UMB Financial Corp (UMBF) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the UMB Financial second-quarter 2014 financial results conference call. Today's conference is being recorded. At this time, I'd like to turn the conference over to Ms. Abby Wendel, Director of Investor Relations. Please go ahead, Ms. Wendel.

Thank you. Good morning, everyone, and thank you for joining us for our conference call and webcast regarding our second-quarter 2014 financial results.

Before we begin, let me remind you that today's presentation contains forward-looking statements, all of which are subject to assumptions, risks, and uncertainties. Actual results and other future events, circumstances, or aspirations may differ materially from those set forth in any forward-looking statement.

Information about factors that may cause them to differ is contained in our 10-K for 2013 and subsequent 10-Qs and other SEC filings. Forward-looking statements made in today's presentation speak only as of today, and we undertake no obligation to update them.

By now we hope most of you on the call or listening via webcast have had a chance to review our earnings release that was issued yesterday afternoon. If not, you will find it on our website at umbfinancial.com.

Also, we have again published some supporting slides on our website that contain some of the drivers and metrics we will discuss today to make it a bit easier for you to follow along and to review afterward. A link to these sites can be found at umbfinancial.com in the About UMB section, or in the Investors section under News and Events, Presentations.

On the call today are Mariner Kemper, Chairman and Chief Executive Officer; Peter deSilva, President and Chief Operating Officer; Mike Hagedorn, President and Chief Executive Officer of UMB Bank; and Brian Walker, Chief Financial Officer.

The agenda for today's call is as follows: Mariner will provide high-level commentary on our results, and Brian will review several details from our financials. Then Mike and Peter will review results from our business segments. Following that, we will be happy to answer your questions.

Now I will turn the call over to Mariner Kemper.

Thank you, Abby. Good morning, everyone, and thank you for joining us today. As Abby mentioned, we announced our financial results for the second quarter yesterday afternoon. As we hope you have read in our press release and accompanying slide deck, we finished the first half of the year with another good quarter.

Net income was $34.7 million or $0.76 per diluted share, an increase of 15.8% compared to the second quarter of 2013 on total revenue of $220.2 million. Return on average assets was 0.89%. Return on average equity was 8.77%, and our efficiency ratio for the quarter was 73.3%.

To better understand the results for the second quarter, there are several specific items you should be aware of as you analyze our numbers. First, we resolved the objections to our calculation of the earnout amount and related incentive bonus compensation with the sellers of Prairie Capital Management during the quarter. We added $5.3 million to the contingency reserve, bringing the total to $20.3 million for the year.

Second, we recorded $3.5 million in unrealized gains on several of Prairie Capital's investments in the second quarter, bringing the total for the past four quarters to $22.5 million. Unrealized gains in the first quarter of 2014 were $2.5 million, and no unrealized gains were recorded in the second quarter of 2013.

The difference between the total contingency reserve and the total unrealized gains is $2.2 million in gains, which also represents a return to UMB generated by the initial investment in the underlying funds. Third, we recognized a relatively small expense adjustment increase to the contingency consideration liabilities for Reams and Prairie Capital of $800,000 in the quarter. In the second quarter of 2013 we reported a nominal expense adjustment of just $12,000.

Finally, in other income we recognized a gain of $2.8 million on the sale of a branch property, which brings our total branch locations to 108, down from 136 five years ago.

Compared to those second quarter of 2013, average loan balances and noninterest income increased to double-digit levels, and credit quality remains excellent. Deposits increased lightly year over year, even with the exit of a large institutional depositor that was discussed on our first-quarter earnings conference call.

To manage the balance sheet, the investment portfolio shrank slightly, in keeping with our strategy to shift our earning asset mix towards loans. Our performance demonstrates commitment to our business model of diverse revenue sources, high credit quality, and strong balance sheet, and low cost of funds.

Now let me review a few highlights from the quarter, starting with loan growth. Net loans in the second quarter were up a strong 9.2% year over year. On a linked-quarter basis, net loans increased 2.4%.

Average loans were up 12% on a year-over-year basis and were 56.2% of average deposits. The second quarter of this year marked our 17th consecutive quarter of loan growth on both a year-over-year and linked-quarter basis.

C&I and commercial real estate loans continue to make up the majority of loan growth. And we added $124.7 million in construction loans, an increase of more than 100% compared to the same period last year.

Loan quality remains outstanding. Net charge-offs as a percentage of average loans were 22 basis points, of which 62% of the charge-offs were related to credit cards. Nonperforming loans as a percent of loans were at 39 basis points.

We are making progress towards meeting our objectives to shift earning assets from fixed income investment portfolio into loans. Interest income grew during the second quarter, because interest from increased loan volume more than offset declines of income due to rate compression.

For the second quarter, total yield from loans and loan fees dropped 18 basis points compared to the second quarter of 2013 and declined 7 basis points on a linked-quarter basis. Our low cost of funds helps us win new business, keep existing clients, and provides somewhat of a buffer against pricing pressure. Since the low interest rate environment continues, loan growth is as important as ever, as pricing in all categories remains very competitive.

Turning to another bright spot in our Company's results, we achieved record assets under management of $43.7 billion in the second quarter. As a result, trust and securities processing revenue drove noninterest income growth. Institutional investment management contributed nearly half of the increase in trust and securities processing, and asset servicing another third.

Within the Bank segment, private wealth and institutional asset management comprised 22% of the $9.9 million in growth. We remain enthusiastic about our fee-generating businesses, as they are an important component of our business model. We will provide additional detail on those results later in the call.

Expenses for the quarter were 10.8% higher than they were in the second quarter of 2013. For the first half of the year, expenses were 12.7% higher than for the first half of 2013.

As I communicated to you in a previous conference call, our plan to manage annual expense growth to less than 5% remains in place. It is important to note for the first six months of the year that the year-over-year increase in noninterest expense include the $20.3 million in contingency reserves and $2.1 million more in adjustments to earnout liabilities for the acquisition of Reams Asset Management and Prairie Capital.

With that, I will turn the call over to Brian, who will provide more detail on our financials and will round out the balance sheet discussion. Later in the call, Mike will talk specifically about the Bank segment's operating results, and Peter will talk more about institutional investment management, payment and solutions, and asset servicing segments. Brian?

Thanks, Mariner, and welcome, everyone. Picking up Mariner's comments on the income statement, net income increased 15.8% year over year and 48.1% on a linked-quarter basis. Loan growth generated increases in net interest income, and our fee-based businesses drove the increase in noninterest income. This is a testament to the strength of our diversified business model. Fee income continues to play an important role to UMB's success.

Interest income growth came from volume and mix changes in total earning assets, even though yield on loans was 3.51% compared to 3.69% a year ago. As we have discussed in prior conference calls, our loans are tied primarily to short-term interest rate, although we have been willing to extend slightly longer-term debt to exchange for modestly higher rate. As of June 30, 68% of our loans will reprice, amortize, or mature in the next 12 months. 56% will reprice, amortize, or mature in the next quarter.

The available-for-sale portion of our investment portfolio, which represents 96% of total securities, now has an average life of 46.9 months, down from 48.7 months in the second quarter of 2013; and has a total duration of 42.6 months, down from 46.8 months for the second quarter of 2013. Shortening the investment portfolio is part of our balanced approach to managing our position in the current interest rate environment. We are positioned to take advantage of a rising rate environment while guarding against a continued sustained low-rate environment.

In terms of noninterest income, the most significant driver again this quarter was trust and securities processing. As we have discussed with you in the past, we record revenue associated with our investment management and asset servicing businesses in this line item. Scout Investments; fund services; and the Bank's asset and investment management businesses, including Prairie Capital, private wealth management, and corporate trust, all posted double-digit year-over-year revenue growth for the second quarter for a total increase to trust and securities processing of 15.6%. Peter will discuss the drivers behind these results later in the call.

On the expense side, as Mariner described, we added $5.3 million to the contingency reserve and have resolved the objections with the sellers of Prairie Capital Management regarding their earnouts and related incentive bonus calculations, as referenced in our 8-K issued on July 3.

Salaries and employee benefits continued to be the driving force behind the overall increase in noninterest expense. Base salary, bonus expense, and the market valuation of deferred compensation liability increased year over year. It's also noteworthy to mention that medical expenses within this category increased 17% compared to the same period a year ago.

Moving on to the balance sheet, our average balance sheet grew 5% year over year, and average earning assets increased 5.4% to $14.5 billion. Provision expense was flat year over year and increased $500,000 compared to the first quarter of 2014.

Looking at earning assets, the average balance in our investment portfolio for the quarter was $6.9 billion, 2.1% smaller than the second quarter a year ago. The average yield on total securities was 1.97%, an increase of 2 basis points from the second quarter last year and down 1 basis point compared to the first quarter of 2014.

Slide 9 in the supplemental slide deck includes the detail on the available-for-sale portion of the investment portfolio. Yield was 1.9%, 1 basis point higher than in the second quarter of 2013. While yields have not yet bottomed, reinvestment yields are trending upward. Our bias remains to take a balanced approach and shorten the portfolio's duration to be ready to take advantage of a rising interest rate environment.

Allowance for loan losses was $76.8 million and allowance as a percentage of total loans is now 1.11% compared to 1.13% a year ago. As management has shared on several prior quarters' calls, there are several components that go into applying the same consistent ethnology to calculate provision.

Two of these items are historical losses and portfolio size. As the portfolio grows, the losses are applied to a larger base of loans in the calculation. We believe this level is appropriate given the high quality of our loan portfolio and history of charge-offs.

Our coverage is more than 2 3/4 the amount of nonperforming loans, while the median industry allowance reported for the first quarter would have covered only two-thirds of nonperforming loans. We remain well capitalized, with Tier 1 leverage and total of risk-based capital ratios of 13.81%, 8.7% and 14.62%, respectively.

Looking at the liability side of the balance sheet, average deposits for the quarter compared to the same period last year increased 6% to $12.3 billion. On a linked-quarter basis, average deposits decreased $856.3 million or 6.5% as a result of the large depositor exiting our balance sheet and the anticipated run-off of public funds. This impact from the depositor's departure was $928 million on average, and the impact from the public funds was $300 million.

Average noninterest-bearing deposits comprised 42% of total deposits, which puts us in the top 3% of the industry according to SNL Financial. The high percentage of free funds is a competitive advantage and is reflected in our low cost of funds. Our overall cost of funds was 17 basis points for the second quarter versus 18 basis points a year ago. If you factor in free funds, this brings the number down to just 10 basis points.

Average shareholder equity was $1.6 billion, a 22.9% increase from the same period a year ago, due largely to the impact from the capital raise conducted in the third quarter of 2013.

Now I will turn the call over to Mike, who will review the results of the Bank segment. Mike?

Good morning, everyone, and thank you for joining us for our second-quarter conference call. I am happy to talk with you this morning about the Bank segment's financials and business drivers, which can be found starting on slide 12 in the supplemental materials.

For the second quarter of 2014 compared to the second quarter of 2013, net interest income increased 2.7% to $72.5 million, driven by loan growth. The Bank's share of provision for second quarter increased $1.1 million, in accordance with the methodology Brian described.

Total noninterest income increased to $56 million from $46.4 million a year ago. There are two items to mention here. First, the equity earnings and alternative investments managed by Prairie Capital fall into the Bank segment. The gain for the quarter was $3.5 million compared to no gains recorded the second quarter 2013.

Second, we completed the sale of a branch property in the second quarter, resulting in a gain of $2.8 million, which is included in the other noninterest income line in our income statement. We also had $2.6 million in gains on the sale of securities compared to $1.5 million in the second quarter 2013.

Noninterest expense increased 9.1% to $100.9 million, due mainly to the $5.3 million additional contingency reserve that Mariner mentioned and higher salary and benefit expense. Net income before tax was $24.9 million, and the pretax profit margin for the Bank was 19.4%.

Performance in the Bank segment's ongoing operations was strong on several fronts. First, the C&I loan portfolio increased $207.5 million or 6.2% compared to the period ended June 30, 2013.

Second, commercial real estate loans also contributed to overall loan growth, with an increase of $160.2 million or 10.2% compared to CRE loan balances on June 30, 2013. And real estate construction loans increased $124.7 million. We continue to seek opportunities to diversify our loan mix without sacrificing credit quality.

As you will see on slide 15 in the deck, the regions within our footprint that are growing loans the fastest are outside of Kansas City. That said, the majority of our loan growth in dollars remains in Kansas City. For the second quarter, 33.5% of the $666.7 million in average commercial loan growth came from Kansas City, followed by Colorado, Arizona, and Texas. Speaking of Texas, we are pleased to announce that we hired a local team of bankers in Fort Worth to launch a loan production office and complement our presence in Dallas.

Moving to the asset management businesses within the Bank, where we focus on institutions and high net worth individuals, I'm pleased to announce assets under management has surpassed $11 billion. Assets stood at $11.3 billion at quarter end, an increase of 18.4%. Assets managed by Prairie Capital increased $854.3 million, and assets managed by private wealth and institutional asset management increased $810.4 million.

And finally, in consumer banking, HELOC balances increased 6.2% year over year to $584.1 million. Our HELOC portfolio continues to perform with a utilization rate of 45.1% for the second quarter.

With that, I will turn the call over to Peter to finish up with the discussion on fee business performance.

Thanks, Mike. Good morning, everyone. For the final part of our call, I will review the results from our three fee-based business segments, starting with institutional investment management -- which, as you know, is comprised of Scout Investments.

For the second quarter of 2014 versus the same period a year ago, noninterest income was $34 million, an increase of 16.6%. Noninterest expense increased 17.3% to $22.1 million. Reflective of those two components, net income before tax was $11.9 million, an increase of 15.5%. And the pretax profit margin stood at 35%.

Revenue in this segment is driven by average mutual fund and institutional and other managed accounts assets under management; the mix of those assets; net flows; and finally, equity and fixed income market performance. Strong net inflows to our fixed income strategies and positive market impact, offset by net outflows from our equity strategies, provides the context for Scout's results this quarter.

At quarter-end, assets under management were $32.4 billion, an increase of 23.1% compared to second quarter 2013. For a breakdown of AUM by asset class, please reference slide 19 in the accompanying materials. We look at flows separated by equity and fixed-income strategies across all Scout products. Slide 18 in the supporting materials shows the drivers of the change in assets under management -- both net flows and market impact.

For the quarter, the Scout Fund's flow rate was a negative 7.7%. However, flows into separate in other managed accounts were positive 4.8%. Year to date the Scout Funds had a negative flow rate of 7.1%, and separate and other accounts was a positive 8.9%. In the second quarter net flows for Scout equity strategies were negative $1.3 billion. The outflows were primarily driven by the international fund.

Turning to fixed income, Scout's fixed income strategies had positive flows of $908.9 million during the second quarter. The core plus and unconstrained strategies led the way, capturing the majority of the flows.

As you can see from the slide, both the equity and fixed income markets moved favorably, increasing assets under management by $455.4 million and $153.4 million, respectively. Combining both flows end market effect, AUM in our equity strategies decreased $831.6 million and AUM in our fixed income strategies increased $1.06 billion.

As a reminder, Scout received approval for a UCITS structure in the first quarter and has launched the unconstrained strategy within this structure. We are pleased with the early traction the product has received abroad. After just three months in existence, the vehicle has attracted $82 million in assets under management.

Similar to US mutual fund structures, UCITS allows Scout to distribute its strategies internationally in a comingled product format. As we have mentioned, the expanded international distribution of our strategies is a key component of our goal to grow assets under management over time.

Next up is the payment solutions segment. For the second quarter of 2014 compared to the second quarter of 2013, net interest income increased 10.7% to $12.4 million. Total noninterest income increased 13.8% to $21.2 million.

Noninterest expense increased 12.6% to $24.6 million. Net income before tax was $6.7 million, an increase of 45.2% from a year ago. And the pretax profit margin for payment solutions was 19.9%.

On our last conference call I walked you through the ways in which this segment contributes to our results. As a quick refresher on the business, there are three business units within this segment: healthcare services; credit and debit card-related activities; and a unit that provides treasury management products to the broker-dealer and mutual fund industry we call institutional banking and investor services, or IBIS.

Healthcare services divides its product offering into three categories: HSA custodial services, benefit cards, and healthcare payments. Custodial services revenue contributes spread income off the deposits in the HSA accounts and generates per-account fees and interchange revenues. Benefit cards are attached to a flexible spending arrangement and are used by clients to access their funds, also generating interchange revenue.

Healthcare payments is a relatively new product line for us. It is a way for payers and providers to efficiently and quickly settle healthcare-related services. It is a very high-volume product, yet generates a lower rate of interchange on transactions.

As you can see in the supplemental materials on slide 21, second-quarter purchase volume was strong at $2.2 billion, an increase of 27% compared to the same quarter a year ago. Interchange revenue for the quarter was $18.4 million, up 7.2% from the second quarter a year ago.

There are a couple of primary reasons why interchange revenue is not growing as fast as purchased volume. First, as you can see on slide 22, the payer-to-provider product that I mentioned earlier continues to gain traction.

Second, also within healthcare, we maintain numerous third-party relationships with distribution partners with whom we share a portion of the gross interchange revenue. That being said, we remain very enthusiastic about this segment of our business and its future prospects.

As noted in our press release, HSA deposits increased 36.4% from a year ago to $760.8 million. A feature of HSA accounts allows customers to move a portion of their dollars to investment vehicles. When they do, these monies move off balance sheet and are considered HSA assets. For the second quarter of 2014 HSA assets increased 63.5% to $62.9 million. HSA and FSA accounts reached $4.6 million for a 45.2% year-over-year growth rate.

The final segment I will cover in my prepared remarks is asset servicing. For the second quarter of 2014 compared to the same period a year ago, total noninterest income for this segment was $22.8 million, an increase of 17.7%. Noninterest expense increased 10.6% to $18.9 million. Net income before tax rose to $5.2 million for the quarter, and that resulted in a pretax profit margin of 21.6% for the second quarter.

Asset servicing ended the quarter with $207.9 billion in assets under administration compared to $168 billion at the end of the second quarter of 2013. As you may recall, in 2012 we lost a large custody-only client, and assets under administration declined nearly $8 billion. We have since added assets under administration and now have the same level of assets, but with a more profitable and diversified mix of customers. You will see this highlighted in slide 24, which shows the AUA by product type within the business.

In the past several months we have seen an increase in asset managers launching new funds and new structures. This has benefited UMB Fund Services.

From June 30, 2013 to June 30, 2014, we added 56 new funds in fund accounting and administration; 43 new alternative investment funds; 34 new transfer agent clients; and 38 new custody clients. These results help to demonstrate that we are building a more profitable mix of clients in fund service, as evidenced by the charts on slide 24.

The results from each of the segments are important to our overall strategies of furthering sustainable growth and expanding diverse revenue sources. Along with strong quality and effective capital management, we have a unique business model that has stood the test of time in all economic environments.

Thank you for joining us today. We appreciate your interest in our Company. With that, I will hand the call back over to the operator, who will open up the line for your questions.

(Operator Instructions) Matt Olney, Stephens.

Thanks for the slide on slide 18, the drivers of the AUM. That is helpful. I want to dig into the flows being negative on the equity front. I think, Peter, you highlighted in your prepared remarks that it was the international fund. Any more commentary on this? And can you remind us how big that fund is?

Sure. Let's talk about a little bit of context, first. The fund is about an $8.5 billion fund today. If you look at the equity outflows for the periods you see on that slide 18, we had about $1.287 billion in equity outflows. The majority of that was the international product.

On a year-to-date basis we have had $1.7 billion in international outflows, partially offset by $246 million in positive flows through our mid-cap fund. Some of this is resulting in a bit of a mix shift, but keep in mind, we had extraordinarily strong fixed income inflows in separate accounts in particular of over $900 million during the quarter.

So a bit of a mix shift taking place overall in the portfolio of all of our products. You will notice in Q2 of 2014, 55% of our assets are now in fixed income strategies versus 52% in the first quarter. And in the second quarter 45% are now in equity strategies versus 48% in the first quarter.

So a bit of a shift going on there. As you know, we earn a little bit less revenue on our fixed income. But just know that that is partially offset by lower distribution costs on our fixed-income strategies overall.

On a going-forward basis, I can't really predict what the flows might do on any of our products, quite honestly, but our sales pipeline remains strong in the fixed income space in particular. And as for the international fund on a go-forward basis, we have not changed our strategy. We have been doing the same strategy for 20 years of buying high-quality stocks that we think will outperform over different market cycles. Rest assured, the team is squarely focused on improving performance, which is the surest way to ensure that flows turn around over time.

Okay, thanks, Peter. And then as a follow-up, Brian, I think in your prepared remarks, you touched on the percent of loans that are going to reprice over the next 3 and 12 months. Do you have any details as far as the loan floors out there -- how much you have today, and how many rate movements we could see before we get above those floor levels?

This is Mariner. We only have a little over $430 million in loans in total with floors. So it's in our mind somewhat immaterial to the overall mix.

Sure. Okay, thanks, guys.

Chris McGratty, KBW.

Maybe I missed it in the prepared remarks. Could you guys provide the commercial loan pipeline at June 30 and compare it to March 31?

We don't make our actual pipeline public. What I can tell you -- what we have been doing is telling you whether or not our pipeline in the coming quarter is as strong as the previous quarter. And that continues to be the case.

Okay, so interpret maybe that comment with loan growth has been 10% to 15% in the first half of the year. There is no reason to believe that a similar rate of growth in the back half is likely.

At least in the coming quarter. Our pipeline in the third quarter is as strong as it was in the second quarter.

Okay. On the expenses, I can appreciate the 5%, and you guys have been consistent with that. If we look to next year, are there any required investments that you see on the horizon that would make the rate of expense growth materially change one way or the other from that 5% bogey?

Again, we remain committed to accomplishing that. We have headwinds. You have probably been hearing this from everybody. Compliance costs are one of those headwinds. We have been hiring against that. You've seen everybody else's announcements coming through. And we have the same pressures as everybody does. So that's a headwind going into the second half of the year that we didn't come into the year expecting to see at the levels we are. But we do believe that we can -- we are still committed to that 5% number.

Okay. Last question on your margin. I believe your loan yield is 3.51%. Can you talk about where new production was in the quarter on a quantity basis?

We have that data. I'm not sure -- I'd have to dig it out. I'm not sure we have been disclosing that. So at this point, I guess we'd have to get back to you on that, or take that off --.

It's best to take offline new production. I think what you would see, though, is that the percentage of term debt is nice for us. We have been making head roads there, and so we're not just relying on lines of credit for loan growth.

Yes. There is pressure. What I would tell you is there's definitely pressure on pricing. It seems like renewed pressure on pricing. So we do expect to continue to feel that pricing pressure within our commercial loan book.

One of the things, as Mike was just mentioning, we are doing to make up for that -- as we have been successful so far and continue to work towards is the mix. More term debt, more real estate debt on the margin; you know, we're not planning to replace the portfolio with that, but on the margin, to make improvements through a mix change.

Understood. And the last one, the tax rate in this quarter -- that's a fair assessment going forward?

It might be slightly high. We had some historic tax credits in 2013 that did not extend into 2014. Our estimated effective tax rate for 2014 is 27%.

All right. Thank you.

I might cycle back around for you on the loan growth number. I think it's important to note, because the second quarter was unusual for us with payoffs. So we had some activity in the second quarter this year at a heightened level. So our net loan growth was lower because of payoff activity.

So in the second quarter of 2013 had approximately $57 million in payoffs. In the second quarter of 2014 we had an additional $100 million in payoffs in the second quarter of 2014. So had some unusual activity in the second quarter of 2014 related to just economic activity, businesses selling, et cetera.

So I want to make sure we get those numbers to you. So the second quarter of 2014, payoffs and pay downs were $276 million. That's unusual, because in the second quarter of 2013 was $158.7 million. So that is the $100 million difference that Mariner is mentioning.

(Operator Instructions) Peyton Green, Sterne, Agee.

Peter, I was wondering if you could talk maybe a couple of things about the asset management business. One, is there a lag in the revenue recognition on the international fund AUM versus when you would see the outflows? And if so, would we see any kind of hangover from the outflows in the third quarter that may be didn't hit in the second?

No, it's a little bit about timing, though, because if you have a large outflow at the last day of the quarter, you are only going to have one 90 (technical difficulty) that happened in that particular quarter. So nothing unusual, other than the timing at which the flows occur, both in and out during the quarter.

Okay. And then the unconstrained bond fund currently is subject to -- the mutual fund piece is subject to a fairly significant fee and expense waiver that was set to expire on October 31. What's your thought on whether that will be renewed or whether it will expire?

That is still the case. It is set to expire. We continue to evaluate, based upon market conditions and our competitive positioning, whether we will continue to enforce the fee cap or lift some part of it. But we really don't know just yet, Peyton; we continue to evaluate it.

Okay. And then in terms of interest rate sensitivity, you mentioned that you are preparing for higher rates. What does that mean on a plus-100, plus-200 basis point move-in rate? I know the first quarter tends to be overstated because of the liquidity, but how was the interest rate risk sensitivity at June 30?

Specifically on the investing -- can you repeat your question for me, Peyton, please?

Just the overall interest rate sensitivity to plus-100, plus-200 move-in rates within the 12-month period, like you have in the Q. I know in the first quarter, it tends to be exaggerated by the short-term nature of the flows from depositors and the like. Is it about the same as it was at March 30? Is it a little bit more asset sensitive? Just trying to understand that.

It is a little bit more asset sensitive here in the second quarter. We remain neutral to asset sensitive, continuing to focus on our strategy to have a bias toward shortening that investment portfolio, moving into the loan portfolio at higher yields, and have shown success on that.

Okay. And then in terms of the expense side of the equation, looking at the past year and going back, the marginal efficiency ratio -- if you took what would be, quote, normal expenses, I guess ignoring the contingent liability for earnouts, you get to a number that is closer to 65% of revenue growth in terms of the amount of dollars expended over the past year.

Is that a reasonable way to think about how you will do it going forward? Or is there not any real breaking on expense growth versus continued pressure on the margin side from the loan portfolio perspective?

I guess maybe another way to ask it is: what loan rate is too low to make the loan? 3.5% down from over 4% historically, and 3.69% a year ago. That seems to be getting pretty thin.

Well, you know, Peyton, I suppose it is an alternatives question, I guess -- what our alternatives are. And also you have to assume we are able to remix, continue to remix. And we are getting much better yield as we do remix.

Let me take a stab at this one, Peyton. I think that it really -- and you're not going to like my answer -- it really depends upon what goes up.

So, for instance, in the payment businesses that Peter talks about: as revenue or volume goes up in that business, so does expense. So the relationship stays roughly the same, depending on mix changes between whether it is, as an example, debit or credit card; or if it's healthcare or credit. There is reasons that it changes.

Within the Bank, however, in a higher interest rate environment, expenses -- everything else being equal -- shouldn't really increase, for no other reason than an interest rate increase will drive higher revenue because of net interest income. We don't need new branches, new people, et cetera. So depends on what is growing at the time.

Okay. And then you mentioned that the compliance part seems to be going higher. And for a bank like yours, I'm a little surprised that it would be rising maybe like it is for others.

Write your Congressman. (laughter)

That's not ours. From that perspective, is it millions more of dollars that you think you have to spend at the margin? Does that take the overall expense growth rate up above the 5% level? Or is that factored into the exposed 5%?

We still think we can do 5%. We are still committed to that. That is our goal, so we're still committed to that.

And as they continue to rise -- we can't tell you at this point -- they can't tell us; we don't know how much they are going to rise. I wish I could tell you we knew how much they were going to rise. We do not know how much they are going to rise. But we are committed to making changes, and to managing that expense as it's on the way up, and making changes where we need to make them to control overall expenses.

Okay.

This is Peter. I think of it in three dimensions. Three different pressures, if you will. There are more people, for sure, coming into the organization to ensure we are compliance with all the old and new rules that are in place.

Salaries are going up considerably. The competition for talent in this space is significant. We had a speaker last night at our Board dinner, and he talked about the war on talent in this particular area. So just the cost generally to procure and maintain these folks are going up.

Secondarily, there's a lot of technology expenses associated with this now: enhancing our BS/AML programs and any number of programs to ensure that we are in compliance. And then, third, we have had to use consultants to help us go fill in some of the gaps as we needed to.

So people costs, technology costs, consultants and others. Mariner is exactly right. It is going up, but we probably can't predict exactly how high.

Yes, I think two-thirds of it is unwritten. So it's an unknown. But we still remain committed to being compliant and making the appropriate expense changes to stay true to our goals.

Okay. And then just with regard to the -- I know you all filed an 8-K on it in terms of the Prairie Capital situation, but how -- I guess, ignoring that, because the 8-K has been filed, but what is the outlook for M&A activity? Are there opportunities that you are seeing that might be complementary to your business lines or would add scale that might help the expense side out?

Yes, you're not going to like this answer, because it's the same one you got last quarter, which is: we remain acquisitive. We would like to do deals that do exactly what you said, but we have -- it's just activity based. And, of course, we have nothing to talk to you about at this point, so --.

Okay, all right. Great. Thank you for taking my questions.

(Operator Instructions) There are no further questions at this time. Please continue.

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Thank you. Ladies and gentlemen, this does conclude your conference call for today. We thank you for your participation. You may now disconnect your lines and have a great day.