Bank Ozk (OZK) 2010 Q2 法說會逐字稿

Good morning, ladies and gentlemen. My name is Tina and I will be your conference operator today. At this time, I would like to welcome everyone to the Bank of the Ozarks' second quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session. (Operator Instructions).

Thank you. Ms. Blair, you may begin your conference.

Thank you and good morning. I'm Susan Blair, Executive Vice President in charge of Investor Relations for Bank of the Ozarks.

The purpose of this call is to discuss the Company's results for the second quarter of 2010 and our outlook for upcoming quarters. Our goal is to make this call as useful as possible in understanding our recent operating results and future plans, goals, expectations, and outlook.

To that end, we will make certain forward-looking statements about our plans, goals, expectations, thoughts, beliefs, estimates, and outlook for the future, including statements about economics, real estate market, competitive, credit market, and interest rate conditions, revenue growth, net income and earnings per share, including our goal of increasing net income further in future quarters from the level achieved in the quarter just ended; net interest margins; net interest income; non-interest income, including service charge, mortgage lending, and trust income; non-interest expense; our efficiency ratio; asset quality and our various asset quality ratios; our expectations for provision expense for loan and lease losses; net charge-offs and our net charge-off ratio; our allowance for loan and lease losses; loan, lease and deposit growth; changes in the volume of our securities portfolio; the opening of new banking offices; and our goal of making additional FDIC-assisted failed bank acquisitions.

You should understand that our actual results may differ materially from those projected in any forward-looking statements due to a number of risks and uncertainties, some of which we'll point out during the course of this call. For a list of certain risks associated with our business, you should also refer to the forward-looking information caption of the management's discussion and analysis section of our periodic public report, the forward-looking statements caption of our most recent earnings release, and the description of certain risk factors contained in our most recent annual report on Form 10-K, all as filed with the SEC.

Forward-looking statements made by the Company and its management are based on estimates, projections, beliefs and assumptions of management at the time of such statements, and are not guarantees of future performance. The Company disclaims any obligation to update or revise any forward-looking statement based on the occurrence of future events, the receipt of new information, or otherwise.

Now, let me turn the call over to our Chairman and Chief Executive Officer, George Gleason.

Good morning. Thank you for joining today's call.

We are very pleased to report excellent net income and earnings per share for the quarter just ended -- results second only to this year's first quarter. Compared to this year's first quarter, our second quarter highlights include further improvement in our deposit mix; an increase in our net interest margin; record income from service charges on deposit accounts; growth in our loan and lease portfolio; and further improvement in most of our asset quality metrics. Let's look at those details.

Net interest income is our largest source of revenue. Of course, net interest income is a function of both net interest margin and the volume of average earning assets. Over the last three years, we have had very favorable improvements in our net interest margin. This improvement continued in the quarter just ended, as our net interest margin increased to 5.10%, an additional 11 basis points from the immediately preceding quarter. That's a 30 basis point increase from last year's second quarter.

A number of factors contributed to the boost in our second quarter net interest margin, including further improvement in our deposit mix. Our mid-May repayment of $60 million of maturing FHOB advances yielding 6.27%, which made them our most costly interest-bearing liabilities; and a decline in interest reversals related to new nonperforming assets.

The improved quality and profitability of our deposit base over the past couple of years has been one of the factors which contributed to our improved net interest margin. Although total deposits have declined in the past year or more, as we've adjusted our balance sheet -- primarily for the reduction in our investment securities portfolio -- we have experienced two very favorable trends regarding deposits.

First, our non-CD deposits have grown significantly. For example, from June 30 last year to June 30, 2010, total non-CD deposits increased from 48.3% to 63.4% of total deposits.

Secondly, brokered deposits have been significantly reduced. For example, from June 30 of last year to June 30 of this year, such deposits decreased from 4.3% of total deposits to just 2.3% of total deposits; and as recently as two years ago, that ratio was as high as 18.8%. Not only have these changes helped improve our net interest margin, but they also have had favorable implications for business development opportunities and service charge income.

As a result of our favorable net interest margin, we had another good quarter of net interest income, although we did fall short of our goal of achieving record net interest income for the quarter. Specifically, net interest income for the second quarter was $29.7 million, a $0.6 million decrease compared to $30.3 million in the second quarter of last year, but a $2.5 million increase from $27.2 million in this year's first quarter.

This decrease from last year's second quarter was attributable to our declining average balance of earning assets, which resulted primarily from our being a net seller of investment securities throughout 2009 and, to a lesser extent, for the year-to-date in 2010. This reduction in our investment securities portfolio was undertaken primarily as a result of our ongoing evaluations of interest-rate risk, and reflects our emphasis on long-term performance over short-term results.

The sales of investment securities in the quarter just ended were also intended to free up capital, which we hope will allow us to make additional acquisitions for banks and FDIC-assisted transactions in the second half of this year.

In regard to our investment securities portfolio, we've stated many times that we will manage our securities portfolio with a view to maximizing our long-term total returns, buying when we believe it is advantageous to buy, and selling when we believe it is beneficial to sell. Therefore, the volume of our securities portfolio may increase or decrease in coming quarters based on changes in market conditions, changes in our balance sheet, changes in our assumptions regarding interest rate risk, or other factors, including actions to free up capital for potential acquisitions.

We have said for several quarters that to get back on a record quarterly pace for net interest income, that we will have to grow earning assets. The addition of covered loans is part of our Georgia Bank acquisition toward the end of the first quarter, resulted in our achieving good growth in average earning assets in the quarter just ended. This growth in earning assets, combined with the further improvement in our net interest margin, got us close to our goal of achieving record net interest income for the quarter just ended. That is a goal we will continue to pursue.

Let's shift to non-interest income. Income from deposit account service charges is traditionally our largest source of non-interest income. We are very pleased to report record service charge income for the quarter just ended, which represented a 29.1% increase from last year's second quarter. For the first six months of this year, service charge income is up 22% from the first six months of last year.

These increases reflect a number of factors, including the significant organic growth in our number of core deposit accounts; the increased utilization of fee-based services by many of our customers, and the addition of core deposit customers as part of our Georgia Bank acquisition late in the first quarter. In addition, we have benefited from better economic conditions in the first half of 2010 as compared to the first half of last year.

Mortgage lending income in the quarter just ended was down 25.6% from the second quarter of last year, and for the first six months of this year, it is down 31.4% compared to the first six months of last year. It's been a challenging year to be in the mortgage business, but we were pleased to see our results in the quarter just ended improve nicely compared to this year's first quarter results.

The recent drop in mortgage rates should bode well for refinancing activity, but on the other hand, the expiration of the Homebuyer Tax Credit Program creates considerable uncertainty regarding the volume of future mortgage applications for home purchases. Our pipeline looks good today, but that is only indicative of activity for about a month.

Our trust income increased 5.7% in the quarter just ended compared to the second quarter of last year. For the full year of this year, our trust income was up 22.7% compared to the first half of 2009.

Net gains from investment securities and sales of other assets in the quarter just ended were $2,090,000 compared to net gains in such categories of $16,487,000 in the second quarter of last year. Net gains from investment securities and sales of other assets in the first half of this year were $3,714,000 compared to such net gains in such categories of $20,534,000 in the first half of last year.

Let's turn to non-interest expense, which increased 17.6% compared to the second quarter of 2009. Our non-interest expense in the quarter just ended was significantly impacted by several factors, including write-downs totaling $2.8 million and the carrying values of certain items of foreclosed real estate.

During the first half of this year, we have vigorously worked to sell foreclosed assets, and we've achieved considerable success as evidenced in the $16.5 million decline in our volume of such assets from year-end 2009 through June 30, 2010. In an effort to continue to achieve further significant reductions in our volume of foreclosed assets, we reviewed all such assets and all related marketing plans toward the end of the second quarter. In those cases where we felt that our listing prices might be impairing our ability to achieve sales at reasonable market prices, we lowered the listing prices of those assets and wrote down our carrying values as appropriate.

In addition, second quarter non-interest expense also included costs associated with due diligence on a number of potential acquisitions. The upcoming systems conversions for our recently acquired Georgia offices and development of a new marketing campaign to be launched in the third quarter of 2010. Of course, for many years, one of the strengths of our organization has been our excellent efficiency ratio and we expect that strength will be evident in future results.

While we're discussing overhead, let me mention that despite our current focus on FDIC-assisted failed bank acquisitions, we are continuing our growth in de novo branching strategy, including plans to open a third banking office in Benton, Arkansas in late 2010. We expect de novo branches to continue to be an important part of our business strategy in future years, but to take a back seat this year and next, as we focus on acquisition opportunities for failed banks.

One of our long-standing and key goals is to maintain good asset quality. Economic conditions have made our traditionally strong focus on credit quality even more important. Over the past several years, we've dealt with a number of asset quality challenges and we think we have been relatively successful in handling those issues.

In our last three conference calls, we've stated our belief that we are past the midpoint of the current credit cycle, and therefore, we believe that our allowance for loan and lease losses ratio has already peaked. As you will recall, the recent high point for our allowance ratio was 2.19% of total loans and leases at June 30 of last year. We continue to believe that the 2.19% allowance ratio was the peak for the current credit cycle.

I also stated in our January call, and reiterated in our April call, that while we expect our net charge-off ratio, net charge-offs and provision expense to vary from quarter to quarter in 2010, we believe that on average, these three metrics will show improvement in 2010 compared to the results achieved in the fourth quarter of 2009. That continues to be our expectation.

And as expected, both our first and second quarter results were consistent with that guidance, showing positive asset quality trends compared to the fourth quarter of 2009. Specifically, our annualized net charge-off ratio in the quarter just ended improved to 0.65% compared to 0.86% in this year's first quarter and 1.08% in the fourth quarter of last year. Our net charge-offs in the quarter just ended improved to $3.0 million compared to $4.0 million in this year's first quarter, and $5.3 million in the fourth quarter of 2009.

Our provision expense in the quarter just ended improved to $3.4 million from $4.2 million in this year's first quarter, and $5.6 million in last year's fourth quarter. In addition, our ratio of nonperforming loans and leases to total loans and leases improved to 0.87% at June 30, compared to 1.02% at March 31 of 2010 and 1.24% at year-end 2009. Also, our ratio of nonperforming assets to total assets improved to 2.12% at June 30 from 2.68% at March 31 and 3.06% at year-end 2009.

And finally, our ratio of loans and leases past due 30 days or more, which includes past due non-accrual loans and leases, as a percentage of total loans and leases increased to 1.80% at June 30 from 1.70% at March 31 of this year, but was still a decrease from 1.99% at year-end 2009.

In closing, we think we had another excellent quarter. Our goal for the third quarter of 2010 -- and we believe it's a reasonable goal -- is to achieve net income, exclusive of any bargain purchase gains from acquisitions, in excess of our second quarter net income. For future quarters, our goal is to increase net income each quarter. Of course, we certainly hope to do more FDIC-assisted loss-share transactions. And if we can do more, such transactions may result in significant bargain purchase gains and even higher quarterly net income results.

That concludes my prepared remarks. At this time, we will entertain questions. Let me ask our operator to once again remind our listeners how to queue in for questions.

(Operator Instructions). Andy Stapp, B. Riley & Co.

Good morning. Nice quarter. Could you talk about your loan pipeline and how it compares to last quarter at this time?

We closed several significant transactions in the second quarter. We continued to see also some pretty significant runoff from the existing portfolio in the quarter. So I would say the second quarter results and the third quarter expectations are probably somewhat similar, except that we don't have as many large new transactions in the pipeline right now for Q3 as we did when we did the call in April.

But we do have a number of transactions we are looking at. We are hopeful we will get those closed. We are hopeful that will generate some positive loan growth for us for Q3. Honestly, it's harder for me to be optimistic about loan growth in Q3 than it was in Q2, because in Q2, we did have a couple of very large transactions that were on the cusp of closing that we did close, that we think made some very positive additions.

I'm not negative about our prospects for loan growth in Q3; I just don't have those larger transactions in hand this quarter that I had last quarter, that allowed me to be a little more optimistic on the call. So I would say it's a little more doubtful that we can have positive loan growth in Q3 but that is our goal for Q3.

Okay. And could you provide some color on the marketing campaign that was referenced in your earnings release?

Yes. We've been working really throughout the whole quarter to develop and implement a marketing campaign that really is very much a retail-oriented marketing campaign; much more comprehensive and focused than anything that we have probably ever done before as a company. And we expect to launch that sort of midway to the late part of the third quarter.

It's just a follow-through to this several-year really retail customer development campaign that we've had going on organically within the Bank. We've added thousands and thousands of new core account holders, non-CD account holders; had very good results adding new customers. And as we have looked at ways that we could continue to expand that core customer base going forward and looking toward a more normalized economic environment somewhere down the road, we felt like it was probably time in the evolution of our Company to become a little more marketing-oriented.

And we're following our long-standing tradition of being fairly stingy in the expenditure of marketing dollars and keeping those dollars very focused. But we think this will be a cost-effective campaign that will communicate the image of high-touch, high customer service that has been so successful for our Company. But maybe a lot of people in the market are still not fully aware of our strong commitment and strong quality of customer service.

We think that the timing is right for that because there are still a lot of customers that seem very interested in moving, based on the financial conditions and challenges that some of our competitors continue to face. So we think it's an opportunistic time to pursue that campaign.

Okay. I have some other questions, but I'll get back into queue.

Joe Stieven, Stieven Capital.

First of all, great quarter again. George, on the expense side, it really is my only question -- you had $2.8 million of foreclosed property write-downs and you also talk about some other additional expenses. Can you quantify the other additional expenses you guys are incurring right now, so we can get this more or less as a core Bank of the Ozarks run rate? That's number one.

Then number two is, as outsiders, how do we try or how can you help us model some of your foreclosed property expenses?

Okay. Well, let me take a shot at that. First, on the other non-interest expenses, we reference our upcoming system conversion costs for our Georgia offices. I think we have spent approximately $300,000 -- yes, Paul is nodding affirmatively -- toward that conversion project in Q2.

The conversion actually takes place in about a week, 10 days, something like that, over the weekend. It's two weekends out. So we'll have a little more conversion expense, although most of that was expended in Q2. We'll have a little bit more of that in Q3. And then subsequent to that, that actually ought to be a cost savings, because once we get converted off their system, there's some labor costs involved in that as well as some systems and operational costs involved, once we get on our system.

So that is an expense in Q2 that will be a less expense in Q3 that will kick in as a cost savings you'll see in Q4.

We had a number of due diligence teams out and did due diligence work on a number of banks. I would guess we've spent $100,000 to $200,000 on due diligence expense. That's probably an ongoing expense in future quarters as long as we're in an opportunity-rich environment.

The marketing campaign, we did amp up those expenses -- a lot of production costs and planning, and prep costs and research costs in Q2. Those costs will sort of be replaced by the actual cost of running the campaign in Q3 and Q4. So that really is an ongoing increase in costs, but we feel that that will be an appropriate and cost effective expenditure for us, because we think it will help us continue to drive in a lot more core business in the franchise.

So some of these increased costs such as the systems conversion are temporary, go away, and actually lead to savings. Some of them, like the marketing campaign, are more permanent rampup costs. We probably added, I would guess, $200,000 to $300,000 of marketing-related costs in the quarter.

Okay, thanks, George.

Derek Hewett, KBW.

Could you talk a little bit about the three large OREO properties? I was looking for the original loan amounts and then the current carrying values.

And then also with regard to the specific OREO project, what was driving the OREO write-downs, that $1.5 million in the first quarter and the $2.8 million in the second quarter? What specific projects were those?

Oh, Derek, it wasn't specific projects.

Okay.

I mean, we probably wrote down 30 assets in the current quarter. Basically what our program is to do is to review the carrying value of those assets at least once every quarter. And sometimes the carrying values get reviewed more frequently than once a quarter.

But we review our carrying values on a quarterly basis. We adjust our values if we think that they're not consistent with what we expect to net from liquidation of those properties. And we did that in the first quarter. We did that again in the second quarter.

I would tell you that I think we probably took a more aggressive stance on that in Q2 in June, when we did that review, than we've done before, because we sold a lot of OREO in the first half of the year as evidenced, even with the addition of new OREO properties, we were down $16.5 million from December 31 to June 30.

And we've got some momentum there. We like that momentum. And we're just trying to flush as much of this stuff through the systems as we can and put as many aspects of the recession behind us as we can.

So we look very hard at our marketing strategies. We ask a lot of very critical questions of the realtors and other people that are marketing these properties and said, what's it going to take to get this sold in a reasonable period of time? And if we're not on market or not right in the center of the strike zone on value where we ought to be able to sell these things, what's it going to take to get us there? And we're very aggressive in that.

The fact that we took those write-downs suggests that, in some of those markets on some of those properties, that we're continuing to see some declines in values. We're just trying to stay current with that and even get ahead of that, and put those assets on our books at a value where we can market them.

If you keep things snugged up and cleaned up on an ongoing basis and you don't defer things that it might be comfortable or convenient to defer, then you have a clean house all the time and you don't have big messes that develop. So, we're just trying to constantly keep those values scrubbed up to an appropriate value.

So I don't know if that answers your question. You asked about several larger properties and --?

Yes, the two in Northwest Arkansas and then the one large OREO in Dallas.

Yes, okay. The large property in Dallas, we did not take any write-down on that. We had that property appraised three times last year. Our carrying value on that property is way below the lowest of those three appraisals. And we think that is a very strategic piece of property in that market and an extremely valuable piece of property.

We're not going to try to market that in a rapid fashion; we're going to try to market that property in a reasonable fashion reflective of the intrinsic value and status of that property in the market. So I'm not going to write that down as long as market conditions are where they are, because I think it's worth more than we're carrying it at. And as the economy improves, I think that property gets worth a lot more.

So that property is one that, in my mind, is a little bit different status than most of our other OREO properties. We've got a couple of others that are that way that are really high-quality, high-value properties. And we would like to sell any piece of OREO, but I'm not going to get in a hurry to sell those and sell them for less than what they're worth, because I think there's a lot of value there.

The two largest OREO properties in Northwest Arkansas -- I'm assuming you're talking about our two residential subdivisions?

Correct.

One of them we're having excellent sales on. We've sold lots every quarter since we took that back. There's building activity going on there. We've got a number of interested parties in additional lots. And we were so aggressive when we put that in OREO, that we wrote it down.

So at the rate and price we're selling lots, we will have our -- we're treating proceeds from lot sales on a cost recovery basis, so we'll probably have our value on that subdivision at $0 with about 60% of our lots sold. So that actually is a project that has such stature and interest in the community and velocity that I consider that similar to the Dallas project as a very valuable strategic project. And we expect to ultimately end up making some nice gains; after we reduce our value to $0, any sales proceeds after that will be gains.

We did take -- on the other project up there, we did take a pretty good write-down. And I don't remember the exact amount, but it was half or slightly more of our total write-downs were associated with that other project. It's going very slowly. We basically sort of reached the conclusion that we don't think we'll actually be ripe to do a lot of aggressive marketing on that project till probably next year.

So as a result of that, we wrote it down fairly aggressively. The rest of the write-downs were scattered, as I said, probably over 30 properties or so.

Okay. And just to be clear that -- when you're talking about half of the write-downs were associated with that one project, that's half of the $2.8 million?

Yes.

Okay.

Yes. And it's a little more than that. I don't remember the exact number; I apologize.

Okay. Thank you very much.

Kevin Reynolds, Wunderlich Securities.

Okay. (multiple speakers) I was sort of trying to multitask here, but it sounded like you were -- you talked a little bit about additional FDIC-assisted acquisitions in the second half of the year. I'm trying to get a feel for whether or not you see a change out there.

It sounds like there's a little bit more specificity in terms of the way you're thinking about it today than a general concept. Or is it just that we're now in the second half of the year and, eventually, some of these things just have to get shut down if people do their jobs?

Well, there seemed to be a lull in the pace of things for part of the second quarter. And some of the public commentary from the FDIC guys, including Sheila Bair, suggests that the resolution pace is going to pick up, from what I understand.

So we are very active. We've had our maximum capacity of due diligence team members out there for most of the month of June looking at opportunities. And we are actively looking, bidding, planning to bid on various opportunities that we see.

So that has led us to really do a lot of things to prepare staff-wise, operational-wise, balance sheet-wise to get in a max position to try to capitalize on some of these opportunities. I mentioned in my prepared remarks that we sold off some additional securities toward the end of the second quarter. And part of our thinking was that we're entering into a period of substantial opportunity, and we could liquidate some securities, probably improve our long-term interest rate risk profile, and at the same time, free up capital to use for additional acquisitions. So we've consciously made some balance sheet adjustments to try to put ourselves in a position to put our maximum foot forward here on capitalizing on opportunities.

Okay. And then, I guess, a follow-up to that -- the focus has been on FDIC-assisted deals recently, I guess, across the industry. But do you have any appetite over the next, I don't know, six, 12 months, to pursue potentially some smaller open bank deals of companies that perhaps survived but have a little Board fatigue and maybe can't tap the capital markets, as you look out there across the states you want to be in?

You know, we, like most other healthy banks, I would suspect have had several calls from bankers or investment bankers pitching those sorts of transactions. And we've given a cursory look here and there at things that we thought might have some interest; but honestly, for the most part, we've passed up the opportunities to look at those because the FDIC-assisted transactions seemed much more compelling.

I wouldn't say we wouldn't do one of those if a particular strategic fit came along, but the FDIC transactions with a negative bid and a loss-share agreement are pretty compelling opportunities.

Okay. Thanks a lot. Great quarter, George.

Dave Bishop, Stifel Nicolaus.

I saw additional nice momentum, as you alluded to, in terms of the net interest margin this quarter. You'd obviously benefited from the mid-quarter repayment in the [flawed] borrowings there and some additional pricing opportunity as a deposit. Do you think we peaked at -- you peaked out here, though, in terms of the -- or, I guess, floored out in terms of the overall cost of funding? Or do you see additional opportunities there remaining in the marketplace?

Oh, David, it -- that's hard to know. We can probably get a few more basis points out of the cost of funds. As a practical matter, it's going to be hard to translate that into much further improvement in the margin.

I'm hopeful we've got a little bit more upside room in the margin from the 5.10% number, but that's going to be fairly limited. And I did give back part of my benefits late in the quarter, part of the benefits from prepaying those FHLB advances -- or paying off; not prepaying, but paying in maturity those FHLB advances.

We gave up when we had a little more shrinkage in the bond portfolio, because some of the bonds we sold had yields that were not dissimilar to the cost on those borrowings. So I gave up some of that margin when I sold those bonds. But our strategy is very simply we think repositioning in our balance sheet to allow us to max out FDIC opportunities is a much more judicious investment. So we basically traded out of some things in the expectation it was a good time to trade out of those. And we would be able to trade back into covered assets and acquisitions.

So what I would tell you is the 5.10% margin is probably a pretty good proxy for where we're going to be if we don't make additional FDIC acquisitions. If we're successful in making additional FDIC acquisitions, we think those investments are even more profitable than the bonds we sold, so I think then we've got some fairly considerable more upside to the margin. But apart from making additional acquisitions, it's probably hard to get much more improvement out of the margin.

In terms of the securities portfolio, I guess there's been some general angst out there in terms of -- with tax burns at local municipalities and state governments or so -- are you seeing any sort of underlying stress at all, in terms of underlying credits or cash flow payments within the portfolio?

Not any more than you would normally see in a portfolio. You've got a bond portfolio, you've got to manage it like any other portfolio. And you've got to constantly get current financials on all of your issuers and understand where they are. And you see things that are not working like you thought they would, you trim the portfolio and move those things out.

So we've always had a very active management program in the portfolio. I would tell you we're not seeing problems or issues there that I would characterize as much different than you would see in a normal economy.

The products that we buy in our bond book, particularly our municipal book, they're pretty high-quality products. And our history has just been excellent. In the entire 31 years I've been managing the portfolio, I don't think we've ever had a credit loss on a municipal bond. We had -- took a hit on a Sally Mae bond. We took a hit on a mark-to-market markdown on a -- or a impairment markdown on a trust-preferred security, which by the way, we liquidated in the second quarter; it's gone.

So, a Salle Mae that we liquidated back in '09, I guess, or '08, and a trust preferred; and other than that, we've really not had any credit-related losses in the portfolio. I had one municipal bond about 10 or 15 years ago that got into some degree of problem, and us and the other bondholders on it agreed to lower the interest rate on the bond, and the issuer ultimately paid us off in full, although we got a reduced rate of interest for a few years on the deal. So that -- our experience with our municipal bond portfolio has been just nearly flawless.

Great. Thanks for the color.

Matt Olney, Stephens Inc.

Hey, George, if I understand the discussion on the OREO expense, it sounds like the $2.8 million is just the OREO write-down expense and does not include the actual collection repo expense, is that correct?

That's correct, yes.

What would that number be for 2Q, just the repo expense?

Matt, I have no idea. It wouldn't be particularly different than it's been in recent quarters.

I'm showing it's been about $1 million the last few quarters -- does that sound right to you?

Matt, I'll just have to -- I don't have that number in front of me; I'll just have to get it for you. In the 10-Q, it will be in the 10-Q. Greg is looking at a report -- there are several line items that get combined in our internal reports on that. And he's adding it up real quick and saying he thinks it's about three-quarters of a million dollars in loan collection repo expense; but put a big asterisk by that, that it's a quick, off-the-top-of-the-head number. But we'll have it in the 10-Q in a couple of weeks.

Okay, thanks. And back on the FDIC discussion or FDIC acquisition discussion, we've seen some activities from some private equity firms recapitalizing some of these problem banks before they get into receivership. Can you give us any commentary if you've seen any of that from some of the banks that you've been on, that the ultimate winners of the deals sometimes are PE firms that recap the banks before they actually fail?

Matt, I think I'm actually specifically prohibited from our confidentiality agreements with the FDIC from commenting on that. So, I'm going to have to pass on that one.

Okay. And last question, you've given us some great disclosures on the construction book in the 10-Q, as far as interest reserves and average loan to cost, but what about the non-owner-occupied CRE portfolio? What's the outlook for that portfolio and how much of that book do you think's coming due over the next year or so?

Well, I think the outlook for their book is excellent. And that book of business was actually the driver in our loan growth in the second quarter. We had $32 million in growth in that -- in our CRE book and the -- in the quarter, so we were very pleased.

And basically, all of that growth was a result of about -- in round numbers, $40 million of deals on two shopping centers that are high-quality, preeminent shopping centers in their respective markets, that were done at about a 55% loan to cost. We financed the purchase of those. And I think our loan was 55% of the cost of the purchase in round numbers. I might be off a couple of percent one way or the other there.

But you know -- and that's fairly indicative of most of that CRE portfolio. Most of it has substantial equity in it, although that may be a little better than average by far in the portfolio. But most of it has substantial equity in it and we're expecting that to continue to perform very well.

As I've said a number of times in the conference calls and public communications, the majority of our challenges have been in our construction and development book. To the extent that we have challenges in the future, I think they'll continue to be in the construction and development book.

But with that said, we are continuing to originate new volume in the construction and development book. Now, our construction and development loan portfolio actually declined $4 million and change in the second quarter, but we originated a lot of new product in that book. So there's a considerable amount of movement in that portfolio.

Okay. Thanks for the update.

Yes. Thank you. Appreciate the question.

Andrew Boord, Fenimore.

My question, I guess, is, as you're out talking to customers and beating the bushes and whatnot, what are you hearing out there on the economy and perceptions of the economy and whatnot?

Andrew, probably all the same mixed signals that you and everyone else that's monitoring all of this hears every day. You know, you hear a blend of positive things and a blend of negative things.

The economy is actually working out very much as we expected it to. I think you and I probably talked about a year ago, and as I traveled throughout last year and even in the early and mid-part of last year, and people would ask me for my prognosis. About a year ago was when everybody was trying to figure out whether it was a U-shaped recovery or a V-shaped recovery and a L-shaped recovery. And I probably have said 100 times to different investors that my view of the US economy was that it fell from a 10-story window and hit the sidewalk, and my view of the recovery is, is that we crawled down the sidewalk.

And that sort of seems to be, in my view, the assessment that I would say is the most likely case for our economy. I don't see a U or a V; I think we're just at [kind] of an L-shaped recovery. We adjust to a less robust period of growth in the United States economy.

I spoke -- was a keynote speaker to the 40 Under 40 Group here in central Arkansas a week or two ago. And I told them as part of my remarks that they're going to have to achieve greatness in the midst of a different environment in the next 30 years than I've enjoyed in the last 30 years. Because of the leveraging in the US economy over the last 30 years, we've had a 30-year unsustainable growth rate in the US economy, and deleveraging has already started, but is going to continue for a long time. And I think that means a slower growth rate in the US economy going forward. So for many years and probably several decades.

So the economy is doing about exactly what we thought it would do and that is just crawl down the sidewalk, bloodied and battered. And I think that's the environment we're going to be operating in for awhile.

But you don't see the more recent changes in the last month or two or if people have gotten more negative? Have you seen any effect, I guess, on the underlying businesses?

You know, we live a long way from Wall Street and there was a sense out here that things were not as robust probably in the first quarter as Wall Street thought things were. And just because our friends in Europe are having lots of problems, I don't think the sentiment here in the Heartland has reversed course as much.

Certainly, everybody has stocks or 401(k)'s or one thing or another, and you tend to be a little more optimistic when those things are going up when they're going down. But the real economy out here, what's getting bought and what's getting sold, and who's doing business and so forth -- I think it's probably moved up or down much less dramatically than the stock market has in Q1 and Q2.

And yes, I would say probably the sentiment is a little more negative now just because of the constant beating of a negative drum from the news than it was three months ago. But I mean, we're seeing business get done. We're seeing properties get sold. People seem to think it's a good time to get out and start doing some things.

So I think we're just -- I think we're crawling down the sidewalk. And I think that's about where we keep going. I don't think there's fundamentally much difference in our local economies than there was three months ago.

Alright, thank you very much for your comments. I appreciate that.

Peyton Green, Sterne, Agee.

I was just wondering if you could go through the municipal portfolio a little bit and maybe if you had kind of the breakdowns, in terms of what was [GO]-related or revenue-related, whether you looked at the insurance as any kind of a backstop or not.

Peyton, anything that we do that has insurance on it, we underwrite the underlying issue and don't buy it if we wouldn't buy it without the insurance. You know, credit enhancements such as bond insurance are nice things to have, but we don't rely terribly much on that.

If -- we'll have a breakdown of the rated bonds and non-rated and so forth in the 10-Q, and you can look at the March 31 10-Q until the June 30 comes out. There's probably been a little bit of a shift in the portfolio in Q2, I'm guessing from non-rated back toward rated bonds, just because of some of the -- and I'm talking small, incremental shifts here.

One of the big things we have sold out of in the second quarter -- and I say sold out, we still had about 20 million of them at the end of the quarter -- but I've liquidated almost all of our mortgage-backed securities. We were down to $20 million at the end of Q2. That, I think, was $70 million, $80 million -- $60 million, $70 million, $80 million, something like that at the end of the year. And if you went back two or three years ago, that number was $300 million, $400 million.

And while those are high-quality, prime loans underwritten with Fannie and Freddie guarantees -- it is a Fannie and Freddie guarantee. And while there's a US government backstop on that, Fannie and Freddie are, for all practical purposes, busted and everybody knows that. So I don't think I'm impugning their character.

And we're just less interested in owning that sort of thing; plus, in a rising rate environment, it has significant extension risk. And in a falling rate environment, it all goes away overnight. So we've been selling that stuff and pretty much liquidated out all of that, because we like our muni book better than that and think it offers better value to us.

So, yes, it's just part of an ongoing constant management, and readjusting, repositioning that portfolio for where we think value is and risk isn't, in the muni sector.

Okay. And then just overall, I mean, you would feel more confident about the book, FDIC-assisted deals that gave you loan yields essentially at a premium than what your bond yields are, even on the tax exempt side -- is that fair to say?

Yes. I would take the risk associated with an FDIC transaction and prefer that over the interest rate risk of holding more bonds in this interest rate environment. We've cut our bond book by basically $0.5 billion over the last six quarters or so, and that reflects our assessment of interest rate risk, as I've said every quarter since we started being a net seller of bonds six quarters ago or so.

So, yes, we would -- I would not mind further shrinking the bond book a little bit if we can redeploy those assets and covered assets in FDIC transactions. I think that would be an extremely profitable trade that would increase earnings and lower risk. And I say that not -- I've got total confidence in the quality of our bond portfolio.

And as I said in response to Dave Bishop's question, our flawless history with municipal bonds in the bond portfolio, and there's not anything else in there, other than that $20 million of mortgage-backed securities in the bond book, that's not municipals now. So we just -- we've got total comfort in the quality and creditworthiness of our bond portfolio, but I think I can get better yields without any interest rate risk of any -- to any degree in covered assets and FDIC loss-share transactions, so.

Okay. And then, I guess, I mean, from a more 10,000-foot viewpoint, how low could you allow the bond portfolio to go as a percent of earning assets or in terms of the liquidity perspective?

Well, we could probably take another couple of hundred million dollars out of that. Right now, I think we've got enough capital that we probably feel comfortable doing about $1.2 billion in acquisitions of FDIC deals, based on where we stand today. And if we came up with $1.4 billion of acquisitions we wanted to make before we -- in a single quarter, we could probably lose a couple of hundred million dollars of the bond book and still do everything we needed to do, and replace that with covered assets.

So it does give us the flexibility to manage our balance sheet without -- and do bigger acquisitions than our present balance sheet would appear to allow without raising capital. It's a nice little cushion there to play with.

Okay, great. No, I'm glad to know that it's that big of a cushion. And then in terms of the loan pipeline, just kind of circling back to that -- or actually, no -- in terms of the deposit service charges, is there any way to know how much of that was related to the FDIC-assisted deal for Unity National or how much of it was really the new account generation kicking in?

About half of the Q2 increase -- and this is a real rough number -- but about half of the Q2 increase versus Q2 of last year was related to the Unity acquisition. And the other half of it was just higher penetration of core customer growth in our existing markets, plus just getting additional revenue out of existing relationships in our existing markets.

So -- and I think -- I don't have that page open in my data here, but I think it was a 29% year-over-year increase in Q2 and the six-month number was 22%. So that kind of is indicative of the fact that in Q1, when we had no Unity increase, we still had a mid-teens percentage increase and service charge increase. And Unity didn't -- we only had Unity for three business days in the first quarter.

So it had almost no impact on Q1. So we're mid-teens apart from the Unity deal, year-over-year, which is a real credit to our retail banking people who are doing a fabulous job of bringing in new core accounts.

Okay. And then last question, I promise, and I'll open up the queue for someone else -- but any take on the opt-in issue with service charges in the third quarter yet?

Our guys are working on that. I don't have specific data on that. There's a report on my desk on that and I haven't had a chance to read it, but my understanding is that's going pretty well. And they're working it vigorously and, obviously, August 15 is the critical date. If folks don't opt-in by August 15, then they no longer can be paid in overdraft on nonrecurring electronic debits. And we're working that very well.

So there will be some impact of that on Q3 and Q4 service charge income, but we've got a very well-planned and mapped out strategy to try to minimize, mitigate that impact. And we'll see what it is.

Okay, great. Thank you very much.

Andy Stapp, B. Riley & Co.

Just wondering, does the sidewalk economic scenario that you alluded to, does that pertain to Texas as well?

My comment was related to the United States economy in general --

Right. Okay.

-- and not to any specific market or to us particularly, but to the US economy in general. So, to the extent that Texas is part of the United States -- I think they lost that war -- and (multiple speakers) they would be included in that. But I would proportionalize that comment for every market we're in, based on its relative performance, vis-a-vis the US economy in general, and Texas and Arkansas if -- with the exception probably of Northwest Arkansas, have performed much better on average than the US. I mean, so, same comment.

Okay, got you. And approximately how much do you earn in interchange fees in a typical quarter?

That number is probably between $0.75 million and $1 million a quarter in total debit card fees, which includes interchanges embedded in that. So it's a significant line item for us in our service charge fee income. We're all very anxious to see what happens next year or 2012 or whenever the Fed gets -- rules are in.

A little less than $1 million.

Yes, a little less than $1 million. Yes. Greg is confirming that. Between $0.75 million and $1 million a quarter.

Okay, great. Thank you.

Brian Martin, FIG Partners.

Hi, George. Good quarter. (multiple speakers) You know most of -- the one question I had was on the capacity on the FDIC front and you answered that. The other two questions I just had was -- just on the OREO expense and future charges and whatnot, what are your thoughts as far as resolution of the existing OREO, given kind of the marks you've taken here, I guess?

Are there still any significant projects in there, I guess, that could move that needle and bring it down a lot like we saw this quarter? I guess -- I'm assuming that Dallas property is still in there, when you talked about it a little bit earlier?

Now, certainly, when we get a sale on that Dallas property -- and that's a property that's very likely to sell in a single transaction. I mean, it's very amenable to being broken up and developed in pieces; but it's more likely that we would sell that in a single transaction. So whenever that sells, that obviously is going to move the needle a bunch on our OREO balance, because it's a big ticket item. It's in just under $18 million - [$17,950,000] or so.

And the rest of it is probably more likely to be sold in pieces and small chunks and hat very much is going to depend on market conditions. I would think a middle of the road estimate, probably a middle of the road, conservative estimate would be that we would sell $1 million a month; $3 million or $4 million a quarter, is probably what we would consider a minimal acceptable sales rate of that. And I would hope to liquidate that more quickly than that.

But we've got -- right now we've got about $1 million -- a little over $1 million under contract that should close this month. So that feels like a decent kind of minimal month of activity. And hopefully, you supplement that along the way with some bigger chunks of things here and there that help out.

Okay. And then just lastly, I mean, you talked a little bit about maybe being a little bit less optimistic because of the commercial real estate credits in hand, but where are you most optimistic, if at all, on future loan growth? Maybe what -- maybe geographically or just by segment, where are you more optimistic than others?

I would say by far, commercial real estate is what I would consider by far to be the most optimistic we are on growth of any category in the portfolio. And the reason -- while there's not a ton of new commercial real estate being created, thank goodness, there is 1 trillion tons of it out there in CMBS land, that has got to get refinanced and put back into properly-structured loan transactions that can be supported by the properties on a go-forward basis.

So we think there's quite a bit of opportunity for us to capitalize on high-quality properties coming out of CMBS land and going back into bank portfolio financed projects. So, I think that's our number one opportunity for growth.

Okay. Alright. I appreciate the color, George. Thanks.

Dan Oxman, Jacobs Asset Management.

Thanks for taking my question. My question is -- this relates to the tax rate. Can you just discuss a little bit the dip in the tax rate and some guidance for future quarters?

Yes. Well, the -- what really tends to move our tax rate around is the municipal portfolio on BOLI income. Now if you're looking at Q1 versus Q2, the decline in the tax rate from Q1 to Q2 is because in Q1, we had the large bargain purchase gain on the Unity transaction. And as a result of that, that generated a lot of taxable income. So the Q1 tax rate was not a run rate apart from quarters in which we would have a similar sized acquisition.

The Q2 tax rate is, given our composition of BOLI income and muni income, and the size of our balance sheet right now, that's a good proxy for our tax rate, our run rate, tax rate going forward in coming quarters, subject to adjustment for shifts in the municipal portfolio or BOLI income. And of course, if we make additional FDIC-assisted transactions and if those transactions, as we would hope they would, generate substantial bargain purchase gains, then we'll basically have a 40% tax rate on the amount of that pretax gain, because our marginal rate is effectively 40 -- 39.225% is our combined state and federal marginal rate -- 39.225%.

So -- and our effective rate in Q2 was much less because of all the BOLI income that's nontaxable and the municipal income that's nontaxable.

Thank you.

Our final question will come from the line of Brian Hagler with Kennedy Capital.

You touched on this a minute ago, but were the two shopping center deals you did this quarter that -- I think you said totaled around $40 million, were those examples of deals that came out of CMBS-type structures that needed to be refi'ed that you identified as an ongoing opportunity?

Our buyer purchased those centers and I'm not -- I think I knew at one time but my recollection is not 100% on whether those came out of the CMBS financing for the seller or not. But our buyer in those transactions was a purchaser, so those were new purchasers.

Oh, okay. Alright, great. Thanks.

And we have no further questions, sir. Do you have any closing remarks?

Thank you all for participating in the call today. There being no further questions, that concludes our call. We look forward to talking with you in about three months. Thank you very much.

Ladies and gentlemen, this does conclude today's teleconference. You may all disconnect.