Independent Bank Corp (Michigan) (IBCP) 2009 Q2 法說會逐字稿

Good day and welcome to the Independent Bank Corporation second quarter 2009 earnings conference call and Webcast. All participants will be in 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'd like to turn the conference over to Michael Magee. Mr. Magee, the floor is yours, sir.

Thank you. Good afternoon, everyone and welcome to our second quarter 2009 earnings conference call. I am Mike Magee, President and CEO of Independent Bank. Joining me on the call today are Rob Shuster, our Chief Financial Officer, Stefanie Kimball, our Chief Lending Officer, and Brad Kessel, our Chief Operations Officer, who is also responsible for retail loan collections. Following my introductory comments, Rob will provide a detailed review of our financial performance during the second quarter. Following Rob's comments, Stefanie will provide a progress report on credit quality for commercial loans, and Brad will provide an update on our retail lending. We will conclude the call with a brief question-and-answer session.

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.independentbank.com.

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 brief review of our second quarter financial results. Please go to Slide four of the accompanying presentation. For the second quarter ended June 30th, 2009, we reported a net loss applicable to common stock of $6.2 million or $0.26 per share, compared to net income of $3.3 million or $0.14 per diluted share in the second quarter of 2008. The decline in profitability is largely attributed to a $15.5 million increase in provision for loan losses to $27.8 million combined with non-interest expenses that rose by $3.7 million to $34.8 million. Non-interest expenses in the quarter included $3.2 million in loan and collection cost and $1.9 million in losses on real estate and other repossessed assets. In addition to the non-interest expense just mentioned, Independent Bank had a $2.3 million year-over-year increase in FDIC Insurance premiums to $2.8 million, which includes a $1.4 million related to an industry-wide special assessment.

The current economic environment has created many challenges within our lending portfolio as we continue to experience increased levels of non-performing loans and the credit costs associated with managing them. 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.

While we are disappointed in the reported quarterly loss, we continue to make progress on a number of fronts and I'd like to share with you some key positive take-aways from this quarter. First, despite the continued acute challenges the Michigan economy, having the nation's highest unemployment rate of over 15% and concentrated dependence on an uncertain manufacturing industry, our proactive efforts to manage our credits has resulted in a decrease in non-performing loans from first quarter levels to their 2008 year end levels. In addition, delinquencies in our 30 to 89 day consumer and mortgage portfolios decreased. And we continue to experience low delinquency rates in our commercial loan portfolio.

That said, we are clearly not out of the woods yet in terms of regional economic challenges we face as evidenced by our continuing recognition of non-performing loans. We will continue to actively monitor and manage our watch list credits and maintain strong reserves to assure the strength of our balance sheet and continue to support our well-capitalized position. In just a moment, Stefanie and Brad will speak to these efforts in greater detail.

Second, our pretax, preloan loss provision core earnings showed solid growth once again, rising more than 10% on a year-over-year and 3% from the prior quarter, reaching $18.4 million. This growth increases our optimism in IBC's ability to generate profit growth when more normal economic conditions return. Additionally, our net interest margin continued to expand to 5.25% from 4.68% one year ago and up from 5.13% in the first quarter. Our current margin continues to be among the best in the banking industry and our regulatory ratios remain above the minimum required to be considered well capitalized.

Adding to the strength of our balance sheet is the increase in deposit growth. Independent Bank Corporation deposits totaled $2.37 billion at June 30th, 2009, representing an increase of $302.4 million since year end, primarily an increased savings and interest bearing checking accounts and brokers certificates of deposit. The core deposit growth is a testament to the entire Independent Bank Corporation team and their hard work on remaining focused on our community banking routes and bank wide directive to grow deposits and enhance asset quality.

During the fourth quarter of 2008, the Company announced its participation in the capital purchase program better known as CPP and the receipt of a $72 million investment from the US Treasury. We are pleased that the Treasury considered the strength of our business and was motivated to make an investment in Independent Bank Corporation's future. The investment has enhanced Independent Bank Corporation's ability to extend lending in line with borrowing demand and provide increased flexibility to work with our existing borrowers, even as we continue to ensure we do not compromise our strict lending standards. In the approximately 200 day period ending June 30th, 2009, we made $629 million in loans of which half was either renewing or refinancing existing commercial mortgage or consumer loans. While it is our goal to work to repay the Treasury funds as quickly as possible, we feel it would not be prudent to do so at this time. We need more evidence of improvement in the Michigan economy before making such a decision.

The challenges we have faced thus far in 2009 and will likely continue to face throughout the remainder of the year are not unexpected. Our entire team is fully engaged in continuing to manage through this difficult cycle. While we remain cautious in the near term, we are optimistic for the long-term future of Independent Bank Corporation and remain focused on building and maintaining a strong foundation for improved performance once the 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 quarter.

Thank you, Mike. Good afternoon, everyone. I am starting at Page six of our presentation, which summarizes the various items impacting second quarter 2009 results. As Mike mentioned, our loss was pretty much entirely driven by elevated credit costs. The elevated credit costs were partially offset by securities gains and a recovery on previously recorded impairment charges on capitalized mortgage loan servicing rights. As outlined on Page seven, and as Mike mentioned, there were several positive factors evident in our second quarter 2009 results. Most notable was the continued strength of our net interest margin, growth in non-interest income, and well-controlled non-interest expenses when factoring out loan and collection expenses, losses on other real estate and FDIC Insurance. In addition, both non-performing loans and non-performing assets declined on a sequential quarterly basis for the first time in about three years. Stefanie and Brad will discuss asset quality and I will discuss capital at the end of my presentation.

Page eight provides an update on the valuation allowance on our deferred tax asset. The income tax benefit recognized during the three and six month periods in 2009 were the result of current period adjustments to other comprehensive income. Generally, the calculation for the income tax provision or benefit does not consider the tax effects of changes in other comprehensive income, which is a component of shareholders' equity on the balance sheet. However, an exception is provided in certain circumstances, such as when there is a pretax loss from continuing operations. In such a case, pretax income from other categories, such as changes in other comprehensive income, is included in the calculation of the tax provision for the current year. For the second quarter of 2009, this resulted in an income tax benefit of approximately $1.6 million. This benefit was partially offset by some state income taxes at the stand-alone subsidiary level and some Federal alternative minimum tax on certain preference items.

The total valuation allowance on deferred tax assets of $43.7 million at the end of the second 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 pretax, pre-provision core operating earnings. The table on Page nine provides details on this nonGAAP measurement, which we believe demonstrates our ability to navigate through this difficult credit cycle and 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 discipline in pricing both loans, which includes the use of interest rate floors on commercial loans and certain retail installment loans and 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 irrational pricing on CDs by some competitors in many of our markets. We generated growth in true core deposits, checking and savings accounts. However, we did experience a $66.3 million decline in non-brokered CDs in the second quarter, which we attribute to the aforementioned pricing conditions.

Page 13 provides information on our tax equivalent net interest income and margin sensitivity, based on our June 30, 2009 balance sheet. As you can see in the base case, tax equivalent net interest income is $151 million compared to an actual annualized level of about $145 million in our second quarter, and the tax equivalent net interest margin in the base case is now 5.66%.

Moving on to some of the more significant categories of non-interest income on Page 14 of our presentation, service charges on deposit accounts increased this quarter. The linked quarter increase is primarily due to seasonal factors. Mortgage loan servicing produced $2.3 million in revenue. As you are probably aware, mortgage loan interest rates moved up during the second quarter. This led to an increase in the fair value of our capitalized mortgage loan servicing rights at quarter end and a $3 million recovery of previously recorded impairment charges. This was partially offset by a $1.1 million increase in the amortization of this asset as actual prepayments in the second quarter increased. Absent impairment charges or recoveries of such charges, and assuming a more normalized level of amortization, we'd expect this line item to run in about the positive $600,000 to $700,000 per quarter.

Because of the relatively low mortgage loan interest rates, we have been experiencing a big surge in refinancing volume. Gains on mortgage loan sales totaled $3.3 million in the second quarter, and mortgage loan origination volume and loan sales volume increased by 77% and by 97% respectively over the second quarter of 2008. Given current mortgage loan interest rates, we do expect to see some moderation in gains on mortgage loan sales in the third quarter. The increase in mortgage loan origination volume also favorably impacted title insurance fees.

Moving on to Page 15 of our presentation, pretty much all of the increase in total non-interest 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, or due to higher FDIC Insurance costs. Compensation and employee benefit costs declined by $500,000 or 3.5% compared to the year ago quarter, due to a decline in performance-based compensation. The linked quarter increase in compensation and benefits is primarily due to an increase in performance-based compensation resulting principally from increased mortgage lending volumes, as well as an increase in other benefit -- other benefits due to higher costs for medical insurance and unemployment insurance.

Pages 16 through 20 of our presentation provide information on the provision and allowance for loan losses as well as net loan charge-offs. As you can see, we built the allowance as a percentage of portfolio loans to 2.67%, and as a percentage of non-performing loans to 52%. Further, as I mentioned earlier, both non-performing loans and non-performing assets declined on a sequential quarterly basis. Stefanie and Brad are going to cover credit quality in detail, so I will now move forward to Page 21.

Page 21 has details on our securities available for sale at quarter end and provides both the cost basis and current market values. As you are aware, in April 2009 the FASB issued updated guidance on fair value and other than temporary impairment. We adopted this new guidance in the second quarter and did not have any other than temporary impairment charges on investment securities during this quarter. Also as I mentioned earlier, we sold all of our Banc of America preferred stock in June, which is the primary reason for the $4.2 million of securities gains.

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 loss for the first six months. 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 $430 million, or 12.6% while still increasing our net interest income.

Page 23 provides some observations on liquidity and capital. At June 30, 2009 our parent Company had approximately $25 million of cash on hand, which provides slightly 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 which totaled nearly $800 million at the end of June.

During the second quarter, we substantially completed a strategy to replace the majority of our short-term borrowings at the Federal Reserve bank or Federal Home Loan Bank with intermediate term, two to five years, callable brokered CDs to further improve our liquidity profile. Although this strategy increased our cost of funds compared to the interest rates on the short-term borrowings that were paid off, we believe the liquidity benefits outweigh the impact on funding costs.

In the first quarter, the Federal Reserve bank issued SR09-4. This document discusses capital and the payment of dividends. Historically, tangible common equity represented 70% or more of our Tier 1 capital. At June 30, 2009, our ratio of tangible common equity to Tier 1 capital was approximately 42%. For purposes of Tier 1 capital, tangible common equity includes an add back of approximately $18 million related to the accumulated other comprehensive loss on available for sale debt securities and on cash flow hedges. We continue to explore a variety of strategies to increase the tangible common equity component of our Tier 1 capital. As I mentioned previously, the retention of future earnings would be the most cost effective method to achieve this objective. That concludes my remarks and I'd now like to turn the call over to Stefanie Kimball.

Thanks, Rob. Good afternoon, everyone. My remarks will follow the slides Pages 24 to 34. I will be discussing our commercial lending credit quality results and ongoing initiatives intended to enable us to continue to weather this challenging credit and economic cycle. As a community bank, our results reflect the stories of individuals and companies in the communities we serve and as I review the various credit metrics, I will share a few of these stories to help illustrate the trends that we saw this past quarter. Starting on Page 25, we have some highlights and there are a number of positive trends that I will go over as we -- that we have seen as we continue to weather this intense Michigan credit environment. Overall, we have seen what I would characterize as a series of credit storms, some of which are winding down and others that are still brewing. I will comment more on that as we look at the detailed segments in the portfolio.

First I will highlight the positive trends. Charge-offs for the commercial loan business declined by 55% in the second quarter as compared to the first quarter. This is due to two factors. First, we saw a slowing of the default rate in the second quarter. And then secondly, we saw a write-down in the first quarter of a number of assets that we positioned for sale or resolution later in the year, which increased our charge-off levels last quarter. Another positive trend is non-accruals. Non-accruals are down 12% or $8 million since the last quarter, and they're down 23% or 17% since the end of the year. This decrease is due to a number of things, but the transactions that we mentioned last quarter of approximately $10 million were executed which has moved out a number of our non-performing loans. Overall, we have found that we are able to sell non-performing loans or assets at about a rate of 2 to 2 1/2 times what we saw in the market with investors. Last, the commercial loan delinquencies remain well managed at 1.8% or $16 million.

The challenges continue as outlined. We have significant economic stress in the Michigan economy. We have been in a recession or downturn now for several years which has taken quite a toll on our commercial clients. Our watch credits increased this quarter, $17 million to $205 million, but they're flat as compared to the year end. The increase in the second quarter is primarily attributable to the uncertainty and additional stress that many of our clients saw with the bankruptcies of General Motors and Chrysler and the significant aftermath that impacted many of our markets. Further, there is some seasonality with the renewal cycle for commercial loans which is tied into their year end reporting. And then lastly, properties and other real estate owned continue to increase as loans move through their workout cycle. This was offset somewhat by the sale of 13 ORE properties during the quarter. The challenge of disposing of property in this thinly traded and depressed market has driven prices to new lows.

Now, turning to Page 26, we'll highlight the trends and outstanding. Outstandings continue to decline but at a slightly slower pace than last quarter, decreasing by $23 million. Overall, new 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 become available. The lead time for these requests is significant and as a result, has not impacted loan volume as of yet. We are currently expanding the SBA products that we offer and implementing the administrative processes that are required to effectively support these products.

Turning to Page 27, we continue to make good progress in the strategic reshaping of our portfolio. As planned over two years ago, we have seen a significant decline in the high-risk categories of commercial real estate in land, land development and construction and we've had some nominal runoff in our C&I and owner occupied portfolios. This helps reshape our portfolio to reduce our reliance on real estate-related loans. Our remaining exposure in the high risk areas of land and land development is now $66 million, and these two segments together have generated most of our losses over the last past two years. Adding in the construction portfolio, the three segments now total $108 million and have reduced over 50% in the last two years.

Turning to Page 28, as previously highlighted, the watch credits increased $17 million during the second quarter and were flat as compared to year end. A decrease can be seen in the non-accrual segment while the internal monitored and substandard loans shown in the yellow and orange bars of our chart increased. The inflow of credits into these categories was primarily driven by this increased uncertainty surrounding the impact of the GM and Chrysler bankruptcies on automotive suppliers and the overall economy. Further, as I will discuss shortly, this past quarter we had a few large clients refuse to make loan payments while they were in negotiations, which moved some of the loans into the watch category or in some cases all the way to non-accrual.

An example of a new client that moved into the watch category this past quarter is a media company that relies on advertising revenue from auto dealers. Another example is a client that owns several income producing properties where the tenants were auto dependent. Overall, the increase in our watched credits reflects the economic environment and the proactive approach that we use in identifying risk by our credit team.

Turning to Page 29, our commercial loan delinquencies are highlighted. We continue to exert strong early collection efforts and administrative discipline that have resulted in relatively good levels of delinquency. We did see during the quarter three large loans totaling $13 million that went past due as they were unwilling, not unable, to pay. Two of these loans moved into non-accrual while one of them remains in the 90 plus delinquency category. Increasingly borrowers are receiving advice from their financial or legal professionals that they should not pay the bank while they negotiated concessions. This has become a more challenging situation with the length and the depth of the recession and the well publicized relief for borrowers. Having in-house legal counsel now to assist with these early discussions has proven to be helpful and cost effective.

A recent example is an investment group client agreed to a renewal and then at the last minute refused to close as their financial advisor had seen another bank not honor some representations and advised their clients to hold the loans past due until all matters related to the project could be resolved. This loan is still under negotiation and was in the 90 day category at quarter end. These are examples of what I would call yet another storm brewing, one that is of fatigue, not ability to pay. In general times of stress, some individuals behave poorly and add to the overall challenge of reaching solutions. While we have trained our lending team to handle these situations, each one is unique and it takes time to work through all of the issues.

Turning to Page 30, the commercial non-accruals are highlighted. We continue to make good progress in working through our non-accruals. During the second quarter, non-accruals decreased by $7 million and are down $17 million from year end. As we enter the second quarter, plans were in place to dispose of approximately $10 million in loans or the underlying collateral. We were able to close most of these transactions. These efforts will be discussed further as we turn the next slide.

Approximately $2 million in loans moved into ORE during the quarter. New non-accruals during the quarter are down $4 million to $18 million, while the number of loans defaulting is relatively consistent with the first quarter. One of the defaults this past quarter is the example that I gave earlier of a client that was able but unwilling to pay. More specifically, a real estate project with a guarantor who earns over $1 million per year requested relief this past quarter and refused to pay interest until an agreement could be reached. Another example is a fairly well off family who has requested relief as their other banks have pressured them for payments and they can't support our loan and make the concessions with the other bank. These two relationships moved into non-accrual as the concessions they were seeking were unreasonable and we could not come to terms.

Now turning to Page 31. The non-accruals totaled $59 million at the end of the second quarter. Charge-offs or reserves are in place for 51% of the loan amount, reflecting the continued collateral value declines experienced in our markets and our conservative reserve methodology. Last quarter we reported the reserve of 50% while at year end it was 42% and in the third quarter 38%. And so each quarter, as Rob outlined, we've been building our reserves.

Land, land development accounts for 37% of the non-accruals as of the end of the second quarter. And adding in the construction portfolio was 59%. As we discussed last quarter, these large reserves or write-downs are the results of significant declines in value as indicated by appraisals that we have received in 2009 that reflect the thinly traded and distressed market.

As referenced earlier, approximately $10 million in non-accruals had plans in place to be disposed of either through loan or property sales as we entered the quarter. We were able to close all but one of the transactions identified, that last transaction was delayed and another one was closed ahead of schedule. All transactions were closed at the reserve price set in the first quarter 2009. Given the rapidly declining real estate market, we strategically decided to price a number of the loans for sale basically as a hedge. These transactions have been a result of the special assets teams negotiations while we continue to explore the sale of non-performing loans with the assistance of investment bankers. The market is very weak and we have found that our own efforts produce more favorable results with prices at least double what we could get from private investors. Accordingly we have focused the efforts of two seasoned commercial lenders exclusively to facilitate these transactions that we remain interested in the investment banking market as well.

Now turning to Page 32. Effective management of our troubled assets continues to be a challenge for our industry and bank. The commercial non-performing assets did decline by 5% in the second quarter. There are three components to this number, the 90 plus delinquency, the non-accrual and the ORE. The decline in total of these three categories is a result of the $7 million decrease in the non-accruals, which offset somewhat the increase in the other components. Again, this decline was a result of the transactions I mentioned earlier. Plans are in place to dispose of approximately another $5 million during the balance of the year. As we discussed, our own efforts to sell these loans and properties are more effective than the loan sale market, and we have had a very attractive payback in working through these matters ourselves.

Regarding the ORE component, we started last year with about $2.5 million of ORE and we now have $18.2 million. ORE currently comprises 23% of our non-performing asset category.

Turning to Page 33, charge-offs for the commercial loan area totaled $10.7 million during the second quarter, a significant improvement over the $23.8 million reported in the first quarter. A significant portion of this charge in both the past two quarters is the result of our continued write-down as appraisals fall in these difficult markets. Uncertainty as to when the real estate market will hit bottom and when the demand for real estate will start to increase has significantly impacted values. Absorption rates for residential projects in particularly have been forecasted to be very slow and far out into the future.

Turning to Page 34, over the past two years we have put in place credit quality best practices and we are confident that these provide a good foundation for managing through this very difficult cycle. Although managing credit in today's economic environment is very challenging, the fundamental principles of credit have not changed. While our foundation is comprehensive, the new realities of today's market require more flexibility and a continuous improvement focus for the management of our portfolio and our team. With several recent additions to the team, including a very seasoned Senior Credit Officer, we believe we are well positioned to face the series of challenges impacting our markets.

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 through the credit storms and to our expected brighter days ahead. Our focus on the fundamentals of community banking and our relationship approach position us to serve our communities well. Today that means working with our clients while they are working with us. At an increasing rate, clients have turned to us as larger lenders look to reduce their Michigan exposure, we remain ready and committed to lend to businesses in our communities at reasonable credit terms. We believe that the value proposition for community banking is strong over the longer term and perhaps even greater than before the downturn as clients want to know their banker and will favor a bank with a dedicated professional staff that's located in their 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.

Thanks, Stefanie. Good afternoon. Transitioning now to the retail credit side of the bank, our next few slides will cover a brief view of the economic forces impacting Independent Bank's retail credit metrics, Independent Bank's portfolio of performance and Management's initiatives to counter the challenges of the current environment. IBC's internal tracking indicates the most cited reason for loan delinquency is loss of income. Slide 36 illustrates the most recent unemployment statistics for the state of Michigan. As of June, the jobless number reached 740,000 and the unemployment rate continued its rise, hitting 15.2%, the highest in the nation.

Moving now to 30-- Slide 37, we have the Michigan Association of Realtors. June 2009 residential sales statistics comparing year-over-year data through June, the number of reported sales has shown an 8% increase. However, the average sales price has declined by almost 25%. To further illustrate declining market values of residential housing in Michigan, Slide 38 shows data from the Michigan Association of Realtors highlighting percentage change in average sales price for the current year as well as each year since 2003. It is interesting to note that they report a decline in year-over-year sales prices beginning back in 2006. These two factors, continued net job losses and declining real estate values continue to take their toll on Independent Bank's customer base.

Turning now to Slide 39 of the presentation. You can see that our retail portfolio continued to shrink in mortgage outstandings, from $816 million at the end of Q1, to $790 million at the end of Q2. The consumer portfolio also declined in balances from $335 million at the end of Q1, to $327 million at the end of Q2. This decline in portfolio balances can be directly attributed to soft demand for new money, as households retrench.

While loan balances have declined, loan originations have increased for the past two quarters. In fact, on Slide 40, you can see that Independent Bank continues to service the lending needs of its communities with more than $164 million in originations in Q1 and over $213 million in retail loans this past quarter. The vast majority of this lending is salable refinanced production, being delivered to the secondary market as our customers take advantage of the low rate environment. The increased production during the second quarter includes a large number of customers who are able to take advantage of the Treasury's homeowners affordability refinance program with a loan to value limit of 105%.

Slide 41 highlights Independent Bank's workout efforts. Through the first six months of 2009, our team has completed 231 home retention actions aggregating to $40.4 million in loans, that otherwise would have gone to foreclosure. Utilizing a modification program targeted towards achieving a 31% housing to income ratio and/or 10% payment relief, we believe our workout success rates will meet or exceed some of the nationally reported results. Additionally, we have completed 44 home forfeiture actions, bypassing the lengthy and costly legal process associated with foreclosures.

Slide 42 reflects retail past dues as a percent of outstandings. Consumer mortgage 30 to 89 day past dues stayed relatively flat for the quarter. Consumer non-performing loans rose from 2.04% to 2.38% and the mortgage non-performing loan ratio increased from 6.21% to 6.51%, both increases principally as a result of lower outstandings. This can be seen when moving to Slide 43. For two quarters in a row now the [dollars] in the 30 to 89 day category have been stable and below their peak of Q4 2008. We see this as an encouraging sign and a direct result of our team's workout efforts.

Turning to Slide 44, non-performing mortgage loans and consumer loans were up slightly quarter-over-quarter. Of the $59 million in non-performing retail loans, almost $13 million had made payments during the month of June and $32 million were in foreclosure. In regards to write-downs of the non-performing loan portfolio, of the $59 million at the end of the second quarter, these loans have been written down to an average of $0.83 of the contractual book value and another $0.13 in specific reserves for those loans exhibiting some stress but still too early to write down.

Slide 45 expands upon the information on Slide 44 with the addition of $11 million in ORE balances and $0.5 million in ORE balances. Of the $11 million in retail ORE at quarter end, almost $3 million worth have signed purchase agreements and are expected to close early in Q3. Again, overall non-performing retail assets exhibited only modest increase during the second quarter.

On Slide 46 you can see that we were able to liquidate 44 properties during Q2 2009 and 96 properties year-to-date. We anticipate closing $3.5 million to $4.5 million during third quarter utilizing our direct method, realtor network and auction channel. A large anticipated volume is a function of the large number of existing purchase agreements in place.

As you can see on Slide 47, we were able to liquidate our ORE at almost 87% of the adjusted net book value during the last two quarters. While we would prefer power better, we believe this does provide additional support for the carrying values of our ORE portfolio.

Moving to Slide 48, during the second quarter we had net charge-offs of almost $8 million on 170 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. The larger levels can be directly related to lower values coming back on broker price opinions and/or appraisals.

Turning to Slide 49 you can see a summary of Management initiatives implemented over the past 12 to 18 months to counter these credit challenges. In the past quarter alone there were several Government-related initiatives rolled out that we believe will assist in combating the Michigan real estate declining values. These initiatives include the passage of the Michigan foreclosure legislation, extending foreclosure process by some 90 to 120 days in an effort to bring the borrower, lender and housing counselor to the workout table and avoid foreclosures where possible. Additionally, the Treasury's home affordability modification program, when fully rolled out is believed to reduce the number of foreclosures. Also this past quarter Independent Bank representatives participated in three Michigan attorney general forums aimed at counseling borrowers experiencing financial hardship.

In conclusion, despite continued increases in unemployment and declines in real estate value, our 30 to 89 day past dues have stabilized in our non-performing loans while still rising-- are rising at a much reduced rate. We remain optimistic that we are nearing the trough of this economic cycle and our loss mitigation efforts will result in lower non-performers in the next quarter or two. Now I would like to turn the call back to Mike Magee.

Thank you, Brad. IBC is not immune to the challenges that have adversely impacted the financial results across the banking sector. Despite today's persistent headwinds, IBC remains well capitalized with a strong foundation and an entire team focused on continuing to strengthen our foundation further. Our trusted relationships, reputation for excellence and local knowledge and expertise have enabled us to optimize and weather a variety of market cycles and business trends for more than a century. We are confident that our long proven experience in community banking and focus on efficient profitable growth will continue to position Independent Bank Corporation for improved performance in the future. That concludes our prepared comments. At this time, we will open the line for questions from investors and analysts.

(Operator Instructions). We're showing -- (Operator Instructions). And we do have a question from Brad Milsaps of Sandler O'Neill.

Hey, good afternoon.

Hi, Brad.

Rob, I was going to see if you could maybe add a little more color on what you guys might be considering on the capital front? You said that you're sort of exploring different alternatives. Just kind of curious if you could delve into that a little bit more?

Well we did put out an outline in our last 10-Q and I would say basically that there's no stone will be left unturned in looking at it. Obviously, if there was greater clarity on the credit front and some certainty of when this credit cycle was going to turn, our -- I guess our favorite approach would be to not do any type of thing that would be dilutive, but I think that that clarity is not yet here. So we went through a variety of items. One is obviously continuing to see assets decline a bit. We've been able to do that while still increasing net interest income and that is the least painful because it preserves our capital ratios without having to do a dilutive capital raise.

But certainly the other alternatives would be looking at some type of equity raise. That could include everything from converting some of our existing, what we would call mezzanine capital, whether it's some of the trust preferred securities or some of our preferred stock, potentially into common equity. Our regulatory capital ratios are still fine, so it's more just the tangible common equity component that -- where there's at least arguably the most pressure. So that might be an alternative. Obviously, a capital raise would be an alternative too.

So we're looking at a variety of these items. I think it would be fair to say, we're just trying to get ourselves in position to make some determinations on that front and hopefully we'll get more clarity on the credit front as we move into the third quarter and we're just trying to make the best possible decision regarding, regarding that. I don't know if that was responsive to your question or not.

No, that was helpful. And just kind of as a follow-up, I mean, it seems you've got some positives going on with the credit in the corner but the watch list continues to move higher.

Well we're still at year end levels, though, on the watched credits.

Right.

So I mean the level we're at was at year end, and I think as Stefanie indicated in her remarks, some of them were related to what I would call technical matters. But you're right, I mean, there's obviously more stress in the economy so that would argue that clarity on credit is still a bit in the distance.

Right. And I guess my -- looking at the commercial MPAs they're still by and large mostly land, land development, construction, which is understandable. The buzz word out there is commercial real estate. You're C&I non-performers are I think, if I'm looking correctly, about $2 million. Can you talk about maybe those two segments? It seemed to me with-- as you talk about unemployment that that's -- the improvement you've seen maybe in the land, land development side, if that's stabilizing, it would seem that that's potentially the other shoe out there that's potentially dangling to drop.

Sure, I'll be happy to make some comments, Brad. On the land, land development side, we have been able to put together some transactions to move properties either working through the ORE process or better yet, working with our borrowers on some short sales and other transactions. And the good news is that we have been able to put together some transactions. I would say six to 12 months ago, there was little interest by investors at all with everybody sitting on the sidelines, being afraid to invest. What we are seeing now in the market, which is much more promising is some investors willing to partner up and take some of these developments and try to reposition them. So that I see as a good sign. And in terms of the other parts of the ORE, I'm sorry, of the non-performing assets, we are watching the income producing and the C&I categories very carefully as they have become under stress more recently and are working with our clients to get through this difficult part of the credit cycle.

But the one thing I'd also say, Brad, is we are seeing at least anecdotal evidence, and this is where it's very difficult to make any type of prediction, but we're at least seeing some anecdotal evidence that companies that have been struggling with sales down as much as 50% or more, are starting to see some increase in orders that as they're looking out into the second half of this year. So I don't think it's all doom and gloom. I think there's certainly some highlights and it's not yet translated into our 30 to 89 day delinquents in the commercial portfolio. Those still are reasonably well behaved. So I think the whole question is going to be can we get through this without a lot of pain in that income producing, the C&I and the owner occupied portfolios and that's the big question and at least there's a little bit of reason to have some optimism there, although it's got to be cautioned with a lot of it's going to depend on where we go with this economy and is it going to get worse or not.

The one bright spot with income producing property and certainly C&I customers is that generally there is some income coming from the business and that's a lot easier to find investments or investors that are interested in those types of properties or companies, whereas the land, land development, there's -- it's just an investment that has to be held for many years before it's developed.

Okay. Great. Thank you very much.

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

Thank you. This concludes our conference call today. Thank 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 Web site at www.ibcp.com. The Webcast will be archived on our Web site for approximately 90 days from today's date. If you have any questions in the interim, though, don't hesitate to give Rob, Stefanie, Brad or myself a call. With that, thank you and have a great afternoon.

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