produces a reasonably good returns, we would prefer that to not represent certainly a dominant part of our overall loan portfolio.

So, again, we are looking for that to level off here as we move forward. Was that responsive to your question?

Yes, in your mind are there any increased risks in terms of if some of the automakers do in fact file for bankruptcy and the government has said, they will step up and back warranties and that is probably not an apples-to-apples comparison to what you guys are actually doing. But just curious if there is any increased risk resulting from the -- go ahead.

I don't think -- the increased risk, I don't think, is with the automakers because what the government is talking about backing is the original manufacturer's warranty. If anything, if there were concerns about the strength of those original manufacturer warranties, that would probably help the after market warranty business.

The key for us, which is no different than it has always been, is the concentration risks within the portfolio. We're dependent if there are cancellations on getting returned premium back from our counterparties which includes insurance companies, administrators structures, and agents or direct marketers and so that continues in, I think, the same fashion that it has been.

But I actually think any pressure on the original manufacturer warranties would serve to help, not hurt. So I don't think that's where our concern about additional exposure rises. I think it is more in the ongoing counterparty risk that we always have had and that we point out in our 10-K and 10-Q.

And final question, what is the average yield on that portfolio?

The average yield runs about 12%, 13%. Somewhere in that range. So it, obviously, produces relatively high returns.

One item you have to take into account in looking at those returns, and this is in our 8-K that we filed yesterday, is there is a supplemental page on some of the details on noninterest expense and if you look, there is a line item called credit card and bank service fees which runs now about $1.5 million a quarter. And that is largely our credit card processing fees related to the administration of those payment plans.

So you have to take that yield and adjust it a bit for what I would consider a direct related cost. But again, that portfolio, short duration probably a duration in the eight or nine-month range produces relatively high yields with historically at least, and low levels of loss.

And there is a fair amount of processing costs involved because the average payment plan balance on the books at any one time is about $1,300. So you have lots of very small payment plans. So you have to be quite efficient in terms of trying to administer that type of business.

Okay. Great. Thank you.

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

Good morning.

Good morning, Dan.

Good morning.

A couple small questions. On your OREO liquidation history, you showed a pretty dramatic linked quarter improvement. Can you comment on trends? What you are seeing so far in the month of April and is what we saw in the first quarter sustainable coming into the second quarter?

I will let Brad and Stef give some more details. But the one comment I'd make, Dan, and I think it has been evidenced in kind of the last couple of quarters' provisioning levels, and, hopefully, there is some ray of light in this.

But I do think compared to maybe some other banks, we are further along in the process. And I think what you will eventually find, and certainly this market exacerbates it, is finding price points at which you can liquidate collateral is a key process. And that is where we are at right now.

And we are, I think, getting better and better all the time at finding where those price points are and we're now, I think, at the cusp of being able to liquidate a lot of nonperforming assets. Of course, the key for future trends in terms of overall provisioning levels and NPA levels is what is the new inflow going to be given the backdrop of a difficult economic environment and that is going to be, I think, more the driver.

I think what we have seen in the last couple of quarters is more of a discovery price point related to these just amazing declines in value that Stefanie touched on. But I think we are now at the point where we are at liquidation valuations. So, we are hopeful that we see less of that write-down of existing NPAs and, again, if the inflow of new abates or moderates that would, hopefully, be a positive influence as we move forward.

Dan, this is Brad Kessel. I would just make a couple of comments regarding the ORE liquidation from the retail side. First of all, we have put in place a 1-3-2 program, meaning the first month that we have title to the collateral, we try to market it internally and with our customer base strategic partners who have an interest in buying some of our ORE and that is probably providing the best realization rate.

And then after about a month, we run it through a three-month listing agreement with our local realtors that have performed well for us. And then that is probably netting our second best realization rate. And then, probably months five and six we will take it to an auction and move it from there. And using that process, we have gotten better. This past quarter, I think, we were in the 90% range, realization rate of our net book value.

But no doubt there is real pressure there. I think the key, and we are getting better at this, is bringing the collateral back into possession in better shape. And we are able to do that sometimes through actually working with our borrower and saying turn it over to us, turn it over earlier and in better shape and that is helping. Prospectively, there is no doubt I am concerned about the Michigan real estate market.

I think here we have seen a little bit of a slowdown in terms of through the foreclosure moratoriums things have sort of stopped, if you will, a little bit. Freddie, Fannie and the larger banks and even Independent Bank had a brief moratorium.

And my understanding is we are probably going to see some more properties, another wave coming through and that probably could hurt, no doubt hurt values. That is what we are seeing on the retail side.

Dan, this is Stefanie Kimball, I will just add a few comments on the commercial side about the liquidation of ORE. On the commercial side, we have a variety of types of properties and so you have to break it down as to what type of underlying asset it really is.

And we also reserve rather aggressively as we work our way through the nonaccrual status into ORE to ensure that we have reasonable prices by the time any asset ends up in ORE. We look to sell both our notes.

As you are going through the foreclosure process or working even with a customer on a facilitated sale as well as the property, the values that we have seen in the external debt markets that buy the notes have been very depressed and almost nonexistent for certain categories. Values for land, raw land in developed lots are down to the worst we have seen in the market.

It is about $0.05 of your original note balance. The best is around $0.20 with really the big caveat is there is just little activity. And so that, we have found working with our customers and facilitated sales of projects to be a much better avenue than the external debt market.

All right. Thank you.

We show no further questions at this time. I would like to turn the conference back over to Mr. Michael Magee for any closing remarks.

Thank you. This concludes our conference call today. We thank all of you for your interest in Independent Bank Corporation and we look forward to speaking with you again next quarter.

For an archived webcast of today's call, please go to the Investor section of our website at www.IBCP.com. The webcast will be archived on our website for approximately 90 days from today's date. If you have any questions in the interim, though, please don't hesitate to call Rob, Stefanie, Brad, or myself.

We will be happy to give additional information. We hope all of you have a great day and, again, thank you for your participation.

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