Wintrust Financial Corp (WTFC) 2019 Q2 法說會逐字稿

Welcome to Wintrust Financial Corporation Second Quarter and Year-to-date 2019 Earnings Conference Call.

(Operator Instructions)

Following a review of the results by Ed Wehmer, Chief Executive Officer and President; and David Dykstra, Senior Executive Vice President and Chief Operating Officer, there will be a formal question-and-answer session.

During the course of today's call, Wintrust's management may make statements that constitute projections, expectations, beliefs or similar forward-looking statements.

Actual results could differ materially from the results anticipated or projected in any such forward-looking statements.

The company's forward-looking statement -- assumptions that could cause the actual results to differ materially from the information discussed during this call are detailed in our earnings press release in the company's most recent Form 10-K and any subsequent filings on file with the SEC.

Also our remarks will reference certain non-GAAP financial measures.

Our earnings press release and slide presentation included reconciliation of each non-GAAP financial measure to the nearest comparable GAAP financial measure.

As a reminder, this conference call is being recorded.

I will now turn the conference over to Mr. Edward Wehmer.

Thank you very much.

Welcome to our second quarter earnings call.

With me as always are Dave Dykstra; Kate Boege, our General Counsel; and David Stoehr, our CFO.

About the same format as usual, I'll give you some general comments regarding our results, turn over to Dave Dykstra for more detailed analysis of other income, other expenses and taxes, back to me for a summary comments and thoughts about future and we'll have time for questions.

You know we've changed and streamlined the format and content of our earnings release.

It's been reduced by 12 pages.

Hopefully, you will find it more informative.

If you have any ideas or -- as to additional improvements or information you'd like to see, please feel free to give us a call or a note with your thoughts.

Now onto our results for the quarter.

The quarter can be basically summarized as follows: Strong balance sheet growth, though again back-end loaded, reasonable core earnings, higher credit costs primarily related to 3 specific credits and additional MSR right-down due to the rate environment.

And notwithstanding the 2 negatives, I think it was a pretty reasonable quarter.

How was the play Mrs.

Lincoln, I guess we could say, based on where the stock's going today.

On the earnings side, our net income was $81.4 million, down 9% from the second quarter of '19 and the second quarter of '18 -- or first quarter '19, second quarter of '18.

Year-to-date earnings of $170 million, basically even below what we had last year.

Diluted EPS standpoint, basically the same numbers.

If you take net income on a pre-MSR adjustment basis, year-to-date we're up 8% to $180 million from $167 million.

Diluted EPS is the same, up 8% from -- to $3.08 from $2.84 notwithstanding the MSR adjustments.

Net interest margin dropped 8 basis points during the quarter, I'll talk about that.

The rest of the statistics are there for you to review.

As mentioned, the quarter was negatively impacted by additional provision of almost $14 million, additional MSR negative valuation adjustments of $3.1 million after netting out a hedging -- a small hedging gain.

I'll discuss the provision a little later when talking about overall credit.

As the MSR adjustment, year-to-date we recorded negative pretax fair market value adjustments net of hedging gains of $12.1 million as opposed to positive adjustments of $6.23 million in the previous year.

Disregarding these would result year-to-date net income and diluted EPS, as I said earlier, to be up over 8%.

On recent calls, we discussed our hedging strategy on this asset.

Although this quarter we did have a small income statement hedge in place that partially mitigated the negative adjustment, we actually rely more on an internal balance sheet hedge for debt to equity of the enterprise.

The markup of our mortgage-backed securities on the investment portfolio covers our income statement loss by over 4x.

The problem is one goes through the equity while the other hits the income statement.

To that point, since 9/30/18, when rates started to fall, negative MSR valuation adjustments had impacted tangible book value per share by negative $0.28.

However, changes in the fair market value of our securities portfolio, which are run through other comprehensive income in the equity section of the balance sheet, have added $1.21 to book value per share.

We'll continue to look at income statement hedges when appropriate and cost-effective but you can see we are well served by our current strategies as it relates to overall enterprise value.

You could ask what we do when rates rise and the fair market value securities falls and fair market value of MSRs rises in the same percentage relationship at 4x.

Our positive GAAP position, which we increased in low interest rate periods more than covers this decrement.

Hope this makes sense as it relates to how we deal with MSRs.

Net interest income and net interest margin.

Net interest income increased $4.2 million over quarter 1 due to 1 extra day in the quarter and volume growth of $797 million on average earning asset growth versus quarter 1. Pardon me, FTE -- the FTE NIM decreased 8 basis points from 3.72% to 3.64%.

Earning assets yield holds constant at 4.74% where our cost of funds increased 8 basis points.

Our recently completed $300 million sub debt offering added approximately 1 basis point to this cost, the rest due to market competition and special rates offered to markets.

If the Fed goes ahead and lowers rates this month or thereafter, you can be assured that we will be as aggressive as possible and as quickly as possible in lowering our costs.

The new sub debt offering will have an additional 2 basis point increase in cost of funds in Q3 and beyond as it will include a full quarter of this expense.

No doubt that the decreasing rate environment is not good for the margin, however, we believe we should be able to continue to grow net interest income nicely because of our good balance sheet growth.

We're starting the third quarter with nice head start, presenting earning assets and loans as -- sorry, we are starting the third quarter with a nice head start as ending earning and asset loans exceeded average balances in quarter 2 by $1.16 billion and $751 million, respectively.

Our loan pipelines remain consistently strong across the board.

Pipeline pull-through rates in Q2 remain constant with prior periods giving us confidence that high single-digit loan growth can be achieved going forward.

The other income and other expense side, Dave will go through these in detail, but I want to give some high-level remarks in these categories.

Wealth management revenues increased $162,000 to $24.14 million, continuing their slow and steady climb as assets under administration increased $800 million from $25.1 billion to approximately $25.9 billion.

The big increase in total income of the quarter related to our mortgage business.

As I mentioned, Dave will go through these numbers in detail, but I wanted to give you a quick report on our efficiency efforts in this area as Phase I of our ongoing project concluded on June 30.

Today, we have cut our overall cost of produce as a percent of volume by approximately 10 basis points or around 10%.

Further cost decreases are expected as we will be receiving full quarter benefits of what has been accomplished to date and execute additional cost-saving measures in Phase II of the project and as we continue to emphasize our consumer-direct channel in production where commissions are lower.

It should be noted we are not deemphasizing the old broker model but rather attempting to add additional marginal revenue and volume through our consumer-direct channel.

For example in the month of June, 32% of our volume was through the consumer-direct channel as opposed to 22% a year earlier.

Other expenses were generating in line with our expectations taking into consideration the seasonality of certain line items.

The net overhead ratio for the quarter after disregarding the effects of MSR adjustments was in the 1.60% area in the low 160s.

If we were to compute the net overhead ratio on ending balances opposed to average balances, numbers would have been 1.53% in Q2, 1.5% in Q1 of this year.

Very close to our desired goals.

We are a growth company.

It takes money to invest to grow the company.

We've always taken advantage of what the market gives us.

What the market is giving us now is very good core growth, and we have to invest to get that core growth.

The balance sheet side, total assets increased $1.3 billion or 15.9% from the first quarter and 14% or $4.177 billion from a year ago.

Loans increased $1 billion or 18% in the quarter, not including loans held for sale, and up almost $2.7 billion from a year ago.

As I said, ending assets grew $1.3 billion in the quarter, an increase of 16% over the year, 14.2% from a year ago.

Oak Bank acquisition, which we closed during the quarter is responsible for $220 million of that growth.

Total loans net of loans held for sale were $1.1 billion quarter-versus-quarter and $2.7 billion over a year ago, approximately 18% and 12%, respectively.

Oak Bank accounted for $114 million of this growth.

As mentioned, most of the growth was back-end loaded when we started Q3 '19 with a head start of close to $751 million of -- as average -- as year-end balances or quarter end balances exceeded average balances for the first quarter.

As mentioned, loan pipelines remain consistently strong.

Deposits grew $714 million and $3.15 billion quarter-versus-quarter and year-over-year, respectively.

That translates into percentage growth of 11% and 13%.

Our loan-to-deposit ratio returned to above the high end of our desired range of 85% to 90%, closing quarter -- closing the quarter a little over 92%.

Our acquisition of Chicago Deferred Exchange Corporation last December continues to perform better than anticipated.

Deposit balances at 6/30 were approximately $700 million as opposed to $1.1 billion at year-end but equal to 6/30 of last year when we didn't own them back then.

The number of transactions processed for this year is a tiny bit above the same period last year.

We have said this is a seasonal business with year-end always being the bellwether period.

Working diligently to expand this national business, we recently hired 2 new salespeople to the squad.

Now onto the elephant in the room, credit.

Provision increased approximately $14 million in the quarter to $24.6 million as net charge-offs increased to $22.3 million.

$18.4 million of the charge-offs and $15.3 million of provision related to 3 credits.

Provide a little color on these credits as well as lessons learned, if applicable.

The largest credit represent $8 million charge-off for the $2.66 million reserve, a specific reserve for a $10.66 million provision effect.

The loan is a participation we have with a local bank and a private equity-owned construction company.

The loan has been scheduled -- this loan has been -- should clear this week.

It should be off the books and cleared.

If we had our lesson learned, deals were not the lead, especially those of PE sponsors need to have real business reason to be on our books.

Excess leverage deals are not acceptable, if they fit this criteria.

And PE deals where we have no relationship with the private equity firm are not acceptable.

Where we do not control the process info was late to us, we're not in control of the collection process.

Fortunately, we do have an immaterial amount of these on our books, and we are looking to exit these relationships at first opportunity.

By an immaterial amount I mean 2 or 3 credits, all of which are performing well, but if we can't control it, it really doesn't -- with their loan volumes being where they are we really have no reason to be in there.

Second largest credit was a franchise deal we previously commented on in other calls.

Charge-off on this loan was approximately $7.6 million, with a $2.9 million provision effect to the existence of specific reserves placed in this account.

The franchises under contract are scheduled to close in Q3.

The remainder of franchise portfolio continues to perform well, so there's really no lesson learned here.

Third credit results has been a $3 million charge-off provision increase related to a commercial premium finance workmen's composition loan.

Our policy is to charge off any unconfirmed return premium and to look good on recovery.

In this instance, the return premium is held by a capital insurance company for potential future claims.

Therefore the return amount cannot be confirmed.

We anticipate receiving recoveries on this loan to return premiums and payments from the insured, which is a viable company-assumed business.

They've been making payments of between $50,000 and $100,000 per month.

So material -- sorry, a material recovery is expected over the next 18 months on this credit.

Year-to-date charge-offs were 22 basis points up above our recent low historical numbers but still respectable.

NPLs were down $4 million to $113.5 million or 0.45% of loans as compared to 0.49% in quarter 1. And NPAs were down $6 million to $133.5 million or 0.4% -- 0.40% as compared to 0.43% of total assets in quarter 1. So from this perspective, we remain in very good shape.

You're probably asking yourselves whether these increased credit losses represent a trend.

Although we never know what has not appeared this quarter represents a trend.

However, we are recognizing a credit cannot be this good as it has been forever.

We always try to identify and recognize problem assets early, take our lumps under the axiom that your first loss is your best loss.

As of now, we think we've recognized our problems and accounted for them correctly.

We continue to monitor portfolio diligently to identify and clear any problem assets as expeditiously as possible.

Now I'm going to turn it over to Dave who will add some color on other income, other expense and taxes.

Thanks, Ed.

As normal, I'll briefly touch on the other noninterest income and noninterest expense sections.

In the noninterest income section, our wealth management revenue increased to $24.1 million in the second quarter compared to $24 million in the first quarter of this year and up 7% from the $22.6 million recorded in the year ago quarter.

Brokerage revenue was up slightly by $248,000, while trust and asset management revenue was relatively flat with a slight decline of $86,000.

Overall, we believe the first quarter of 2019 -- our second quarter of 2019 was another solid quarter for our wealth management segment with record growth revenues.

Mortgage banking revenue increased by 106% or $19.3 million to $37.4 million in the second quarter of 2019 from the $18.2 million recorded in the prior quarter and was down slightly from the $39.8 million recorded in the second quarter of last year.

The increase in this quarter's revenue from the prior quarter resulted primarily from higher levels of loans originated and sold during the quarter and lower negative fair value adjustments recognized in mortgage servicing rights.

The mix of originations weighted more heavily to the higher-margin business this quarter versus the prior quarter and that aided with the higher average production margin.

The company originated approximately $1.2 billion of mortgage loans for sale in the second quarter of 2019.

This compares to $678 million of originations in the first quarter and $1.1 billion of mortgage loans originated in the second quarter of last year.

The mix of loan volume originated for sale was 63% for home purchase activity and the remainder was refinancing.

This compares to 67% from home purchase activity last year.

So refinances have increased a little bit but the home purchase activity is still the predominant piece of our business, although, we do see strong refinance application continuing into the third quarter.

Table 16 of our second quarter's earnings press release provides the detailed compilation of the components of the origination volumes by delivery channel and also the mortgage banking revenue, including production revenue, MSR capitalization, MSR fair value and other adjustments and servicing income.

Given the existing pipelines, we currently expect originations in the third quarter to stay strong and similar to the production level that we experienced in the second quarter.

The company recorded gains on investment securities of approximately $864,000 during the second quarter.

This compares to a net gain of $1.4 million in the prior quarter.

Other noninterest income totaled $14.1 million in the second quarter, down approximately $2.8 million from the $16.9 million recorded in the first quarter of this year.

The primary reasons for the revenue decline in this category include a negative swing of approximately $351,000 in foreign exchange valuation adjustments associated with U.S.-Canadian dollar exchange rate; the current quarter had a positive valuation of adjustment of $113,000, whereas the prior quarter had a positive adjustment of approximately $464,000.

We also had $1.7 million of decline related to less investment from investments in partnerships, $442,000 less of BOLI income, and those were offset by approximately $393,000 of higher swap fee revenue.

Turning to the noninterest expense categories.

Total noninterest expenses were $229.6 million in the second quarter, up approximately $15.2 million from the prior quarter.

The majority of the increase related to 3 categories including: commissions associated with significant increase in the mortgage production and the related revenue; our typically higher marketing expenses in the second quarter relative to the first quarter primarily associated with sponsorships; and an increase in loan and travel and entertainment cost in the other miscellaneous expense category.

I'll talk about a few of these in more detail.

The salary and employee benefits expense category increased approximately $8 million in the second quarter from the first quarter of this year.

Commissions and incentive compensation expense accounted for approximately $4.9 million of that increase from the prior quarter due primarily to higher commissions expense tied to the significantly greater mortgage origination production during the quarter.

Salaries expense accounted for slightly more than $1.3 million of that increase resulting from a full quarter impact of our annual base salary increases that generally took effect on February 1, the staffing cost related to the Oak Bank acquisition that closed in May of 2019 and normal growth as the company continues to expand, including staffing for 5 new branch banking locations that opened during 2019.

Additionally, employee benefits expense was approximately $1.8 million higher in the current quarter than the prior quarter due primarily to the impact of higher health insurance claims.

As I mentioned on the last conference call, the first quarter claims were somewhat low and we would expect the level recorded during the second quarter to be a more normal level for health insurance costs.

Similar to last year, marketing expense increased approximately $3 million from the first quarter to the second quarter and totaled $12.8 million.

As we have discussed on previous calls, this category of expenses increased as our corporate sponsorships tend to be higher in the second and third quarter of the year due primarily to our marketing efforts related to baseball sponsorships as well as increased spending related to positive generation of brand awareness to grow our loan and deposit portfolios.

We clearly believe these marketing efforts are effective in enhancing the franchise value of the company.

Equipment expense totaled $12.8 million in the second quarter and an increase of approximately $1 million compared to the first quarter.

The increase in the current quarter relates primarily to increased software depreciation, licensing expenses and maintenance and repairs.

Professional fees increased to $6.2 million in the second quarter compared to $5.6 million in the prior quarter.

Professional fees can fluctuate on a quarterly basis based on the level of legal services related to acquisitions, litigation, problem loan workout activity as well as use of any consulting services.

Although up slightly from the prior quarter, this category of expenses remained at the lower end of the last 5 quarters expense total.

The slight increase was due primarily to the acquisition-related legal fees, slightly higher regulatory examination fees and a small increase in consulting fees but again, at the lower end of the 5-quarter range.

The miscellaneous line item.

Overall, noninterest expense increased by approximately $2.4 million in the second quarter to $21.4 million.

The primary reason for the higher expense level, as I mentioned in my opening remarks, is due to higher level of loan expenses associated with the significant increase in loan origination volumes during the quarter and a greater amount of travel and entertainment expenses as we've gotten out of the winter months and into the entertaining months.

Other than the expense category just discussed, all the other expense categories were up on aggregate basis by approximately $200,000.

Ed mentioned this but I'll repeat it, the company's net overhead expense ratio for the quarter was 1.64%, which is higher than our goal.

However, the company's asset growth was heavily weighted to the end of the quarter.

If we were to calculate the net overhead ratio based on end-of-period assets rather than average assets for the quarter and exclude the net MSR valuation adjustment, the ratio would be approximately 1.53%.

Accordingly, we believe in the third quarter, excluding the impact of any MSR valuation adjustments, we would expect the net overhead ratio to be less than the 1.55% goal that we had for the year.

So with that, I will conclude my comments and turn it back over to Ed.

Thank you, Dave.

I'll give you some thoughts about the quarter and what our thinking of the future is.

2019 is off to a pretty good start, though somewhat lumpy.

Good balance sheet growth of over $1 billion in each of the last 2 quarters is pretty darn good.

Reputational momentum coupled with the continued market disruption gives us confidence that these growth trends will continue for the foreseeable future.

Strong core earnings despite the onetimers related to MSRs in this quarter's credit point.

Looking at pretax pre-provision pre-MSR, year-to-date income was up if -- in looking at -- if you take out -- I'm sorry, if you look at pretax, pre-provision pre-MSR adjustments, year-to-date income was up over $40 million or 17% from the prior year.

As we previously mentioned, year-to-date after-tax net income, not including MSRs, was up 8% from the prior year.

We started the second quarter with $751 million head start on loans as ending assets exceeded quarterly averages by that amount.

Average earning assets are $1.16 billion ahead of the quarter end numbers.

So we are -- we realize that the margin -- so we feel good that way.

So as we realize the margin will be under pressure going forward, net interest income should continue to increase in upcoming quarters.

Loan pipelines remain consistently strong, and we're booking loans on our terms.

Although loan bank competition is becoming more and more aggressive, even some bank competition is becoming more and more aggressive, our brand and market -- our brand plus market disruption is helping us to continue to gain market share.

If the situation warrants, that is of our circuit breakers, pricing policies and loan policies trip, we'll not be afraid to stop the boat as we have in the past.

As we sit now, we do not see reason to do so.

However, we have selectively deemphasized a number of loan product types, as I mentioned earlier.

We expect the margin to be under pressure in 2019, but through our expected growth, deposit rate moderation, remaining -- retraining our strict underwriting standards and pricing parameters, we expect to hold our own in this regard.

If rates do drop, we'll move expeditiously to cut our deposit costs.

CDEC transaction is working as anticipated and is providing us with a nice source of low-cost funding.

The net overhead ratio is performing as expected.

We expect that number to approach our desired goals as evidenced by numbers calculated when using period end assets.

Mortgage market remains strong.

We believe we experienced the worst of the MSR adjustments, knock on wood.

We may even get some upside benefits going forward.

We continue to cut our cost related to our mortgage business.

Credit metrics overall remain pretty good.

We do not believe that the second quarter represents a trend but as we all know credit cannot be this good forever.

We performed at the percentage of our peers though.

Our charge-offs have been a percentage of our peers.

We'll continue to look through the portfolio for any and all cracks and exit relationships where said cracks are found.

We always remember that our first loss is our best loss and we don't try to kick the can down the road.

Wealth management should continue its slow and steady climb.

In the quarter, we closed on our acquisition of Rush-Oak and its subsidiary Oak Bank and announced the acquisition of STC Corporation which has approximately $280 million in assets.

We expect this transaction to close in quarter 3. This deal contain significant cost out opportunities, both the branch overlap and normal operating efficiencies.

We anticipate consolidating 3 out of the 5 current -- 3 of the 5 current STC branches, while absorbing many of their employees in our system filling in through normal turnover.

Acquisition opportunities remain plentiful.

Pricing for banks and our asset range remains reasonable.

You can be ensured of our consistent conservative approach to deals in all categories of business.

In short, we're proud of what we've built over the last 27 years and approach the rest of 2019 with confidence we're able to achieve our goal of double-digit earnings growth and growth in tangible book value.

You can be assured of our best efforts in that and we appreciate your support.

Now we're open for questions.

(Operator Instructions) And our first question will come from the line of John Arfstrom with RBC Capital Markets.

We talked a little bit about the margin and you referenced margin pressure more than once, and I understand your comments on the ability to outgrow that pressure with some of the loan growth that you're seeing.

But curious what kind of magnitude you're thinking, and then the other part of this is just your ability to start to lower deposit costs.

Do you have to wait for the Fed or can you start to do some of that now?

The overall competitive costs are moderating a bit and we're seeing that and we're reacting to that.

But the consumer doesn't -- the consumer understands what the Fed does, and that's about it.

And many of our index rates like LIBOR and like actually react before them.

So it's hard to cut rate too much now, especially during the growth mode.

The -- we've always taken advantage of what the market gives us, Jon.

And right now, it's given us very good core growth.

Our reputational growth is terrific.

All that marketing expense we put out pays very well for us -- pays off very well for us as shown by the growth that we have.

We have the -- if we can leverage our overhead structure and have to pay a little bit more on deposits to cover, we've always been asset-driven to fund the loans, that's a perfect situation for us because we've always been asset-driven and if we can have assets to cover, we can gain more and more market share and work on our way to be Chicago's bank.

But I would say that you can't do any material adjustment until the Fed moves one way or the other.

And when they do, we'll move very quickly because everybody else will too.

So this is a good environment for us as we've been able to take advantage of the disruption in the market plus our reputation, our marketing going forward as Chicago's bank.

We feel that we -- this is an opportunity we should take advantage of but we're not afraid to cut rates, we always look at them and -- but any big cut won't happen until the Fed moves because people wouldn't understand it, the market won't move.

Okay.

So is the message similar level of margin pressure until the Fed does move?

That's a good question.

I don't believe if the Fed didn't move and there was no change in markets, I don't think there would be a lot of pressure on the deposit side.

On the asset side, we've been able to hold pretty steady -- we held 4.74% for the last 2 quarters but it all depends on what goes on underneath the Fed, what expectations are on the LIBOR and what have you.

Dave, you have a comment on that?

Well, some of it's just going to be where our mix of businesses is and really what happens a little bit with 1-year LIBOR too out there because we have such a big book of life portfolio that's tied to that.

So if you can get that to flatten out a little bit and come back up, that would be fine.

But I mean there's a little bit of CDs repricing but we also have premium finance loans that are still going on at higher rates than they were in the past on the commercial side.

So there's a little bit of a mix issue here.

Our new loans actually came on higher than our historic portfolio rate this quarter.

So you have -- but you have paydowns and other things.

So the mix is really an important aspect that's out there.

So we'll just have to see what comes through in the mix side of the equation.

But I think there'll be some funding pressure out there in the fourth quarter with a little bit of CD repricings.

Third quarter.

Third quarter.

But it isn't material enough that we don't think we're going to grow our net interest income.

We've really given the average that we have in the pipeline -- the average ahead of end of period head start we have and the pipeline that we have.

We're very comfortable that net interest income is going to grow.

Okay.

The tail end of the quarter weighted loan growth.

What would you guys attribute that to?

Why did it happen later in the quarter?

It always seems, the last 3 or 4 quarters have been like that.

We've always started with a head start.

I don't know, maybe we empty the boat at the end of the quarter and we fill it up at the beginning of the quarter, but there was actually some spillover this time, the stuff that we expected to close didn't close that's closing in the first quarter.

So we shall see, August is always a slow month due to vacations and then July should be good.

August will be kind of slow, September should be very good.

It just seems to be a pattern we've fallen into with really no reason other than the fact we're happy to have them.

Yes, I mean we -- the thing I focus on, Jon, is the pipelines and the pipelines have been very consistent and, as Ed mentioned in his early remarks, our closing rate, our pull-through rate has been fairly consistent too.

So I look at the pipeline over a period of time, you can't always judge -- you can't make a customer close when you want him to close.

But over time, those pull-through rates have been steady.

So as long as the pipeline stay strong, we feel pretty confident that we're going to continue to have good loan growth.

And the pipeline relates just to our commercial and commercial real estate loans.

The premium finance loans always jump at the end of the quarter, especially in December and July.

That makes some of it up.

But our leasing business is doing well, our niche businesses are doing very, very well also.

So those are considered in the pipeline when we show you pipeline or talk about pipeline numbers of $1.2 billion sort of gross numbers.

It's -- that doesn't include our niche businesses, which make about 1/3 of the portfolio.

Our premium finance business overall has -- since we've been able to get out of competitive edge and not have to collect TIN numbers anymore, is growing very, very nicely on the commercial side.

And on the life side, we had a pretty good quarter this quarter and the pipelines look pretty good there too.

So all in all, not just the pipeline we report to but our niche business is also growing nicely.

Okay.

And I know other people have questions but just 2 confirmations.

You're saying that construction credit and the franchise credit are both gone or will be gone shortly out of the bank.

Yes.

The construction one is supposed to close today, tomorrow, the next day and the other one is scheduled to close in the third quarter.

The additional charge we had on franchise loan is when the first deal walked from us.

We had it all closed up and had reserve for our property at the end of the first quarter and they ran into some issues and so the second run came in a little bit less.

So lumps moved on, it is what it is.

And our next question will come from the line of David Long with Raymond James.

Just one -- I want to make sure we're clear on the 2 credits that John just mentioned.

When you say you'll be out this week and the other one later in the quarter, that's at the current marks that you currently have.

So there's -- you're not saying there's going to be a recovery, we're just going with them as they are now?

Yes, sir.

Okay.

Got it.

And then wanted to talk a little bit more about the asset yields and almost a year ago back in September of last year, and you talked about trying to protect your asset yields while rates were still high, have you guys moved on that?

And have you, over the last 10 months, added some swaps in floors to try to protect yourself on the downside if we do get the Fed to cut rates a couple of times?

Well, we did have our -- lengthening of our investment portfolio that we were doing and that's worked well for us on the liquidity management side.

But as we've experienced so much growth in the last 2 quarters, that liquidity has gone shorter.

So we have not -- when the login came back down, there really isn't a lot of reason to go out and buy a lot more mortgage banks right now.

We had lowered our GAAP -- our interest rate sensitivity position in accordance with our plan.

But now if rates go down again, we're going to start increasing it and we'll actually go a little bit shorter.

As to other swaps and other issues...

Yes, what we really did, David, was we just allocated more fixed rate loan pools out into the -- number of the product lines and began to build those fixed rate products out.

So some progress on that.

We did not do some major holistic balance sheet hedge, but we began to devote more of the new loan volume to fixed rate loans than the variable rate loans.

Got it.

Okay.

And just the follow-up -- a separate question here.

Regarding the deposits that are related to the 1031 exchange where I think you said you hired a couple of people for the business you brought from CDEC late last year, what is the average cost?

Or how should we think about the cost of deposits in that part of the business?

That's right.

The average is -- some of that business comes and we maintain what the average balance is of going a 12-month kind of rolling average.

The rest, we sell into the market, make fee income on.

So on the interest expense, it's around 70 or 75 basis points right now for that money.

If rates drop, we'll obviously lower that too.

So it's good cheap money for us.

And by adding 2 salesmen, we've raised from 8 people to 10 people.

So it's pretty inexpensive.

And we've got the best crew in the world, the most knowledgeable value-added crew in the world doing this business.

So it's a very low overhead business.

It provides us with very -- if you take overall cost of opening a branch, the rate is $700 million in deposit or having 8 people at CDEC doing, it's pretty low cost for us.

And our next question will come from the line of Nathan Race with Piper Jaffray.

I wanted to start on the balance sheet growth dynamics in the quarter.

Obviously, really impressive growth this quarter.

And I'm just curious how much of that is related to the M&A-related disruption that you alluded to earlier in the call?

And I guess, I'm just curious what inning we are in terms of some of that M&A-related disruption that could continue to provide a good runway for at least high single to low double-digit growth going forward?

Take it?

Well, I mean there's 2 aspects.

I mean as far as the actual acquisition M&A, if we had the Oak Bank acquisition and that was about $114 million at the end of the quarter that was on the balance sheet.

In loans.

In loans.

I guess we really haven't talked about and probably aren't going to disclose the amount of business we got from the other disruption in the marketplace but it is -- I don't have a firm number in front of me, but we are getting our fair share of looks at deals and closing on deals in the middle market space.

And so we see that continuing and we see that disruption just continue to be good for us.

But we haven't quantified the number that we've disclosed on that.

But it's not just 1 or 2 deals obviously, it's -- we're seeing deals every week that we're getting shots at.

Okay.

Understood.

And if I could just change gears real quick and think about expenses, I understand you guys are through a couple of phases of what you're doing on the residential side of things but just curious if you guys are looking at any other kind of cost cutting or expense initiatives in other areas of your franchise at this point.

Well, we always look at expenses, obviously.

On the mortgage side, it's -- we -- this is a longer-term play.

We -- because of the nature, the change in the business with other regulatory stuff that came through with Dodd-Frank, we have to bring down our cost of doing business.

The largest cost we have is our commission structure.

By changing our -- and we don't want to deemphasize the old way of doing it with the mortgage broker-type guys out there, our mortgage originating-type guys who get commissions -- but our new front-end in marketing, our -- the new front-end to all of our market area here in Chicago should help change the channel and to more and more consumer direct as marginal volume not -- we expect our -- the volume from our traditional approach to continue and the consumer direct to continue to add marginal value to us where commissions are in half.

We also have gone offshore with some noncustomer-facing concepts in the mortgage side, which has helped.

We also are evaluating robotics on that side.

We're also looking at a number of proof of concepts on the robotics side in all of our business to cut costs on work that is just routine, noncustomer facing, where it's just filing and directing and that sort of stuff.

So where -- our new Director of IT, who came out almost a year ago, has really done a wonderful job for us in terms of identifying opportunities to save costs and bring efficiencies, and so money related to processes that we have, and robotics will be a big part of what we do.

But we are in a growth mode, and we are opening a number of branches.

And we feel that we have to take advantage of the momentum that we -- the brand momentum that we've built where our branches that we've opened are all doing as well as can be expected.

Some are doing much better than expected.

We opened one at Evanston.

That's over -- approaching $500 million in deposits in a little over a year.

There are a number of good markets we're not in that we need to get in, that we have plans to open in.

But we are a growth company.

We just have to maintain that 1 -- try to get down to that 150 number and hold it there and balance everything off of that.

If we do better, we'll do better.

But we're always looking at that.

And we're concentrating now on the IT and the robotics side of things, and hopefully that will -- and procedures and processes that -- we've gone -- we did a full study of many of our procedures and processes and have identified any number of items where we can improve those, so we're always looking at that.

And our next question will come from the line of Michael Young with SunTrust.

I wanted to go back to maybe the NII question.

Just based on your most recent disclosure, you kind of disclosed the 10% reduction in net interest income from 100 basis point immediate reduction in rates.

So should we kind of look at that on a pro rata basis and assume each rate cut is roughly a $28 million headwind or 10 basis points to NIM?

Or is that too severe?

Well, that's -- yes, I think that would be a little bit too severe.

I think you probably need to look at the ramp in scenarios more likely.

Okay.

And then maybe just back on the deposit side, can you just talk about any actions that you've already taken to reduce deposit costs?

I know you talked about what you would do potentially if the Fed does cut rates, but have you already kind of shortened CD links or pricing?

Could you just talk a little bit about that?

A little bit.

The market has moved down a little bit, and we're doing that.

But again, it's -- we're in a growth mode, and we opened a new -- part of our process when we open a new location is to offer a bundled package of accounts with a teaser account in there, and we pay a little bit of a higher rate on that teaser account and -- but that's becoming less and less of an issue because of our overall size.

And marginally, it's not that big.

But we just -- we follow the market.

Whatever the market does, we follow.

We don't overpay for the market for the most part other than the -- where we have a promotion going on in a new location.

Fair enough, Dave?

Yes.

I think I mean some of the -- we do have new locations.

We have cut the promotional rates that we're offering out there on some of these products.

So promotions that we're offering probably 5, 6 months ago were certainly less than that.

The brokered market has come down and the -- a lot of the municipalities follow that brokered market, and so those rates have come down.

The CD rates that some of our municipalities require has come down also.

So there has been some reduction in the CD rates that we're offering just because of the market pressures out there.

So backing off a little bit but, as Ed said, until the Fed moves, we haven't seen people cutting dramatically.

So competitively, we haven't seen that happen other than sort of the wholesale CD municipal market and the like.

Yes.

One of the things that we're emphasizing now is demand.

Obviously, free demand deposits.

We are instituting a new -- I'm going to be technical here -- but a new piece of software, which should open up a lot of doors for us in terms of larger demand deposits and payment processing.

And we know of a number of clients that are waiting for that to go live in the third quarter.

When it does, we -- and from my understanding from our folks, us and the big guys are the only guys who haven't.

So as it relates to the competition, we will have to go all against.

We have a number of clients waiting for that to come online.

It could help on the demand deposit side.

So if we can get free money, and that's the best way to go, and that has slipped as a percentage of overall deposits lately as rates were higher.

If rates get a little lower, people won't be as elastic to that and we can -- we're really working on building demand deposit.

So that should help mitigate some of it too and we have a number in the pipeline that we think will be very helpful to us.

Okay.

And if I could sneak in one last follow-up just on the asset quality piece.

The commercial premium finance workers comp loan, can you just talk -- say how big that total book of business is?

And then what was sort of idiosyncratic about that loan that we should not extrapolate that to broader issues?

Well, that loan was a big loan.

It was one of the larger ones.

It was to a large staffing company.

The interesting thing about this one on why it turned a little bit sideways was it was -- the workman's comp, it was a 20 -- over a $20 million loan.

Everything but 70 -- everything but $3 million was returned to us -- or $5 million was returned to us.

They paid down a number of that already to get to the number we charged off.

So what happened was the -- and this is the only time I've really ever seen this happen in the 20-something years we've been in existence -- is that the captive, it was canceled but they stayed with the captive when they uncanceled it.

Their problem was it's a staffing company, and the timing of staffing companies is you bill and you get your money later.

With rises in minimum wages, they had a cash shortage.

They missed the payments.

We canceled it.

They stayed with -- they redid it with the -- with that captive.

The captive gets to hang on to it.

It doesn't run by the same rules as the other guys.

So there's still, we believe, a large amount of return premium to come, but we can't confirm it.

And we know there'll be some shortage, and the company is a viable -- I mean it's a $21 million revenue company.

They have been making 50 -- they have been making $100,000 payments.

They're going to cut to $50,000 for the next couple of months and back to $100,000 in October to cut that shortage.

So we think we'll get it back.

First time we've seen one with this captive, the captive sort of issue, where we can't confirm the premium.

Because we can't confirm the return premium, we write it off.

That's just our rule.

And the reason we can't confirm it, it's just a pool of loans, a pool of funds that are sitting there that are available to cover workers' comps claim over a period of time.

So if the claims are higher, there's less of a pool.

If the claims are lower, there's more of a pool.

So again, as Ed said, we -- it's unique because it was larger.

It was with a staffing company.

Staffing companies have a much higher level of worker's comp.

This...

And it [wasn't] an insurance company who has to go through audit and give you a return premium.

Right, because it's in this captive pool.

So it's very unique.

This is not our main business.

It is a very unique situation.

We don't have another one like that in our portfolio.

And we do expect to get recoveries on this going forward.

So again, it's a very unique asset.

It is not a common asset in the premium finance book, and there's not another one that has the same characteristics.

Never seen it in the 27 years we've been in business, so it's just the timing of that size.

It's just -- we do -- we have that happen a lot where we can't get a confirmed premium, we charge it off, look one on recovery.

This is just the big one, not with captives but with others.

That's just our policy.

It was a big one, and we did it.

And our next question will come from the line of Brad Milsaps with Sandler O'Neill.

Ed, you've addressed almost everything.

Just curious, the -- any further thoughts on capital management.

Obviously, it sounds like your organic growth is off the charts but any further thoughts on a buyback given the pressure on the stock or just any other further color on M&A as you kind of think out through the back half of the year, kind of how you balance all that together.

Well, we raised $300 million which should hold us for a little while.

The acquisition market remains active.

They're lined up again like claims overall here, gestation periods are long, pricing seemed reasonable by the time you get in and take a look at them.

Some of the opportunities that we're seeing, their portfolios, although appear current, would not take a downturn very well, if you follow me, and we'll walk away from those.

So we're very active in the market.

There's still a number of smaller strategics that move us into areas that we're not in.

We'll continue to look at them, but we're -- no loss of things to do in that regard.

But we've always been very circumspect about how we approach that.

As to stock buybacks, we continue -- we consider them all the time, and we'll leave it at that.

Okay.

That's helpful.

And then just wanted to follow up on the commercial premium finance business.

You do typically get a boost in the second quarter.

This was maybe a little bigger than it has the last few years.

Do you attribute most of that to the tax ID number situation that you've worked through or there's something else kind of more structural going on with that business that's driving a little bit better growth?

I would say it's mostly the tax ID number.

Average ticket sizes have moved a tiny bit, not a lot.

But I would say it's mostly being able to be aggressive.

We were like a punching bag for a little while for the nonbank competition on the TIN number issue, and now we're able to punch back as our levels of service, we believe, are much better than our competition's.

And when we're on a level playing field, we can beat anybody.

So we're aggressively going to get back the business we lost.

During that period of time we had to do it, we held our own.

But we lost about 10% of our volumes from existing agents, and we had to build it in other ways during the period where we had to collect TIN numbers.

We're going back and getting those agents back.

So hopefully that -- we've had record years here, record months in the United States, and Canada is doing very well also.

So we're hoping to be the #1 premium finance company in Canada over the next year or so.

So we're very excited about our opportunities there.

So a lot of this is just getting on a level playing field and being able to compete again.

And our service level is so much better than the others.

A nice rise in ticket sizes would be welcome.

And our next question will come from the line of Chris McGratty with KBW.

I'm going to go back to Brad's question on the capital management, Ed, for a sec.

Is the lack of a buyback authorization procedural, meaning getting the approval and announcing it?

Or is it kind of philosophical at Wintrust that you view yourselves as a growth company irrespective of kind of valuation at 135 a book.

I'm just kind of interested in judging the probability that we actually get one versus funding growth organically.

I'd rather not comment on any of that to be honest with you.

But we have been a growth company.

We've grown very nicely.

We needed the capital.

We needed the cash this time around to support our growth.

But as I said, we review it all the time.

And we -- you never know.

It's -- we're -- it's -- it would probably -- depending on the situation at the time, we do review the facts and we would act accordingly.

Okay.

And then Dave, maybe on the margins, one for you.

Kind of looking at your margin pre-tightening by the Fed, it was kind of in that 3.30% range, call it, and now we're kind of mid-3.60s.

If I kind of put that together with the fact that we've had 9 hikes in the market pricing and a couple down, is it fair to assume that if the forward curve plays out that your margin would kind of head to that mid-3.40s range?

Is that kind of -- it's a little bit more than the 10 basis points of hike or per cut that you talked about before but anything structurally different with the balance sheet today that wouldn't confirm or affirm that.

Well, I -- again, it gets a little bit in the mix and the like.

I think given the structure of the balance sheet now, you would see some further compression on the margin.

Whether it would get all the way down to 3.40% is really going to depend on the competition and the mix of our business and the shape of the yield curve.

But I think there's some pressure.

But again, we focus more on the NII.

If we lose a few more basis points in margin but have this high single-digit, low double-digit loan growth like we've had the last couple of quarters, then we're going to grow.

We're going to grow our net interest income, which is what drops to the EPS.

But if nothing changes out there and the yield curve sort of stays inverted and lower, then yes, I think given the position of our balance sheet, we're going to see some pressure, but we're very confident we can offset that with the growth and the pipelines that we have and grow net interest income and just be prepared for when the yield curve gets more favorable.

Yes.

As I said earlier, Chris, we always -- if rates get low, we increase our interest rate sensitivity position by design.

With the probability rates, stats staying -- maybe they stay low forever, we're wrong.

But as the margin does cut a bit, you'd hate to lock in that spread, you know what I mean just to save a little bit of dough now.

So we do balance it, and we'll do the best we can.

But our growth should add to net interest income without -- we want to make money when rates go up.

Inflation is up, you need to make more money.

And we will deal with probabilities on each side, on which way rates are going, and so a little margin hit would probably be more than offset by the earning asset growth we're experiencing.

Okay.

And then the -- and the overall -- if I heard you right earlier, Ed, the overall comment is still double-digit earnings growth.

Is that what you said?

And is that -- number one, is that correct?

And number two is that you think you can get double-digit earnings growth even with this quarter.

I'm just trying to understand.

That's the plan.

Not giving up.

And our next question will come from the line of Brock Vandervliet with UBS.

Dave, if you could just circle up on the loan-to-deposit ratio.

I noticed that's 92%.

That's above your 85% to 90% guide.

I remember a year or so ago, you pulled that down.

How do you look at that now versus your being in growth mode?

Well, I'd still think long term, our goal is 85% to 90%.

We were at 90%, 100% on period-end loans last quarter, but there's really just no place to put the liquidity now on the investment side, so some of those have rolled off.

We've opted to take the yield on the loans versus the investment.

So on the short run, we'll probably run higher than the 90% range.

And if we can get some slope back to the yield curve where we can put some of that liquidity to work on the investment portfolio, then we'll go back to that.

But as Ed mentioned earlier, just there's no -- there's really no acceptable investment vehicle out there right now from our perspective to plow a lot of money into.

So we've got a good pipeline out there right now.

We think they're good-quality loans, good customers, there's market disruption, take advantage of it, run a little bit higher.

I mean it's not unusual.

I mean we've really been at that range for the last 2 years, so it's really kind of doing what we had done but not push -- if you're going to push for that 90% mark, you really need some place to invest the funds versus just let them sit at the Fed overnight.

And the 90 -- 85% to 90% is just historically from a liquidity standpoint.

I mean I'm a true believer that the risk of banking haven't changed since the Medicis opened their first bank 600 years ago.

Interest rate risk, liquidity risk, credit risk or what kill you.

So liquidity risk is -- so you can always get liquidity till you need it.

We know that if we've expanded our liquidity lines at places and just to kind of -- we haven't sat here and said we can live with this and live with that risk.

We've done things to mitigate that on liquidity lines and things like that.

So we're comfortable -- not as comfortable as I'd be at 85% to 90%, but we're comfortable.

And because of the short-term nature of the premium finance portfolio, we're comfortable that our liquidity is not an issue.

And given the fact we're 95% core funded and have not relied in institutional funds, we believe we can cover that.

So as Dave said, there's no reason to go out and push it right now if we can cover -- if they made me comfortable on the liquidity side, I'm happy to be -- not happy, but I'm okay with being up above our desired range.

I get the low securities yields and the limited opportunities to redeploy.

Is there anything more you could do in terms of retaining your own mortgage production to kind of lessen that asset sensitivity?

We could, but I don't want to be stuck with a 30-year mortgage at those rates.

I don't want to lock in these rates now.

I don't think they'll be there forever.

There is a contrarian view out there that the 10-year is going to go to 3% like in the next 12 months.

I tend to agree with that, but what do I know?

We don't guess rates.

All I know is I don't want to lock in 30-year fixed rates at these low rates.

It doesn't make a lot of sense to us.

We maintain the servicing on in-footprint loans.

Loans that we can't sell, we put on the books as an arm basis, so that helps us a little bit because we get a premium rate on them.

And they're subprime loans, they're just loans that -- a guy might be self-employed or with all the new rules, we're usually able to place them at 1 or 2 years out into the fixed rate market.

But we are keeping -- we are doing a number of portfolio-based arm loans with their base at premium of the market, which you'll fix the rate for a couple of years.

And I'm in no rush to put 30-year loans on now.

(Operator Instructions) And our next question will come from the line of David Chiaverini with Wedbush Securities.

A couple of questions for you.

First, circling back to credit, you mentioned you didn't have much exposure to nonrelationship PE sponsors, but I was curious if you could disclose how much exposure you have to nonrelationship PE sponsors as well as sponsored finance in general?

Sponsored finance, I don't have that number here.

I know that there's probably 2 or 3 relationships that bear that no relationship with the PE firm and where we're in a participation, we'll be looking to exit at first opportunity.

Not that there's anything wrong with them, it just I don't like the way they're set up.

I don't like the way it works and your lack of control.

So very immaterial.

We do have probably a stable of 12 PE firms that we have fulsome relationships with deposits.

And we're not really a beast of burden, I would imagine that portfolio's in the $300 million to $400 million range, somewhere in there.

Got it.

And for those construction company and the franchise deal, how seasoned were these loans?

When were those loans made?

The franchise deal was part of the GE portfolio we purchased a couple of years ago.

We -- 3 banks had bought when GE got out of business, so we had been in that business.

That portfolio is about $1 billion, and this is just a one-off.

The rest of the portfolio is performing very, very well.

The construction loan deal, we have a contractors, engineers and architects division that handles this.

The deal -- we were in the deal when it had a different lead agent.

When it was owned by the guys who started it, it flipped.

It was -- and it was working fine.

It sold to the PE firm, and the agent flipped.

And that's when we should have -- the mistake we made, we should have jumped out then.

We didn't because the guy who runs our architect and engineering division had -- was part of the previous lead bank and knew the client very well.

They got comfortable with that.

But the problem was we didn't -- the private equity firm lost a ton of -- they put like $300 million into the same, trying to keep it alive.

We're being taken out by surety companies because they get sued if they don't do it.

So it just was -- it just -- when it switched, we shouldn't have jumped in with the new agent.

And when it was bought by the private equity firm, we had been twice removed at that point in time.

And so the relationship had been there with our guy for maybe 10 years, with Wintrust for probably 2 years before.

And the private equity, it just had kind of moved away, and we lost touch.

So it made sense at that time.

We all take the blame for it.

That's one good thing about our organization.

When something like that hits, you got 50 guys raising their hands saying they screwed up.

But live and learn.

It could be a very cheap wake-up call when you get down to it.

And what type of construction did this company focus on?

Was it residential, commercial?

A very large general construction company.

That's all I'll say.

Sure.

Got it.

And then shifting back to one more net interest margin question, and I'll ask this somewhat a different way.

I received an e-mailed question from an investor.

For each 25 basis point rate cut, how much NIM pressure would be reasonable to expect?

Dave?

Yes.

I don't -- David, I don't think we've disclosed that.

So I -- we'll think about maybe doing that disclosure going forward.

But again, I'm -- I don't think I'm going to answer that.

I think right now, I think there's certainly some pressure, but there is leverage we can take.

We have CD promotions and the like that we can change.

It's going to depend on the growth of the balance sheet, how much funding we need to bring in that excess that we need to fund it with.

It's going to be a mix of business issue, competitive pressures and the like.

So I think our position here is there's going to be some margin pressure going forward based on where we stand right now, but given the growth that we had last quarter and the pipeline we have this quarter, we're very confident we're going to grow our net interest income nicely in the third quarter.

It all depends on the shape of the yield curve.

It just -- one thing could move and the long end could go up, and then life is better.

It might -- you never know.

It's -- the yield curve is just so strange these days to try to figure out.

And our next question will come from the line of Terry McEvoy with Stephens.

Yes.

Question for Dave Dykstra.

I was wondering if you could be a bit more specific on the promotional deposit pricing, how much that contributed to the increase in all-in deposit costs, maybe just the context on what market share are really looking to grow deposits.

And then maybe as an example, that Evanston branch that Ed mentioned, what's the kind of all-in cost of funds there which is a relatively new branch versus a more established location?

Well, I'm not going to get into a specific location, but the promotions that we've been running recently have generally been a little bit over 2% promotion rates and probably $500 million, $600 million of deposits that we've raised of that during the quarter.

So if you're looking at a $30-some billion bank, and it's $500 million to $600 million of promotional rates that are slightly over 2%, that's sort of the impact.

I mean you can run the math, I haven't figured it out to the basis point.

But that's sort of what we did this quarter, so $500 million, $600 million of promotional accounts at a little over 2%.

And I'm showing no further questions in the queue at this time.

So now it is my pleasure to hand the conference back over to Sir Edward Wehmer for any closing comments or remarks.

Thanks, everybody, for listening.

I know it's a lumpy quarter.

If you have questions, Dave and I and David Stoehr will be able to answer if you have additional questions, and we look forward to talking to you in 3 months.

Thanks so much.

Ladies and gentlemen, thank you for your participation on today's conference.

This does conclude our program, and we may all disconnect.

Everybody, have a wonderful day.