Old National Bancorp (ONB) 2007 Q4 法說會逐字稿

Welcome to the Old National Bancorp fourth-quarter 2007 earnings conference call. This call is being recorded and has been made accessible to the public in accordance with the SEC's Regulation FD. The call, along with corresponding presentation slides, will be archived for twelve months on the Shareholder Relations page at www.oldnational.com. A replay of the call will also be available beginning at 1:00 PM Central today through February 11. To access the replay, dial 1-800-642-1687 and enter conference ID code 30750165.

Those participating today will be analysts and members of the financial community. At this time, all participants are in a listen-only mode. Then we will hold a question-and-answer session, and instructions will follow at that time.

At this time, the call will be turned over to Lynell Walton, Vice President of Investor Relations, for opening remarks. Ms. Walton?

Thank you and good morning to all of you. We appreciate you joining us for Old National Bancorp's fourth-quarter 2007 earnings conference call. With me today are our President and Chief Executive Officer, Bob Jones; our Chief Financial Officer, Chris Wolking; our Chief Credit Officer, Daryl Moore; our Chief Banking Officer, Barbara Murphy; and our Corporate Controller, Joan Kissel.

Before we begin, I would like to refer you to the slide three and point out that the presentation today contains forward-looking statements that are subject to certain risks and uncertainties that could cause the Company's actual future results to materially differ from those discussed. These risks and uncertainties include but are not limited to those which are contained in these slides and in the Company's filings with the SEC. Slide four contains our non-GAAP financial measures information. Various numbers in this presentation have been adjusted for certain items to provide more comparable data between periods and as an aid to you in establishing more realistic trends going forward. Included in the appendix to this presentation are the reconciliations for such non-GAAP data. We feel that these adjusted metrics provide a meaningful look at our fourth-quarter performance as well as ongoing financial trends.

Turning to slide five, you'll see our agenda for the call today. First, Bob Jones will comment on our strong fourth-quarter earnings results, given the difficult economic and credit environment banks are facing today; results which demonstrate a continuation of many of the positive trends from the second and third quarters resulting from consistent execution against a sound strategy.

Daryl Moore will then lead the discussion of our improving credit-quality metrics and how we are prepared to manage this risk in the year to come in light of the current environment. Next, Chris Wolking will detail our expanding net interest margin and the major components affecting non-interest income and expenses during the quarter. Chris will also discuss the anticipated cumulative impact of our completed sale-leaseback transactions. Bob will then conclude with our expectations for 2008; and then, as always, we'll open up the call for questions.

With that, I'll turn the call over to our President and CEO, Bob Jones.

Thank you, Lynell, and good morning to all of you on the phone. We are pleased this morning to announce earnings for the fourth quarter of $0.34 per share. These earnings are equal to the third quarter of 2007, and they did represent an increase of just under 26% for the fourth quarter of 2006. Full-year earnings for Old National were $1.14, which is consistent with the full-year guidance that we issued in the first quarter of 2007, and we were able to affirm on each quarterly call in the past year.

Highlights for the quarter are consistent with each of the prior quarters of 2007. We were very pleased with our expanded net interest margin, which saw an increase of 19 basis points over last quarter. But more importantly, as Chris will point out in his presentation, our margin in December was 369, and we did see our margin expand each month in the fourth quarter. Clearly, we are seeing the benefits of our discipline pricing practices and the strategic decisions we made to reduce wholesale funding. These actions, coupled with the sale-leaseback transition, have provided us with the tools to have a significant positive impact on Old National's margin in 2007, and we believe they provide the platform for maintaining this margin in 2008.

We are also very pleased with our continued improvement in non-performing assets and overall credit quality, as we continue to benefit from our enhanced platform and the conservative stance we take. But as we said on last quarter's call, we continue to maintain a very cautious approach towards credit in 2008, and our guidance for the full year will reflect that caution. We do believe that the credit markets will continue to be challenged in 2008, and we do feel that the current credit challenges have the potential to spill over to the commercial real estate market and the consumer markets.

While we believe we are well-positioned to handle these markets and the credit markets in general, we are also not naive enough to think that we can totally avoid the challenges in total. Daryl will give you further insight both on our portfolio and the tactics we are using to mitigate as much risk as we can during these challenging times.

Let's turn to slide eight to review our commercial loan performance for the fourth quarter. Overall, we were pleased with our commercial loan growth for the fourth quarter of 2007, particularly given our continued conservative approach to underwriting and our cautious view towards commercial real estate. Our relationship managers responded well. As you can see from the slide, all but three of our markets saw growth in the fourth quarter of 2007. Most notably, our northern region continues to demonstrate, though they have moved well beyond integration, have become focused on building relationships.

Obviously, there are two markets that stand out at the other end of the spectrum, our Muncie and our Jasper markets. I'd like to give you a little more detail on those markets in the spirit of transparency. In Muncie, we saw three school corporation tax anticipation notes pay off for just about $5.6 million. We also saw a client pay down a line of credit of $4.8 million. The good news is that client has already borrowed back a portion of that in January. And again, in the spirit of being fully transparent, we did see a $2 million relationship leave the bank because of the client's concern for our conservative underwriting and the covenants that we use in our documents.

In Jasper, we also saw two tax anticipation notes pay down for the school systems, the total being approximately $12 million. We are in a process of rebidding these notes as we speak. In addition, as we mentioned last quarter, we moved the production credit for our lease portfolio out of Jasper, and that portfolio will continue to run down.

That should account for about $4.6 million of the negative balance in Jasper. The bad news in Jasper is that we did lose an approximate $8 million relationship. The client did not feel we were providing them with enough attention and support, and it did serve to remind all of us to ensure that we're providing the best in terms of relationship management.

Let's turn to slide nine now. Let's look briefly at our consumer loan performance. The trends that we saw over the last few quarters have continued with a decline in outstandings in our consumer portfolio. Demand remains weak and is reflective of the uncertainty that the consumer has towards the economy. In addition, we continue to review our policies and underwriting standards in light of this uncertainty, and, as we have in our commercial loan area, we will be very proactive in trying to stay ahead of the issues that may come to pass. Daryl will give you a little more detail on that in his presentation. As you will note in our guidance at the end of this presentation, we do not expect to see a significant change in production within this market segment in 2008.

Let's turn to slide 10 and look at DDA performance for the quarter. Much like our commercial loan offstandings, we saw good growth in our DDA balances in the fourth quarter. Some of that growth is natural in the fourth quarter and is consistent with our historical trends, but we also saw good organic growth, in part driven by our unbeatable checking campaign and our cash management focus. As Chris will talk about later, the mix changes in our deposit accounts have contributed towards the expansion of our net interest margin. We have spoken about that for a few quarters, and as I said earlier, we are beginning to see the benefits of that focused effort on mix change and discipline pricing.

Let's quickly turn to slide 11 and look at our new branch growth. As I mentioned last quarter, the growth of these new branches is being slowed by our change in pricing philosophy. We saw that trend continue in this quarter as we become less reliant on special deposit programs and focus more on building long-term relationships. I might note that while it did not show up in the numbers, we have seen a significant increase in sales activities in our Indianapolis market, partially driven by the disruption that is occurring in the market and further enhanced by the continued focus on sales results led by Barbara Murphy and her team.

Now let me turn the presentation over to Daryl Moore to address what I'm sure is top of mind for all of you, that being our credit performance for the fourth quarter of 2007 and more importantly, our outlook for 2008. Daryl?

Great. Thank you, Bob. I'd like to begin my part of this quarter's presentation reviewing the trends in our nonaccrual classified and criticized loans. As you can see on slide 13, during the quarter we made good progress with our nonaccruals, reducing loans in that category through a combination of paydowns, loan sales, upgrades and some write-downs. Nonaccruals fell $8.5 million to roughly $41 million at quarter's end. Commercial nonaccruals were down by $9.1 million, which represents a 23% decline in total commercial nonaccruals since the end of the third quarter.

Conversely, however, residential and consumer nonaccruals were up roughly $600,000 in the quarter, which represents a 6% increase in that category from third quarter levels. With respect to our largest nonaccruals at the end of the past quarter, we had only three loans with exposures of $2 million or greater.

As slide 14 shows, we're pleased to report that classified loans, which do include nonaccrual loans, fell during the quarter, showing a decline of slightly more than $15 million in the period, and now stand at approximately $115 million, eliminating what now appears to be a temporary bump-up in the fourth quarter of 2006, an increase in classified loans associated with the acquisition of St. Jo Capital Bank at the end of the first quarter. This quarter continues our general trend of decreasing classified loans over the last 15 quarters. In 2007, we reduced classified loans by $38 million, representing a 25% reduction in outstandings in this category.

Slide 15 shows our criticized loan trends over the last 15 quarters. As we have discussed in prior calls, our trendline showed good progress resulting from our efforts to reduce criticized loans up until the third and fourth quarters of 2006, where we posted elevated levels. We continued the improving trend in 2007 up until the fourth quarter, when criticized loans increased approximately $24 million.

In reviewing the increase in this category in the most recent quarter, we observed that the increase was fairly broad-based in terms of types of loans as well as the geography of the same. In 2007, we were aggressive in evaluating and determining the disposition of loans that migrated into the criticized category. This is evidenced by the fact that even with the increase in criticized loans in the fourth quarter, we were able to reduce criticized loans by almost 14% during the year.

In 2008, we intend to be as or more aggressive in our approach to addressing criticized credits. Our goal is to make sure that as few of these credits as possible find their way into the classified or nonaccrual categories in the future.

As the next slide shows, 90 plus delinquencies in our portfolio were down in the quarter from 5 basis points to 3 basis points of total outstandings. The decrease was reflective of roughly $650,000 in lower outstandings in this category from the prior quarter. As you can see, we have historically managed our 90-plus delinquencies very well, and our results compare very favorably to the peer group against which we measure our performance.

Turning to slide 17, net charge-offs for the quarter were $9.3 million or an annualized 79 basis points of average loans. For the year, net charge-offs were $21.1 million or 44 basis points of average loans. In the quarter, 24 basis points of the 79 basis points in charge-offs were directly associated with sale of loans. For the year, 11 basis points of the total 44 basis points in losses were loan sale related. As noted in our earnings release, we did reinstate a provision for the loan losses in the quarter, providing $1.7 million.

Turning to slide 18, we graphically depict where Old National stands in terms of commercial real estate exposure as a percent of total risk-based capital and compare our level of exposure to the concentration levels of banks of several different sizes. As you can see, at 162% of risk-based capital, we compare very favorably in this category to other mid-size banks and community banks. As you know, there are some that say commercial real estate could be the next area of concern. And if it is, Old National should be well-positioned compared to these peers.

As we have commented on for a number of quarters now, we continue our efforts to attempt to proactively manage and reduce risk in our lending portfolio. I want to take this time again to refresh your memory on some of the steps we have taken over the past several years that we believe will help us identify and manage risk, as well as minimize losses through this next credit cycle.

First, we believe that our credit analysis platform, risk rating systems and special assets function are much improved from where they were in the last cycle, and further believe that we are better positioned to proactively manage credit risk at this time than we were in previous downturns.

Second, as we have communicated to you in earlier calls, Old National does not have a subprime lending division, or do we actively seek these types of loans. That being said, we, as with all banks, will put loans on our books that may have one or more of the traditional characteristics of a subprime loan, such as a lower credit score; but in these instances, these loans have come to us through our normal prime lending channels and are underwritten in a manner that attempts to mitigate the risk in the individual transaction.

Third, as we have discussed over the last number of quarters, our purposefully conservative stance on commercial real estate -- the results of which are reflected in the commercial real estate concentration slide we just reviewed -- we have no plans to change this conservative stance any time in the near future.

Fourth, we continue to review closely our consumer loan book as well as our underwriting policies to make sure we are prepared for any combination of economic weakness or setbacks that could have a detrimental effect on our portfolio.

Finally, I'd like to again communicate that as a matter of practice, outside of the occasional financing of projects for clients with ties to our local banking operations, Old National has no program targeted at originating loans outside of our traditional banking footprint. In addition, we do not participate in the purchase of brokered retail loan packages.

While we seemed to have, at least at the present time, somewhat bucked the trend of increasing credit risk, we could be seeing the first signs of potential weakness in our commercial portfolio, as evidenced by our increase in criticized loans. In addition, there is no denying that the current disruption in the market related to the subprime mortgage meltdown is significant for our industry. And we, as a result of the spillover from this issue, are beginning to see increasing risk trends in our retail portfolio, as evidenced by higher levels of delinquencies, nonaccruals and losses in 2007.

We are fully aware that we will participate with the other financial institutions in the credit cycle, which seems to be developing, but believe that because of the more conservative stance we began to take some time back, as well as the investment we have made in our credit risk management platforms, the effects on Old National may be less severe than what plays out for some of our competitors.

With that, I'll turn the call over to Chris.

Thank you, Daryl. I'll begin my presentation on slide 20. We are very pleased with the fourth quarter increase in our net interest margin. At 3.56, our net interest margin is 19 basis points higher than our third quarter margin and a full 56 basis points higher than our first quarter of 2007 margin. More importantly, net interest income increased $2.7 million in the fourth quarter from third quarter of 2007.

You may recall that our third quarter net interest income included $1.6 million recovered from a collected commercial real estate loan. Without this one-time event in the third quarter, the improvement in net interest income over the third quarter would have been greater.

Slide 21 shows the trend in our fully taxable equivalent net interest margin during 2007. In the second quarter, the margin was helped by the balance sheet restructuring we executed late in the first quarter. Recall that in the first quarter, we terminated approximately $160 million of wholesale funding, sold low yielding securities and terminated several received fixed pay LIBOR interest rate swaps.

In May, we recovered $1 million from the collection of a commercial real estate loan, which lifted our margin approximately 17 basis points in May. Our margin improvement in June, July and August and September was due largely to the effort of our banking managers to reduce deposit costs. The cost of our interest bearing deposits -- not including brokered CDs -- declined 14 basis points during the third quarter of 2007. As I noted earlier, our August net interest margin was lifted approximately 27 basis points by the collection of $1.6 million in interest from a second commercial loan.

In the fourth quarter, our margin continued to benefit from our focus on managing deposit costs, the decline in short-term interest rates, and our sale-leaseback transactions. We are obviously pleased with the December monthly net interest margin of 3.69. Interest-bearing deposit costs -- not including brokered CDs -- declined 34 basis points during the fourth quarter. As we've discussed in past calls, our balance sheet is somewhat liability-sensitive due to a large investment portfolio and the fact that almost 60% of our total loans are fixed rate. So our margin benefited from the 100 basis point decline in the federal funds rate from September through December. This is reflected primarily by the 46 basis point decline in our borrowed funding costs from the third quarter.

The sale-leaseback transactions of the third and fourth quarters provided approximately $226 million in cash for redeployment and reduced non-earning assets and increased deferred liabilities. Of course, the increase in net interest income due to the sale-leaseback transactions is offset somewhat by increased occupancy expenses, as we will discuss in the final slide today. Nonetheless, we are pleased with the impact of the sale-leasebacks on our net interest margin during 2007.

Looking forward, while we expect continued improvement to our net interest margin and federal funds and LIBOR rates continue to fall, the benefit will likely be offset somewhat by accelerated investment portfolio cash flows and the fact that we likely have seen the largest portion of the incremental contribution to the margin from our focus on core deposit costs. We expect our margin to remain in the range of 3.55 to 3.65 during 2008.

On slide 22, we've broken down in detail the components of our quarterly margin improvement from the third quarter. Starting with the 3.37 reported net interest margin in the third quarter, I've subtracted the 9 basis point quarterly equivalent left from our third quarter interest recovery. Our margin adjusted for the recovery in the third quarter was 3.28.

The yield on the investment portfolio increased 3 basis points to 5.22 in the fourth quarter from 5.19 in the third quarter. Loan yields declined 28 basis points to 7.23 from 7.51 in the third quarter. Combined, the changes in asset yields reduced our margin by 9 basis points.

As I noted earlier, interest-bearing deposit costs declined 34 basis points and borrowed funding costs declined 46 basis points. Additionally, brokered CD costs declined 30 basis points during the quarter. Contributing to the decline in deposit costs, the average rate on NOW accounts declined 68 basis points, and the average rate on money market accounts declined 74 basis points. Offsetting these declines somewhat was a 4 basis point increase in the average rate on savings deposits. The declines in deposit rates and wholesale funding contributed equally to the 32 basis point margin improvement due to liability costs.

The decline in our average non-earning assets of $62.2 million and the increase in average other liabilities of $72 million from the completion of our sale-leaseback transactions in the quarter, plus the increase in average non-interest-bearing deposits of $10.6 million contributed to the 5 basis points improvement in the margin due to mix/volume/other.

These benefits were offset by an $81.8 million decline in average loans and a $226.9 million decline in average interest-bearing core deposits. Like last quarter, however, the decline in core interest-bearing deposits was concentrated in high-cost CDs, money market deposits and NOW accounts.

Slide 23 shows the trend in our cost of interest-bearing deposits. When brokered CDs are included in our deposit costs, deposit costs declined 36 basis points from the third quarter. More importantly, however, you will note that our interest-bearing deposit costs were 11 basis points lower than the average deposit costs of our peer group in the third quarter.

On slide 24, you will see that our tangible common equity to tangible assets declined slightly in the fourth quarter to 6.18 from 6.27 at the end of the third quarter, due to the Board's decision to declare our first quarter 2008 dividend in December rather than waiting till January. Approximately $15 million was moved from common equity into dividends payable in December, which reduced our tangible common equity ratio approximately 20 basis points on December 31, 2007. The accounting for the dividend also results in the reporting of an unusually high dividend payout ratio in the fourth quarter 2007 of 134%.

Recall that we increased our first quarter 2008 dividend by $0.01 per share to $0.23 per share when we declared the dividend on December 18. I'm sure Larry Dunigan, our Chairman, won't mind if I repeat his quote from our press release announcing the dividend increase. Quote -- By increasing our dividend for the 26th straight year, the Board affirms our confidence in the strategies that have been put in place by the management of Old National Bancorp. It is particularly relevant during this difficult time in our industry that we not only continue to pay a cash dividend, but we have increased it as well -- unquote. At 6.18, our tangible common equity to tangible assets ratio is within our 6 to 7% target range.

On slide 25, you will see that fourth quarter non-interest income was up $5.8 million over third quarter 2007. While most of the increase was due to the upfront gains on the sale-leaseback transactions closed during the fourth quarter, we did have modest increases in insurance commission revenue, ATM fees and transaction account fees compared to the third quarter of 2007. Compared to the fourth quarter of 2006, total fees on ATM transactions in transactions accounts in the fourth quarter of 2007 were up $1.5 million or 10.5%. Fourth quarter 2007 insurance agency revenue was $3 million lower than fourth quarter 2006, primarily as a result of a reclassification of third party administration fees, but it did include a decrease in property and casualty commissions in the fourth quarter of 2007.

On slide 26, you will note that non-interest expenses were $5.5 million higher than in the third quarter of 2007. Occupancy expenses were up $2.8 million from the third quarter, due to lease expense from the sale-leaseback transactions closed in September and October. Salaries and benefits were $1.6 million higher in the fourth quarter than in the third quarter 2007, primarily due to reduction of equity-based incentive compensation expense and lower medical expenses during the third quarter of 2007.

Although other non-interest expenses were up only $600,000 in the fourth quarter compared to the third quarter, other expense was impacted by the reversal of approximately $1.7 million previously accrued in the reserve for losses on unfunded commitments. You will also note on slide 27 that we incurred several expenses that increased our total other expense for the quarter, including a $1 million contribution to the Old National Bank Foundation, expenses related to legal settlements, a loss on a sale of a building in our Evansville market, and charges related to the termination of callable certificates of deposit. These expenses were largely absorbed by the upfront gain in our fourth quarter sale-leaseback transactions.

Slide 28 provides an update on the sale-leaseback and leaseback for financial centers. We have closed on 76 sales so far and expect two more facilities to be sold to SunTrust in the near-term. Seven facilities will remain available for sale and are pending sale to another investor. The total gain on the sale-leaseback transactions with SunTrust will approximate $122 million, most of which will be recognized over the term of the lease arrangements. Lease terms range from 10 to 25 years.

Resulting cash available for redeployment was approximately $226 million and allowed us to reduce the higher cost deposits and borrowings. The largest expense of the sale-leaseback transaction is, of course, the expense associated with the new leases. Lease expense associated with these transactions was $4.5 million in the fourth quarter. Had the lease agreements been in effect for the full quarter, the expense would have been approximately $500,000 higher.

With that, I'll turn the presentation back to Bob for final comments.

Great. Thank you, Chris. Thank you, Daryl. I'm going to close my presentation on slide 30 by providing you with our guidance for 2008. Before I do, let me start the discussion by saying we do believe we have built a sound platform, and we also believe we are very well-positioned for the challenges that appear to be facing us this year and facing the industry in total. We continue to believe very strongly in what we have termed our three yards in a cloud of dust strategy. To sum up that strategy, we will be conservative, we will be consistent, and we won't overreach in our capabilities. We believe that the game plan that we have put in place is working, and we really see no reason for it to change. We may be boring, but we also believe that boring is good, particularly during these times.

Though, as we said on last quarter's call, despite that strategy, we are neither arrogant enough nor naive enough to think that we can totally escape the challenges that face the industry. Saying that, we were very pleased that our Board of Directors chose to affirm the strategy last month when they voted to increase our cash dividend.

Let me start with giving you some guidance for 2008 as you build your models. We do expect our credit costs to increase in 2008, which is reflected in the provision that will be in the range of $10 million to $16 million. That compares to the $4.1 million that we provided for in 2007. This does get us back to a more normalized provision and one that is consistent with our forecast of charge-offs for the year, which we anticipate right now to be in the range of 25 to 35 basis points.

Our guidance does include a net interest margin that is stable to where we ended up in the fourth quarter of 2007. As Chris said, we think that's going to be in the range of 3.55 to 3.65. This margin will be supported by slight to moderate loan growth and deposit growth, because we do believe that the economy has slowed, and our forecast for growth is reflected of that as well as our conservative underwriting standards. You should also continue to see our outstandings in the commercial real estate trending downward, as they have in 2007, because of our cautious outlook for this sector.

As it pertains to expenses for your modeling purposes, the fourth quarter of 2007 should serve as a good run rate. Saying that, we do believe and we do know that we have opportunities to become more efficient, but we have not included that in any of our guidance at this time. Overall, we do forecast earnings in 2008 to be between $1.13 and $1.19 for the full year.

At this time, all of us will be happy to take your questions, and we do thank you for your support. Operator, if you want to open up the line, please?

(OPERATOR INSTRUCTIONS) Scott Siefers, Sandler O'Neill.

Scott, you're on a trend here, buddy. I think you've been the first question there every call this quarter -- the last three quarters.

I have a quick trigger finger, I guess. Let's see, Daryl, I guess this one is for you. I realize the fourth quarter charge-off number was elevated by a few different items, but I guess I'd just like to -- I guess, if we back out the loan sales, the charge-off number was substantially higher than what you've been doing, and then also above what you guys are anticipating for the full year '08. So I guess I'm just curious to hear kind of what metrics allow the '08 number to be, I guess, so much better than the fourth quarter sort of core number?

Yes. Well, you hit on the head. We had some loan sales that were included in there. We also took a pretty aggressive approach in the fourth quarter in looking at some of the loans that we had on our books that needed to be written down. And as with many banks, we leaned towards the conservative side to get those to more realistic values at the end of the year.

If you go back and look at the first three quarters, I really did believe that 2008, barring some significant economic downturn, is going to give us something a little closer to that, as Bob talked about, in the 25 to 35 basis points. Scott, it is so difficult to really convince you now that that is going to be the case because you have specific loans that come up during the quarter. It just happened that that's what happened in the fourth quarter of 2007, and we really do feel like we can get back down to that 30, 35 basis point range.

Scott, I just might add, as you look at the granularity of the portfolio as we look at it today, as Daryl said, our nonaccruals, the size of those credits, has come down. We also don't see the loan sale market being very active in 2008, which, again, contributed to some of those.

But I think it really goes down to all of the hard work and understanding that Daryl and his team have of the portfolio. We can go through by credit, understand what do we think the future losses would be. We feel comfortable at this stage with that range. Depending on how the economy goes, that number could go higher or it could go lower. But at this stage, just based on our overall understanding of the granularity that Daryl and his team bring to it, it is the range that we've built.

Okay. Perfect. And then I guess, Daryl, one more question for you. If you could chat a little bit more about CRE trends, broadly speaking, I imagine at this point any weakness you're seeing is probably confined to the residential side. Maybe if you could just give us your thoughts sort of broadly on the other areas of that segment, i.e., office, retail, et cetera?

Yes. That's interesting. When we look at the residential side, obviously we've sold most of our 1-to-4 family production. So that is not really of concern to us on our balance sheet today. As it spills over into the acquisition and development of the residential segment, it's interesting in our organization, the only area of concern that we have is in Indianapolis. The other markets, we've done a couple of things. One, we were not very aggressive in our acquisition development financing outside of Indianapolis, and really not even in Indianapolis. But the downturn in Indianapolis seems to have been a little more severe than some of our other markets.

With regard to the other commercial segments, we don't do a lot of retail commercial financing. When we do, it's with pretty high levels of preleases in hand, and I think that's where we're seeing a lot of weakness in our markets. And so we have shied away from that type of production over the past couple of years. We've got some in our portfolios but not real heavy concentration. So I think we've set ourselves up pretty well for that.

Don't do a lot of office. We do have some. Again, there's a little bit of weakness there, but we're not seen considerable levels of exposure. We do some apartment financing, and right now apartment financing or apartment results in our areas have been pretty strong. So I think that we're looking at 1-to-4 family as an area of concern for 2008. We're looking at retail, although we don't have a lot of it, as something we're keeping our eye on. And then we do -- we have done some condo financing in Indianapolis, and that's really weak, and we're watching those projects.

Okay. Thank you. And then I guess just one last question, Bob, maybe that's for you or Chris. Given where your capital levels are and sort of the outlook for 2008, how are you prioritizing things, whether it's just kind of keep some cushion on the books? Obviously, we saw what happened with the dividend but maybe share repurchase, M&A, et cetera?

Cushion is not a word that Joan lets me use, Scott. But we do believe that '08 is a good time to hoard capital. We think capital is king, particularly as you venture into what can be uncharted waters. So, at this time our goal would be really to retain as much capital as possible. Saying that, I think it's obvious the M&A market is probably going to heat up, and we'd like to be in a position that if the right opportunity, given our strategy, comes about, that we're able to participate. But I think it's a good time to keep as much capital on the balance sheet as we possibly can.

Okay, perfect. Thank you very much.

Charles Ernst, Sandler O'Neill.

My first question -- and I think said -- is your balance sheet still says that you're a little bit liability sensitive. Is that right?

That's correct.

That's correct.

Okay. And then looking at the data that you provided on the monthly margin flows, you know, 3.69 for the month of December but you're guiding to 3.55 to 3.65 and based on the fact that your balance sheet is still a little liability sensitive, why is their guidance so low? It surprised me a little bit.

This is Chris, Charlie. I'll talk a little bit about that. First, in December, there was probably 4 basis points in that December number that was a result of a -- on a monthly basis, was a result of some recovery. So we're kind of looking at the 3.65 as being a reasonably good rate and a core basis for December. And we are liability sensitive. I think, looking out, our large investment portfolio, cash flows really haven't accelerated much in the mortgage portfolio. We'd expect that to happen, obviously, with our fixed-rate loan portfolio. That's going to take a lot of work on the part of the bankers to maintain those assets.

So we feel like it's just a good, conservative outlook, given the improvement that we've had particularly over the last half of 2007. There could be some good things and there could be some negative impacts going forward.

Charlie, just pick up on what Chris said, again, to our overall strategy, we think it's the conservative approach to take. We think the investment portfolio is yet to be -- what the impact is there, and the rapidity with which the Fed has cut rates over the last period of time. Depending on what they do this week, that may have a more positive impact. But at this time we're comfortable with that guidance.

Okay. And then just in regards to your bond portfolio, what is the thought process there? I mean, is it going to continue to shrink, or do you take advantage that we're finally getting some steepness again in the curve and start adding bonds again?

No. We won't be in a position where we've got the large bond portfolio that we had back in early 2001, 2002, funded by wholesale funding. Part of that, obviously, is driven by what kind of deposit growth we get as well as what the outlook is for loan growth. We have been reinvesting a little, primarily on the municipal side. You'll see the muni numbers going up a little bit. We have capacity there. But I don't expect the portfolio to change dramatically. And as we get cash flows from the portfolio, we'll continue to make those decisions on a month-by-month basis, given what kind of opportunities we see out there and what kind of risks that we want to take.

Okay. And then lastly, can you say again on the dividend why you guys decided to accelerate the declaration?

Charlie, really a Board decision. I think they looked at the environment in banking. The Board felt real positive towards the progress we've made as a Company, and I think they felt that the appropriate time to take it to send a message to our shareholders and investors that the Board affirms the strategy and they have confidence in the Company.

Charlie, this is Chris. Too, I might point out that, given the accounting there, you won't see a dividend in that first quarter. You won't see it declared. The accounting will be -- it really happened in 2007. So obviously, the dividend is paid still with our normal date of March 17. So I think the accounting is a little bit unusual there, but it's all consistent with payout ratios that we've talked about in the past and consistent with our earnings outlook for 2008.

Okay, great. Thanks a lot, you guys.

Erika Penala, Merrill Lynch.

I just wanted to clarify what you're assuming for the economy for '08. Does your earnings guidance assume a slowdown or a recession?

Do you think I'm going to answer that question? You know, I'm -- personally, I'm a little early to declare a recession. We do see slowing; as Daryl said, most notably Indianapolis appears to be somewhat affected. But the balance of our markets are still doing fairly well. Here in Evansville we've seen unemployment stay stable. We're seeing job creation in a number of a varieties. So I don't think we're ready to declare a recession. We're probably not as bearish as you all are, but we do see that the markets have slowed, and I think we went to the transparent and as forthright and say that our guidance does look at some slowing in the economy.

I just wanted to pick your brain about what your thoughts on Indianapolis. Because in the past that has been seen as an area that could drive loan growth, balance-sheet growth, going forward, but it seems like your statements now are cautious. What's the strategy there for '08?

I would say they're cautious to the economy and probably Indianapolis in total. We are very bullish on Indianapolis for us. Barbara is here and can maybe talk to some of the things we're seeing, but we are seeing a growing pipeline. We're seeing very good activity in the retail side. We're beginning to see the benefits of being an Indiana-based bank. We're seeing the benefits of the infrastructure that we've built in Indianapolis. While we're bearish towards some of the economic sectors in Indianapolis, most notably in the commercial real estate side, as Daryl said, we're not a big participant in those areas, and is our cautious approach. But on the retail side, small business and C&I, we're very bullish as to what we see right now. Barbara, I don't know if there's anything you want to add?

Yes, Erica, this is Barbara Murphy. I think the thing that we have an advantage on right now in Indianapolis is there is tons of market disruption with all of the acquisition activities that's gone on there. That activity is coming from out-of-state, and we are really taking advantage of the fact that we are an Indiana bank. And that is helping us with our marketing efforts in Indianapolis. So we are very strong on both the management and the infrastructure that we have in place there and taking advantage of the disruption activities.

Okay. Thank you for taking my call.

David Konrad, KBW.

I have a few questions. First is just a follow-up on the margin, I know we've discussed that you're moderately liability sensitive. But, given how fast the Fed has lowered rates here recently and maybe again here this week, I just wonder if that -- what dynamic that -- is that a positive? Or are you able to reprice liabilities down as quickly as the Fed moves here?

David, this is Chris. It's very much a positive for us, given the nature of our loan portfolio, as I mentioned. It's that continued pace of decline that helps us the most. So yes, we're optimistic. But again, I'd have to hedge that a little bit, that we just haven't seen the kind of prepayments we'd expect on our mortgage portfolio, obviously, given credit issues out there. So we really have to -- I believe we have to see how this materializes through the remainder of the first quarter.

You know, David, we've got to put a stake in the ground at some stage. And I think the Fed's reaction in the last week and then what they may do this week -- it's just to be seen how that impacts us. But as Chris said, given the fixed-rate nature of our assets and given the liability sensitive, it should provide us with some positive momentum.

The second question is on the tax rate. It looked a little bit elevated to me. I'm not sure that has something to do with the sale-leaseback. But I just wonder if that's a pretty decent core tax rate we should be using?

For the fourth quarter?

Yes.

Yes, specifically? We had a recovery in the third quarter from a previously accrued FIN 48 number that actually brought our third quarter number down a little bit. I think, going forward, our projections keep us in that 20% effective tax rate. Obviously, the sale-leaseback has helped us in some of our deferred tax asset items. But it's really that large percentage of non-taxable income that we have from our municipal portfolios that keep me pretty confident about the effective tax rate going forward.

I'm sorry; I missed -- effective with the current level? Or you --?

Yes, it ran 20%. I think we finished the quarter at 20, maybe 23. But it tends to bounce around a little bit quarter to quarter. We like 20%.

Okay. And then last question. I was busy writing during the presentation. Chris, did you -- when you were going over the expenses, did I hear you correct that there was a reverse of the unfunded committed reserve? Or --?

There was. About $1.7 million directly related to our unfunded home equity lines. So, that was a reversal, obviously right in line with what our models were telling us about the funding of those lines.

Okay. So we should think of adding that kind of back for our run rate going forward on the expense side?

You know, I think, as I said, as you look at expenses, I think you can use the fourth quarter in total as a good model for your run rate. (multiple speakers) So that would include the reversal as well. (multiple speakers) You know, there's so many other offsets, David, as we said, with the slide that we showed with the foundation funding, et cetera, on slide 27. We tried not to have as much of a kitchen sink as everybody else, but we did have some small portions.

(OPERATOR INSTRUCTIONS)

Any there, operator?

Yes. There are no further questions at this time.

Well, perfect. As always, if you have follow-up questions, which I'm sure many of you will, Lynell is available to take any and all calls. As always, we appreciate your support and look forward to talking to you at the end of the first quarter. Thank you.

This concludes Old National's call. Once again, a replay along with the presentation slides will be available for 12 months on the Shareholder Relations page of Old National's website at www.oldnational.com. A replay of the call will also be available by dialing 1-800-642-1687, entering conference ID code 30750165. This replay will be available through February 11. If anyone has additional questions, please contact Lynell Walton at 812-464-1366. Thank you for your participation in today's conference call.