Old National Bancorp (ONB) 2011 Q2 法說會逐字稿

Welcome to the Old National Bancorp second-quarter 2011 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 12 months on the investor relations page at OldNational.com.

A replay of the call will also be available beginning at noon Central today through August 15. To access the replay dial 1-855-859-2056 or 1-800-585-3867, conference ID code 820-00-278.

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, Director of Investor Relations for opening remarks. Ms. Walton?

Thank you, Sarah, and good morning, everyone. Joining me today on Old National Bancorp's second-quarter 2011 earnings conference call are management members Bob Jones, Chris Wolking, Daryl Moore, Joan Kissel, Jim Ryan, who is our Director of Corporate Development and has been intimately involved with this weekend's activities. Also joining us today, brand-new to the Company, is John Kamin, who is our CIO, joining us from Wells Fargo Bank.

On slide 3 you will find the standard forward-looking language. Our discussion today will contain forward-looking statements. Such statements are based on information and assumptions that are available at this time and 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 this slide and in Old National's filings with the SEC.

Slide 4 contains non-GAAP financial measures language. 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. We feel these adjusted metrics to be helpful in understanding Old National's results of operations and core performance trends. Reconciliations for such non-GAAP data are included within the presentation.

As we begin our financial and strategic review of the second quarter, please turn to slide 5 where I have noted specific items we will be discussing today. First, Bob will highlight the key drivers of our strong second-quarter performance. We will then provide more financial data, as Chris will highlight the progress we have made in our efficiency initiatives, the increase of our net interest margin as well as total revenue, and maintaining our strong capital position, while Daryl will discuss our current credit quality trends and our outlook in this area.

Bob will then complete our prepared remarks with the highlights of our just-announced FDIC acquisition of Integra Bank. Following these remarks, we will be happy to take your questions. With that, I will turn the call over to Bob.

Good morning, everyone, and welcome to our second-quarter call. We do have a fairly robust agenda today, particularly given Friday's announcement. So I'm going to begin the call an overview of our second-quarter earnings on slide 7.

For the quarter, Old National's net income was $17 million or $0.18 per share. This represents a 4% increase in net income over the first quarter of 2011 and a 62% increase in net income over the second quarter of 2010. We continued to benefit from our successful Monroe Bank acquisition, as well as our acquisition of the Integra wealth management, as well as the additional steps we have taken over the last few years as part of our strategic imperatives designed to provide our shareholders with consistent quality earnings.

Our commitment to being much more disciplined in our deposit and loan pricing contributed to the expansion of our net interest margin to 3.67%, which is our highest net interest margin since 2008. Though as Chris will detail, our Monroe acquisition and the marks related to their balance sheet contributed approximately 38 basis points of this expansion.

Throughout the last few economically challenged years, we knew full well that loan growth was going to be difficult, particularly given our credit standards. So our bankers have been very focused on selling noncredit services.

This effort as well as our early adoption of the elimination of free checking contributed to our revenue growth. Revenue net of security gains was up 2.3% versus last quarter and 11.1% over the second quarter of 2010.

We continued to make good progress on our efficiency initiatives during the quarter. Chris will give you more specifics on our expenses, but we still have a number of projects in the pipeline with varying completion dates that should show positive impact in future quarters. This, coupled with the benefits we will receive from the Monroe acquisition, should continue to reduce our core operating expenses.

I should note that in anticipation of the potential of the Integra Bank transaction prior to this weekend, we did not see much in the way of capacity-based reductions for the second quarter. If we had not been successful, we clearly acknowledge that we would have had to continue these capacity-based reductions.

Turning to slide 8, let me briefly recap what is becoming a fairly common scenario with our balance sheet. Loan growth was still muted, with our largest growth coming in residential real estate, driven primarily by our Quick Home Refi product.

Our commercial customers, though, are beginning to show some signs of increase in their optimism, measured in part with a slight increase in our line utilization. Line utilization for the quarter was 35.7% versus last quarter's of 32.6%. Without the impact of Monroe it would have been 34.3% versus the 32.6% for the prior quarter.

Deposits continue to be strong, as clients prefer liquidity and safety in these very interesting times. We did see significant growth in our DDA, up $83.2 million or 6% over last quarter.

Let me close with a brief comment on credit. Credit trends for the quarter were positive and we do feel very good about the progress we have made on the Monroe portfolio. As we look forward, as is always the case with us, there remains a degree of uncertainty in the overall economy which would suggest there are still going to be some challenges in certain credits and sectors for future quarters.

All in all we were pleased with a quarter that continues to reflect our consistent focus on our strategic imperatives. The news of this weekend, with our FDIC acquisition of Integra Bank, accelerates a number of our strategic imperatives; and I look forward to reviewing that with you at the end of our financial discussion. Let me now turn the call over to Chris.

Thanks, Bob. Bob provided you with a good summary of our results for the quarter. Beginning on slide 10 I will provide you with additional details for our second-quarter financial performance.

Second-quarter revenue totaled $105.9 million, an increase of $1.7 million or 1.6% from the first quarter of 2011. As expected, Monroe Bancorp continued to be a strong contributor for us in the second quarter. Accretion from the purchase accounting mark of the Monroe balance sheet alone contributed approximately $6.7 million to net interest income for the second quarter.

Noninterest income was also up in the quarter, increasing $1.6 million or 3.9% over the first quarter. Wealth management fees and service charges on deposit accounts both increased over the first quarter.

Our noninterest expenses decreased slightly during the second quarter, declining approximately $100,000 over the first quarter. Most of our integration work on Monroe was completed midway through the quarter. And while we saw some benefit of this during the second quarter, we should see the full impact of staff reductions and lower conversion expenses in the third quarter.

When I exclude securities gains for both quarters, better revenue and lower operating expenses resulted in a strong 10.8% improvement in pretax pre-provision income over the first quarter of this year. On slide 11, I've provided a more complete breakdown of the changes in pretax pre-provision income over the last several quarters.

We are pleased to see revenue exceeding $100 million now for the second consecutive quarter. Total revenue was up 1.6% compared to the first quarter of 2011 and up $7.8 million, or nearly 8%, compared to the second quarter of 2010.

As I noted previously, noninterest expenses are down slightly compared to the first quarter of 2011, and we expect a further decline in operating expenses in the third quarter as we feel the full impact of the completed Monroe conversion. Year-over-year, noninterest expenses are $1.9 million higher compared to the second quarter of 2010 due primarily to cost of the Monroe acquisition; but for the same period revenue was up $7.8 million.

Continued progress on operating expenses and the increase in revenue generated a 50.6% increase in pretax pre-provision income over the second quarter of 2010 and a 10.8% increase over the first quarter of this year.

While I have highlighted the changes in revenue, operating expenses, and the increase in pretax pre-provision income, it is important to point out our lower provision expense during the period. Compared to second-quarter 2010 our provision expense is $4.8 million lower and has trended lower since the fourth quarter of 2009. Daryl will discuss our credit risk in more detail during his presentation.

When the Company can combine improved pretax pre-provision income with lower provision expense, our net income gets a strong lift. So we rightfully are pleased with the Company's performance thus far in 2011.

Please turn to slide 12 where I have included two graphs showing the changes to our employee population over the last several quarters. The first graph is one that you will recognize from previous quarterly calls. This graph shows full-time equivalent employees at the Company since first quarter of 2009.

The full-time equivalent calculation includes the impact of overtime and accrued vacation expense paid to employees at the time of departure. So it tends to overstate the employee population during periods when we have unusually large numbers of departures, like that which we experienced during the second quarter. For this reason, I included the second graph, which tracks the absolute number of employees at the Company.

Both graphs show the same trend of lower numbers of associates over the two-year period, with FTE decreasing 16% since the second quarter of 2009 and total employees declining 13% over the same period. I believe the total employees graph is a more accurate depiction of where we finished the second quarter.

You will note employees at the end of the second quarter totaled 2,650 compared to 2,629 at the end of 2010. So while our total associates increased due to the acquisition of Monroe in the first quarter, by the time we completed our conversion of Monroe our total employees had only increased by 21 individuals compared to the quarter prior to the acquisition. This was the result of a very strong effort on the part of our Monroe conversion team to meet their efficiency targets and underscores our continued commitment to attaining our cost-reduction goals.

Slide 13 is a walk forward of the changes in our noninterest expenses from the first quarter of 2011. The area we are paying particular attention to is the change in salary and benefits expense quarter-to-quarter, as we concentrate on improving the productivity of the Company.

While we did experience a decline in salary and benefits expense of $900,000 due to staff reductions in the quarter, we also saw increases in salary and benefits expense due to an additional day of salary accrual and merit increases. Increased expense due to day count and merit increases totaled $1.4 million, which exceeded the savings from the staff reductions in the quarter.

One-time Monroe integration and conversion expenses declined $1.4 million from the first quarter of 2010. We expect additional Monroe-related one-time charges in the third quarter of $300,000 to $500,000, possibly as high as $1.7 million in the fourth quarter pending our decision to sell our remaining Bloomington facility.

The provision for losses related to unfunded commitments increased from a $1 million reversal in the first quarter to a $200,000 expense in the second quarter, which accounts for the $1.2 million increase in expense in the second quarter compared to the first. This expense tends to move around on a quarterly basis and is a factor of both asset quality ratings and line utilization.

Second quarter was the first quarter in which the new asset-based FDIC insurance charge was assessed. The second-quarter insurance assessment at Old National was $1.8 million; and we expect that it will continue at this level for the remainder of the year, not including the impact of our acquisition of the Integra balance sheet from the FDIC.

Of course, all of our operating expenses will be impacted by the acquisition from the FDIC of the operations of Integra Bank. We will provide much more detail on expenses from the acquisition during our third-quarter conference call in October.

On slide 14 I brought forward total revenue from the first quarter of 2011 to second quarter, like I did in the previous slide with operating expenses. Net interest income increased approximately $900,000 from the first quarter.

I noted earlier that accretion from the purchase accounting marks on the acquired Monroe balance sheet contributed $6.7 million in net interest income in the second quarter. This is an increase of approximately $3 million compared to the accretion in the first quarter.

Most of the additional $3 million resulted from better than anticipated cash flows on impaired assets for the quarter. We expect that income from accretion related to the Monroe balance sheet for the third quarter will be closer to $3.7 million, similar to what we experienced in the first quarter of 2011.

Wealth management saw a small increase in trust fees during the quarter. Recall that we closed on the acquisition of the Integra trust business on June 1; so for the second quarter the Integra business generated approximately $150,000 in additional fees and accounted for one-half of the increase in fees over the first quarter.

We were pleased to see an increase of $800,000 in accounts service charges compared to the first quarter of 2011. Service charge income is about $700,000 lower than the second quarter of 2010, however. We are watching deposit service charges closely and anticipate that this source of income will remain under pressure.

Insurance revenue declined $1.7 million over the first quarter due to a decline in contingency income for the quarter. This income is seasonal and is normally collected in the first quarter every year; so the decline of $1.7 million compared to the first quarter was not unexpected.

On slide 15 I provided information regarding the trends in our net interest margin. Our net interest margin for the second quarter of 2011 was 3.67%, up from 3.62% in the first quarter and is our highest quarterly margin since the fourth quarter of 2008.

The net interest income generated by the accretion of purchase accounting marks translated to an estimated 38 basis points of margin for the quarter when annualized. In the first quarter, accretion of purchase accounting marks accounted for 21 basis points of net interest margin.

We expect that the contribution from purchase accounting accretion will decline during 2011, declining to approximately $3.5 million or 19 basis points of net interest margin by the fourth quarter. This is up slightly from the $2.4 million income we originally estimated for Q4 of 2011.

Of the mark to fair value impacts associated with the acquisition of Monroe, the mark on loans has the most impact on net interest income and margin quarter-to-quarter. We expect to continue to have changes to net interest income periodically, related to accretion, as the cash flow expectations of loans change.

I would note that an increase in average noninterest-bearing checking accounts of $56.9 million also helped the margin during the quarter. Increasing quality earning assets remains challenging, however.

Earning assets declined by $2 million during the quarter, and our mix shifted to low-yielding money market investments and out of loans. Average commercial and consumer loans declined $85.3 million from average balances in the first quarter.

For the same period, average money market investments, including our balances at the Federal Reserve, increased by $85 million. Money market assets yield approximately 25 basis points, much less than the average yield on commercial and consumer loans of 5.46% for the quarter.

With that, including the impact from the Integra balance sheet, I expect the margin to decline in the third quarter due to lower purchase accounting accretion, but to increase in the fourth quarter due to the anticipated maturity in October of our $150 million 6.75% coupon bank subordinated debt. Without the impact of Integra we expect the margin for the fourth quarter to be back in the range of 3.60% to 3.65%.

On slide 16 I graphed our tangible common equity to tangible assets, and tangible common equity to risk-weighted assets ratios, compared to the average ratios of our peer group. The decline in our tangible common equity ratio from the fourth quarter of 2010 to the first quarter of 2011 was the result of the Monroe purchase.

Compared to March 31, our tangible common equity ratio increased 40 basis points to 9.52% by June 30. Our strong earnings for the quarter, combined with the 39% dividend payout ratio and better Other Comprehensive Income, contributed to a $24.8 million increase in tangible common equity, while tangible assets declined $65.6 million during the quarter. Combined, these account for the 40 basis point increase in our tangible common ratio from the first quarter.

Our tangible common to risk-weighted assets ratio was 14.82% at June 30, up from 14.08% at March 31, 2011. Again, our strong performance in the second quarter contributed to the improvement in this capital ratio. Both ratios are significantly higher than the capital ratios of our peers.

While we won't know the full impact on our tangible equity ratios of the acquisition of Integra until we finalize the balance sheet with the FDIC and record our purchase accounting marks and goodwill at September 30, we do not anticipate the need to raise capital to support this acquisition. Our preliminary capital market models shows that we will be comfortably above our guidelines of 6% TCE to tangible assets and 9% TCE to risk-weighted assets at September 30.

Our stock buyback authorization is still in force. But of course we do not expect to buy back shares during 2011, given the acquisition of the Integra balance sheet.

My final slide, slide 17, is a snapshot of the changes in our investment portfolio and portfolio of wholesale funding. Our investment portfolio increased slightly during the second quarter.

Based on changes in average balances compared to the first quarter of the year, the only component of investment portfolio that showed any significant increase was the Federal Reserve cash account. Our objective is to continue to reduce the risk to rising interest rates of our investment portfolio by reducing the size and/or the duration of the portfolio.

Our models continue to forecast cash flows from our investment portfolio to be in excess of $700 million in an unchanged interest rate environment. We continue to reinvest cash flows in short-maturity investments or cash; and we will use the cash flows to retire wholesale funding when we're able.

Wholesale funding continues to decline at the Company. Approximately $314.7 million of what we consider wholesale funding is corporate customer repurchase agreements, which have increased somewhat over recent quarters with the increase in customer transaction accounts. Not including these balances, wholesale funding in the second quarter was $515.3 million; and this will decline by $150 million in the fourth quarter when our bank subdebt matures.

Included in the appendix of the slide deck today are slides showing investment portfolio duration and market values by individual asset class, accumulated other-than-temporary impairment, and the securities that we have included in our other classified assets. We took only $200,000 and OTTI in this quarter on three different non-agency mortgage-backed securities, compared to $299,000 in the first quarter.

With that, I will now turn the call over to Daryl.

Thanks, Chris, and good morning to everyone. I would like to begin my remarks with the top chart on slide 19, where you can see that we continued to post strong results with respect to our 30-plus delinquency levels. Delinquencies were at 57 basis points at quarter's end, a level that continues to be considerably lower than the average results posted by the banks within our peer group.

The same comment holds true with respect to our 90-plus delinquency levels showing in the chart at the bottom of the slide. 90-plus delinquencies fell to 1 basis point of total loans at quarter's end.

On slide 20 you can see in the chart at the top of the slide that, with net charge-offs of $5.8 million against a provision of $3.2 million, chargeoffs exceeded provision expense by $2.6 million in the quarter. The need for a lower level of provision in the quarter was driven by a combination of factors, including lower loss rates in our business banking and consumer lending portfolios as well as lower loan outstandings in the quarter.

As the chart at the bottom of the slide shows, annualized charge-off rates for the quarter were 56 basis points, up from last quarter's 27 basis points but still better than the trailing peer group average of 89 basis points. Increased loss dollars out of both the commercial and commercial real estate portfolios led to the higher net charge-off levels in the period.

While our retail portfolios posted lower dollar losses in the quarter as compared to the first quarter, losses in both the commercial real estate and the C&I portfolios were higher in this quarter. In the commercial real estate portfolio, we wrote a relationship in our Louisville market down by $1.5 million due to weakness with the tenant which serves as the paymaster for the project.

In the C&I portfolio we experienced three writedowns in our Indianapolis market totaling roughly $1.8 million. The three credits operated in unrelated industries, with one being a not-for-profit, one tied to construction activities, and the third a manufacturing client.

Moving on to slide 21 you can see that criticized loans showed a $10.2 million decrease in the quarter, with the great majority of that improvement coming from the ONB legacy portfolio. The decrease was not centered in any particularly small set of larger credits, but was more broadly based, with a fair amount of movement in and out of the category in the quarter.

Slide 22 reflects an increase in substandard loan exposures, showing an $8.9 million rise in exposure in this risk category. As you can see all of the net change came out of the ONB legacy portfolio, which posted a $15.7 million increase in the period. Here again there was a fair amount of movement of credits in and out of this category in the quarter.

As slide 23 reflects, nonaccrual loans showed a relatively small decrease in the quarter, falling $3 million. Most of the net change came out of the ONB legacy portfolio, with nonaccrual loans in that grouping falling back below the $80 million level in the quarter.

Allowance coverage of nonperforming assets remained relatively unchanged in the quarter, as shown on slide 24, with lower allowance balances essentially offset by lower nonperforming asset exposure. Obviously it is important again to point out that the nonperforming loans from the Monroe Bancorp loan portfolio were brought over at fair value -- no allowance brought forward -- as prescribed by accounting conventions. Accordingly, traditional methods of measuring reserves against nonperforming loans may not be as relevant as they once were with our portfolio.

Finally on slide 25 we thought we would update you with our thoughts on credit. While credit metrics remained generally stable, as I pointed out earlier there remains of fair amount of movement of relationships within our criticized categories.

As we alluded to last quarter, the commercial real estate industry, as well as borrowers involved directly or indirectly in industries that rely on residential real estate sales and development, continue to be under significant stress. In addition, many of our commercial and industrial borrowers continue to search for signs of meaningful continuing increases in revenue.

As we continue to work through the Monroe portfolio, we find it generally carries the risk profile we expected, although it remains a little lumpy as we continue to dig into more detail and gather more financial information from our clients. With those comments I will turn the call back over to Bob.

Thanks, Daryl. I am going to review our purchase of the Integra Bank assets from the FDIC on slide 27. But just to remind you, given that the transaction just occurred over the weekend, I am going to stay at a fairly high level on the call. But we do commit to you that we will give you more detail on our next quarterly call.

Old National did purchase from the FDIC approximately $1.2 billion in loans and $1.5 billion in deposits of Integra Bank. We assume no liabilities for the holding company.

The loans were purchased under a three-tranche loss-sharing arrangement, with the first tranche containing an 80/20 loss share. This is very important to note, as our estimated credit mark is contained within this first tranche.

Our estimated bid discount as a percent of covered assets was 9.74%. We also did pay a 1% deposit premium on the acquired core deposits.

Because, as I said, the transaction did close this past weekend, we don't have final settlement numbers yet from the FDIC. Our original modeling does show that the transaction will create some amount of goodwill, the final amount of which will be determined once we have received all of these final settlements, as well as the estimated cash flows. Then through purchase accounting the amount of goodwill that we will create will be determined.

There is obviously a great deal of overlap in certain markets, as well as some new markets that may not fit into our strategic plans. We will be reviewing the branch distribution system very quickly; and I hope that you understand that our first obligation is to communicate any changes to our associates and their clients first.

This transaction does reinforce our growth within the state of Indiana and continues to solidify our position as Indiana's largest based bank, a position we feel very good about particularly given some of the recent positive press the state of Indiana has received.

As you may have noted we just recently announced that we have a $1.2 billion budget surplus for the state of Indiana. In addition, CNBC just noted Indiana is the 15th best bank -- best state for business.

Indiana's unemployment rate of 8.3% versus the surrounding state employment rates, which range from 8.8% to 9.6%, as well as a national average of 9.2% clearly put Indiana amongst the best.

Obviously we know these markets very well. We know many of their credits. But given the troubled nature of the institution, over a period of recent months we have completed multiple rounds of due diligence on both their retail and commercial loan portfolios.

We have looked at the vast majority of their commercial loans, some of them many times, to understand the continuing degradation of the credits. Also given the fact we have not done an FDIC-assisted transaction, we have visited with institutions who have successfully completed FDIC deals to learn their best practices, in order to ensure that the transaction goes as smoothly as possible.

We also engaged outside assistance in addition to our financial adviser, Sandler O'Neill. We used a firm out of Little Rock, Arkansas, DD&F, who has advised on over 140-plus FDIC transactions. Finally we did use outside resources to assist us in determining the loan mark as we prepared our bid.

We have outlined the financial benefits to Old National of the transaction. But before I cover these, I want to emphasize a few key points that our Board and management reviewed.

The transaction involves significant synergies. We estimate cost saves in excess of 75%. Because we should not need to raise additional capital and because of the successful history of integration we have enjoyed, we do believe the platform we have created should allow us to continue to be active yet diligent in mergers and acquisitions in the coming quarters and years.

The financial benefits of this transaction are strong. The accretion in the first full year of 2012 should be in excess of 25%. Excluding the one-time costs, which we estimate to be approximately $23 million and which should be realized in 2011, this transaction is immediately accretive to our earnings in 2011. We do anticipate a systems integration in mid-December.

Our efficiency ratio is estimated to be in the mid 60s in 2012, and we do believe the financial impact of this transaction will exceed our targeted IRR. This is obviously a very important transaction for Old National and one that we believe allows us to take that next step towards becoming the high-performing institution we desire to be.

At this time, Sarah, we will be happy to answer any and all questions.

(Operator Instructions) Mac Hodgson, SunTrust.

Good morning, Mac; how are you doing?

Good morning. Congratulations on the acquisition.

Thank you.

Just following up on some of those points, Bob, the cost savings of over 75%, is that off of Integra's 2010 expense base, or first quarter?

It's actually off of the -- the best analogy would be, use their first-quarter numbers, Mac. We obviously have a little more recent; we have mid-April numbers.

But the first-quarter numbers aren't that far off. But I think for your best base for modeling I'd use the end of the first quarter.

Okay, great. On the goodwill, is it possible to give any sort of range of how much you might expect?

Oh, I would love to, Mac. But I got to tell you in getting good marks etc. I would hate to even give you a range. I really don't; I can't. I'd just refer -- we can get it to you as soon as we know it would be my commitment, but we just don't know at this stage.

Sure.

It's a moving target as we try to get the balances and get all the transaction balanced over the weekends.

Okay. Just another point on that deal. You said over 25% accretion. Is that based on the 2012 Street mean? Or is that based on some sort of internal target?

That would be the Street mean.

Street mean? Okay. You guys are using $0.89, I'm assuming.

Approximately, yes.

Okay, great. Then, it sounds like, Bob, you're still interested or still available to do more deals. The Company -- despite the size of this one, maybe remind us again where you see the most opportunities going forward for additional transactions.

Yes, again, I would emphasize the word diligent. Clearly this was an important transaction for us, one that we really felt created that platform to allow us to continue to grow.

It's going to take a lot of work, and I think particularly on Daryl's part. But we're going to add the necessary resources and staffing to do that.

But, Mac, our focus will continue to be the state of Indiana. We think there's still opportunities with Indiana. Kentucky we are seeing some opportunities.

We are going to stick to our knitting in the basic Midwest markets, like we have always said. Again, we are going to be very diligent. It has to be the right deal.

Monroe gave us significant market share in Bloomington. Integra gives us that ability to rationalize our expense base and get to that efficiency ratio target and build that platform. So those would be the type of transactions we like.

Okay, great. Thank you.

Scott Siefers, Sandler O'Neill.

Morning, guys. Congratulations, first of all.

Thank you.

Feels what it's been a long time coming. I guess first question --

I think you guys thought it was longer than we did.

Yes, you're probably right there. First question is just on the cost savings -- not necessarily the assumption, but the mechanics.

Are there any restrictions or anything, given that this was an FDIC deal, on how quickly you can consolidate branches? Or does that relate to just deposits or things like that?

The only restriction is it's 12 months that you have to continue to operate in a trade area. Should we think about selling certain branches, as long as the acquiring bank agreed to commit to that trade area, then we are okay within the purchase assumption agreement.

Consolidations obviously are not affected by that. There are certain time frames where we have to notify the FDIC, because if we close facilities they will take over those leases. And we have a certain period of time in which to deal with those.

Okay. All right, so I think if I understood that correctly, probably no --

Come on, Scott, that was as clear as anything. (laughter)

But it doesn't sound like there should be necessarily too much noise then, hopefully, at least in the timing of the cost savings.

No, no, no.

Okay, all right.

Just to that point, I would just say obviously the timing of this being unique, that we had an earnings call and the announcement on this day, we did give that 75% number to the associates of Integra over the weekend in an all-associate meeting. So we are being very transparent with them as well.

Yes. Then let's see, Chris, I guess this would be best for you. But I am not sure if you will be able to answer it for next quarter. Just on the mechanics of the margins.

So Integra had a considerably lower margin. But I know you basically get to make the fair value adjustments immediately. So just as we look at or attempt to model out the Company on a pro forma basis, is it fair enough to just use the Old National margin where we are as a starting point? Or is there going to be any major discrepancy when you bring Integra's balance sheet over?

You know, it is awfully hard to say. Obviously, Scott, the balance sheet is large, and it will have some significant marks.

I feel pretty good about the estimates we provided you related to the Monroe marks and the impact for the rest of the year. But I truly believe we will have to see that first quarter, the third-quarter marks, before we can give you some good information on the margin going forward with Integra.

Okay. Fair enough. Then I guess just the last question. So, I can't recall exactly how much they had up in Chicago; but are you guys getting their Chicago presence as part of this? Does that fall into the nonstrategic stuff that you may or may not end up keeping?

We do get four branches in the Chicago market. Most of those are south of the city of Chicago. We have been pretty clear that over time Chicago probably doesn't fit in our strategic plan. But again I think we owe it to them to let them know when that final disposition; so we are going to take a look at it.

Okay, all right. Sounds good. Thanks a lot.

Sarah, before we move on, I just went to clarify an answer I gave to Mac Hodgson. So for all -- the base we use for the accretion on the 25 -- in excess of 25%, we used a mid $0.70 base. So somewhere in your modeling you should use somewhere between $0.73 and $0.75 in terms of our base. And that was adjusted for some off the Street median; so just to be fair on what we used.

Jon Arfstrom, RBC Capital Markets.

Hey, good morning, everyone. I thought the Peyton Manning contract would be the biggest news out of Indiana in the quarter. Guess not.

Well, I tell you, he could have bought the bank on his own with that contract, right?

I guess, I guess. I am assuming Jim didn't sleep this weekend, so can you wake him up for a question?

Sure, he is wide awake. Actually I am not sure any of us slept much this weekend; but Jim is here and can answer anything.

Just a question on the due diligence. I recognize you have the FDIC loss-share agreement. But curious what you learned in the due diligence process on the lending book. Bob, you touched on it at a high level. But maybe what all have you learned on that process on the health of the loan portfolio.

And then I am assuming you're going to punt on this, but I will ask it anyway. Give us an idea of what you think is core to the type of loans that you think you might want to retain out of the $1.2 billion and what you think might be noncore runoff.

Yes, I will answer the second part, and I'm actually going to have Daryl answer the first part on due diligence, because as I think everybody has heard me say, Daryl is intimately involved in any due diligence and is the single person that has a veto in any deal. So he is really the guy that can answer that.

Jon, it's best -- in terms of what I would tell you in our modeling, we have built in a pretty significant amount of attrition. We are going to continue to work to retain the best of the best; but you can imagine that a lot of the better credits have either left the bank or we have actually acquired them ourselves through just sales.

So I think for modeling purpose I would just tell you we have built in a pretty good amount of attrition. We will continue to focus on retaining those good relationships.

Daryl, maybe you could cover the due diligence here for Jon.

What we found in our due diligence was a couple of things. One is, a lot of the very poor loans that are in this portfolio today were not made out of the core operation. They were made out of the Chicago, and what they would call the Cincinnati/Covington regions. They have not originated loans, new loans, out of those regions for some time.

One of the things that we have, I guess, going for us in this transaction is the current chief credit officer of Integra is a good credit guy, well schooled, did a nice job of working on these credits once he got into that position, and has a culture sense very similar to what we here have here at Old National.

So a lot of the work to really establish the workout of these credits has already been put into place. I think that our main challenge will be in the commercial real estate markets outside of the Evansville and kind of core area.

I might mention that the chief credit officer in Integra worked under Daryl for a number of years, so he has been schooled in the way Daryl likes to operate credit.

In your prepared comments you talked about commercial real estate remaining somewhat stressed. This is away from Integra; but any signs of life or subtle changes?

I know we get mixed signals from other banks. But just curious if you could give us your views on that.

Jon, we are looking for those under every rock. We have just not found anything that we think has any legs underneath it in the commercial real estate market yet, at least in our markets.

Maybe a more detailed question for Chris. Any idea what the Monroe loan portfolio runoff was? What I am trying to get a sense of is core bank, ex-Monroe, what the loan portfolio looks like in terms of stability.

Jon, I do not have that information at my fingertips. We would be happy to provide that to you. We probably have some of that information in the Q.

Okay. But the general sense is that there was some Monroe runoff, some planned runoff?

Yes.

Okay. Then just one follow-up on efficiency. I'm assuming that you had a bit of a two-track path. Maybe one efficiency plan for no Integra deal, and one efficiency plan for the deal. Maybe just give us an idea, big-picture, how some of this changes in terms of how you look at that.

Yes, what it does, Jon, is I talked about those capacity-based reductions where we just weren't getting the volumes -- whether it is proof in transit, loan volumes. We are deeply committed to continue to look for ways to improve efficiencies around process control.

Part of why John Kamin has joined our Company is to do things in the back shop and help us to become more efficient in our technology. Some of that is people cost, but a lot of it is just really process cost.

So the good news for the associates of Old National, it kind of takes that cloud of every quarter having to have layoffs and every quarter having to have announcements. But I think as investors we would tell you we're going to continue to look for ways to become more efficient, and continue to find ways to improve the way we deliver our products.

But clearly this transaction gets us to a target. But obviously you don't stop there; you continue to look for ways to get better.

Okay. All right. Thanks for the help.

Kenneth James, Sterne, Agee.

Good morning. Just a question on capital. Given that you have given the asset discount bid and the deposit premium, I feel like I can take a fairly good stab at the goodwill. Chris said something about being comfortably above 6% TCE; and I am still above 7%.

Are you just being conservative? Or do you think there is a piece of something that I could be missing?

Kenneth, have we ever not been conservative?

Okay.

It really gets to the point of the goodwill, and until I have that final number I just want to be more direct. But I would say your assumptions are not that far off.

Okay. Then in terms of the base you are using for the accretion, the $0.73 to $0.75 looks more like the 2011 consensus. So are you implying that you have got 25% accretion on that run rate to carry into 2012? Or that 2012 estimates were too high?

It's a little of both. I would tell you that our accretion is in excess of 25%. In the base, we did build some cost back into that base.

Because remember, your estimates may or may not include -- we had frozen incentives; and obviously at some stage I've got to put incentives back in place in part. Some of our associates may hear some news on that here fairly frequently.

But we are conservative in our 2012 estimates. We wanted to make sure as we presented this to the Board that we had built as many things as we could into it. So it is a balance in that -- just remind you that our accretion is in excess of 25% and our base is probably a little different than what you showed.

Okay. Then in terms of Integra, it's obviously shrank quite a bit and lost quite a few customers over the last couple years. A lot of that was probably hot money and out-of-market business that needed to go away.

But how many customers do you think they lost in core Indiana bank customers? What do you think your opportunity is to maybe make some remediation efforts to get those back? How many of those do you think you ended up with anyway?

Yes, you know, I think on the commercial side that is probably true in a lot of cases. We think there is still a lot of opportunity. I think Jim Sandgren and his team have done a good job getting the best relationships, or many of the best.

But what I would tell you, having visited nine branches on Saturday as we reopened as Old National, retail customers in particular are very, very loyal. This is a 160-year-old institution that has been in a lot of our communities for a lot of years. And customers felt a real attachment to the associates of Integra who -- as I told them both Friday night and yesterday -- they didn't cause this problem.

So I think on the retail side there is a lot of loyalty, and they have not had the attrition. Yes, clearly there is some hot money that will scoot pretty quickly. But we think the core franchise has stayed pretty well intact.

On the commercial side, probably not as much. I think people were nervous about the continuing and ongoing. But I think Jim has landed a lot of those clients, and we're going to continue to go after some of those that may have left. Obviously getting significant market share in these markets gives us a real advantage.

Okay. Thanks a lot. You didn't disclose the loss threshold for the loss-share did you?

No, no. It will come out as the P&A gets filed here in the next -- we will file the P&A on Wednesday.

Okay. Thanks a lot.

We're still finalizing some of those dots.

Jeff Davis, Guggenheim Partners.

So Jeff, how are you?

I'm well, thanks. But my questions have been answered. Congratulations.

John Barber, KBW.

Good morning, everyone.

Good morning, John. How are you?

I'm doing well, thank you. Just wondered if you could talk about some of maybe the best practices you've learned looking at other banks that have completed FDIC deals.

How do you anticipate you will handle the loss-share agreement in the Integra deal? Do you think you will dedicate a specific team just solely to working on it?

You just hit on the best practice we learned. We went to Simmons first, and we went down to Home Bank, and then DD&F. The biggest lesson we took away from it is loss-share is absolutely critical.

We are taking one of our best and brightest accountants that works for Joan Kissel, our Controller, and his single responsibility will be to focus on this loss-share because so much of it is under purchase accounting. He will report to both Daryl and Chris, and he will have a team of experts that will surround him as we go through that process.

We're also using an outside party that has done nothing but deal with loss-share as another resource to help us as we navigate through that.

You know, there are subtle things also, John, that we learned. The HR process -- we are using a group called [On-Call] to onboard all of the folks from Integra because of the nature of the transaction. It just makes it so much easier for those associates as well as our own ability to capture that.

How you market; how you communicate; the invaluable lessons we learned. But the biggest lesson we really learned was around the loss-share and how to handle that.

Okay, thanks. Regarding your Monroe deal I think you mentioned credit's been performing within your expectations but you expect it will be a little lumpy going forward. Do think that is going to be mostly CRE?

Then also how is customer retention compared to your expectations?

I will cover the retention part, which has actually been better than our modeling showed. We have been very pleased, not just with the retention. We are getting a lot of opportunities and at-bats at credits that -- and opportunities.

We just last week learned we are a finalist for a pretty significant merchant processing business with -- if we get it, it's a name everybody will know. And those wouldn't have happened prior to the transaction.

So great leadership in the market with Mark Bradford and his team, and the customer retention has been very good. I will let Daryl talk about the lumpiness.

Yes, John, I think you are right; the lumpiness will come out of the commercial real estate portfolio, but only really because that is the majority of what that portfolio is anyway.

I think the lumpiness really comes as we continue to dig into credits. Our expectations with respect to financial information and financial reporting are a little more stringent than what Monroe had. So as we began to really get good financial information, solid financial information, that is what makes this a little lumpy as we look at each of those individual credits.

But just by default it will be commercial real estate. That's the majority of that portfolio.

All right, thanks. The last question I had was -- could you just talk about your loan pipeline and how that looks relative to last quarter and maybe six to 12 months ago?

Yes, it's maybe slightly better than last quarter, but it isn't anything that we are doing cartwheels over. Clearly better than a year ago.

As I said we have seen some optimism in people using their lines. Most of that line utilization has been for CapEx, which is a good thing.

But I would say the pipelines are just slightly better, but it's still nothing that is significant. I think if we get this debt ceiling passed today and some other, we may get a little more optimism. But the market is still pretty soft.

Great. Thanks for taking my questions.

Bryce Rowe, Robert W. Baird.

Good morning, Bryce.

Good morning, thanks. My question was answered, but appreciate it. Thank you.

David Long, Raymond James.

Good morning. Congratulations on the deal and a good quarter.

Thank you.

Getting back to the guidance or the accretion that you were talking about and the, call it $0.74 base that we should be thinking about. Now that is roughly 18% below what the Street mean was for 2012.

When you guys are saying your estimates or your internal forecast is more conservative, should we be looking at it as you guys just being more conservative on the expense line? Or are there more lines that you think that maybe were misunderstood on the Street with the consensus number? Thanks.

No, I think it is all on the expense line. Again as you think about adding back incentives -- and I think we probably weren't as -- we probably were a little more conservative in our ability to get to $0.65 than maybe the Street was. We clearly knew we would get there; but until I can put runs on the board I am not going to do that.

So I think any variance between the estimates would really be on that expense line.

Okay, thanks.

At this time there are no further questions.

Great. Operator, thank you very much. Obviously if there's follow-up questions, contact Lynell.

We appreciate everybody's interest and thank you for your attention.

This concludes Old National's call. Once again, a replay along with the presentation slides will be available for 12 months on the investor relations page of Old National's website, OldNational.com. A replay of the call will also be available by dialing 1-855-859-2056 or 800-585-8367, conference ID code 820-00-278. This replay will be available through August 15.

If anyone has additional questions, please contact Lynell Walton at 812-464-1366. Thank you for your participation in today's conference call.