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Centerstate Banks Inc (CSFL) Q2 2019 Earnings Call Transcript

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Centerstate Banks Inc (NASDAQ: CSFL)
Q2 2019 Earnings Call
Jul 24, 2019, 2:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, ladies and gentlemen, and welcome to the Center Street -- CenterState Bank Second Quarter 2019 Earnings Release. [Operator Instructions] Later, we will conduct a question-and-answer session and instructions will follow at that time. [Operator Instructions] I'd now like to introduce your host for today's conference Mr. Will Matthews, Chief Financial Officer. You may begin.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Thank you, Katherine. And welcome everyone to the CenterState second quarter earnings call. Thank you for joining us. Joining me in our presentation today are Ernie Pinner, our Executive Chairman; John Corbett, our CEO; Steve Young, our COO; and Richard Murray, the CEO of Center State Bank.

Before we begin our remarks, I want to remind you that our comments may include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Any such forward looking statements we may make are subject to the Safe Harbor rules. Please review the forward-looking disclaimer and Safe Harbor language on Page 12 of our earnings release.

I'll also remind you that you can find our earnings release and other financial information in the Investor Relations section of our website. I'll now turn it over to Ernie Pinner, our Executive Chairman.

Ernest S. Pinner -- Executive Chairman

Thank you, Will. I want to be sure to welcome everyone to the call today. I want to thank you for your interest and support for CenterState and we appreciate you being on the phone. My comments is pretty could be that -- from my point of view, the quarter was busy, especially when you consider that we closed on -- in my opinion an excellent deal with the income operation, interesting from my point of view again, is it's been a great mix that cultures have met very well, all the people are working excellent with each other and we're on track to have our conversion in September.

So within that process, there's a lot going on at all times and we appreciate support you've given us in the processing in that view. So this time, I'll turn this back to Mr. Corbett. John?

John C. Corbett -- President and Chief Executive Officer

Thank you, Ernie. Good afternoon, everybody. And thank you again for your interest in CenterState and taking the time to join the call. For the second quarter CenterState produced a net income of $54.5 million or $0.42 per diluted share. If you exclude merger costs, the net income improved to $66.5 million and earnings per share increased to $0.51.

The adjusted return on assets for the quarter was 1.6%, the return on tangible common equity was 18% and the efficiency ratio landed at 52%. So basically stable with the first quarter, but we still have the cost savings to achieve from national commerce. Even with dividends and modest dilution from two large acquisitions in the last year, our tangible book value per share still grew 16% year-over-year.

We closed National Commerce on April 1st and are on schedule to complete the systems conversion by the end of the third quarter. We went back and we added together all the conversions that have been completed by CenterState, Alabama National, National Commerce and combined our teams have completed over 50 conversions.

So, its challenging as conversions can be, this has been a great opportunity for our teams to grow closer together by sharing ideas and collaborating on best practices. Richard and Will are joining Steve and me a couple days each week in our offices in Atlanta. And as anticipated, they have been great partners as we work on recruiting, retaining and inspiring our team about the future opportunities at CenterState.

In addition to working on the integration, we spent a lot of time discussing the economic cycle and the inverted yield curve. And from those discussions, deciding how we want to position the balance sheet at this point in the cycle.

Three things are clear to us. Number one, macro risks are increasing; number two, desirable growth fits within our credit appetite is more challenging; and number three, our company is highly profitable and our capital formation rate is strong. So it leads to the question, how do we deploy our profits and excess capital?

Do we want to leverage our capital by investing in riskier late cycle loan growth? Or is that the point in the cycle to use our capital to invest in CenterState stock in a lower risk profile that we built earlier in the cycle?

Loan growth story has been interesting. We had very strong production in the second quarter. We produced $864 million in new loans, which was 43% more than our two companies produced in the first quarter, but net growth was still modest in only 1%. So the payoff story is real. Richard has been analyzing it. We believe that the payoffs are a reflection of the mindset of our Florida and Atlanta clients and their risk aversion because of the lasting scars from the great recession.

We're finding that many of our clients are skittish about the cycle risk and are just selling their projects or their entire companies. But the opportunities for new lending are still abundant. We analyzed the deal flow in the second quarter and determined that we passed on $700 million of opportunities or 45% of the opportunities we reviewed during the quarter.

Now, the $700 million, we passed on 85% of them because they didn't fit our underwriting policy and competitors were willing to stretch on loan-to- value debt service coverage and recourse. If we -- and stretched in both just half of the deals we passed on, our loan growth would have exceeded 10%. So the credit team has taken a long range disciplined approach on length cycle lending. And in the meantime, we use the opportunity to purchase CenterState shares with our profits. For the quarter, we repurchased 1.3% of the Company, which still leaves us with a 10% tangible common equity ratio and capital continuing to build.

As we think about the inverted yield curve and the prospects of a lower for longer. It reminds us of the summer of 2016 after Brexit. At that time, back in 2016, we laid out three strategies to create earnings growth in that challenging interest rate environment. The first strategy was to increase our loan-to-deposit ratio from 77% then to a goal of 85%. And we've done that. And today we're at 89% and our net interest margin is up as a result.

The second strategy was to invest in non-interest income lines of business that make us less dependent on interest rate margin. Since the second quarter of 2016, our fee income is up nearly $12 million a quarter. So $48 million per year of new fee revenue. About half of that new revenue is in mortgage. A third is in our interest rate swap business and the balance in SBA growth.

The third strategy was utilizing M&A in branch consolidations as a means to drive efficiency. Since the summer of 2016, we have completed six acquisitions with 147 branches. We have consolidated 63 of those branches, of 43%. The result is a 40% increase in our average deposits per branch. Today we stand at $88 million per branch in deposits. So we acknowledge that this is a challenging interest rate environment for the banking industry. But this team faces challenge before and proving that it can adapt and be successful regardless of the environment.

So, now I'll turn it over to Steve to talk about our net interest margin and fee businesses and then Will be talking about our expenses and capital management. Steve?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Thank you, John. Good afternoon, everyone. I will report out on our second quarter changes in our organic balance sheet. Our second quarter revenue results in both net interest income and non-interest income, as well as our updated expectations for both balance sheet and revenue for the remainder of 2019.

So, first of all, related to the balance sheet. As John mentioned, net loan growth was 1% annualized for the second quarter, and 1% annualized year-to-date. Non-CD deposit growth decreased 1% for the quarter, primarily due to seasonal impacts, but at an increased 4% for the year-to-date. As a reminder, non-CDs deposits increased approximately 9% in the first quarter. Deposit composition remains strong at 630 as total checking account balances represent 49% of total deposits, of which 30% of non-interest bearing DDA.

Moving on to the revenue results, reported net interest margin remains strong and increased 5 basis points to 445 in the second quarter versus 440 in the first quarter, which was higher than our 425 to 435 guidance.

Loan accretion decreased from 49 basis points in the first quarter to 44 basis points in the second quarter, but was higher than our expectations. Excluding all loan accretion on acquired loans, net interest margin improved 11 basis points to 401 this quarter, which was in the center of our guidance of 395 to 405.

The primary driver of higher NIM is due to the income acquisition closed on April 1st. One other item on margin. Total deposit costs increased 13 basis points from the prior quarter to 70 basis points. Excluding the impact of an income, total deposit costs increase only 4 basis points from the first quarter, while total interest bearing liabilities increased only 1 basis points in the first quarter.

Non-interest income. As expected during the current quarter, non-interest income as a percentage of average assets declined from 96 basis points to 91 basis points due to income acquisition. That was better than our guidance of 85 to 90 basis points [Indecipherable].

Total non-interest income increasing $8.6 million from the prior quarter, primarily due to increases in mortgage banking revenue, correspondent banking revenue and the effects of the additional income and not interested income.

In mortgage banking, non-interest revenue increased by $2.6 million for the quarter to $6.8 million. New mortgage loan origination for the quarter was a record $416 million versus $289 million pro forma for income in the first quarter. 63% of production was secondary, while 37% was booked on the portfolio.

The secondary gain on sale margins were 2.61% and purchases were 82% of the closings in the second quarter versus 18% revised. Correspondent banking revenue increased $2.5 million from the prior quarter and $4.5 million for the prior year second quarter, primarily due to continued increase in the interest rate swap revenue.

For interest rate swap program. Transactions for the second quarter of 2009 -- 2019 increased by 43%, while notional value increased by 90%. An expanded customer base flatter yield curve and lower rates are the primary drives to the increased production. Interest rate swap revenue and pipeline is strong and should continue to be a tailwind in the flat yield curve environment.

So lastly, our 2019 balance sheet and revenue guidance. Loan growth based on John's earlier discussions on our credit appetite, our loan production and pipeline, and our payoff expectations, loan growth is expected to increase low-to-mid single digits for the remainder of 2019.

Deposit growth. We expect deposit growth continue to approximate mid single digits as it has in the first half of the year. As a reminder, due to the seasonal nature of some of our accounts. Typically, we see deposit balances grow at a higher pace in the first quarter and the fourth quarter that are more muted in the second quarter and third quarter. So there's no change in our guidance there.

Net interest margin based on the new lower yield curve, as well as our forecast of two rate cuts this year, we're revising our NIM guidance ex-loan accretion down to 3.90% to 4% for the remainder of 2019 versus 395 to 405 in the previous quarter.

Reported NIM continues to be a little higher than expected due to higher payoffs and higher loan accretion. Based on our internal forecast, we would expect loan accretion to add approximately 35 to 40 basis points for the remainder of 2019. This potentially remains lumpy based on prepayment rates, which could affect results.

In total, we would expect reported margin to be between 430 and 440 for the remainder of 2019, which increased 5 basis points from our 425 to 435 guidance in the previous quarter on a smaller balance sheet.

Non-interest income. Non-interest income, the average assets with 91 bps for the second quarter, which was better than expected due to some of our non-interest income businesses performing at a higher clip. Based on the current environment, we would expect non-interest income to continue with these elevated levels in the back half of the year.

The third quarter will be our first quarter with the Durbin penalty as it is 18-months since the company crossed $10 billion in assets. The impact of Durbin is expected to be approximately $10 million to $12 million annually, or 6 to 7 basis points of non-interest income to average assets. As a result of both of our expectation for elevated non-interest income as well as the Durbin impacts, we would expect the ratio of non-interest income the average assets to range between 80 and 90 basis points for the remainder of the year.

With that, I will turn the call over to Will, to discuss credit, non-interest expense and share repurchase results.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Thanks, Steve. We had good improvement in our non-performance this quarter with our NPA loans plus [Indecipherable] down from 51 bps last quarter to 28 basis points these depending the quarter at $26 million of non-performing loans and including OREO, $32 million in NPAs. Our allowance coverage of non-performing loans was back to a healthy 154%. Our loan loss provision of 2.8 million exceeded the 2.2 million in net charge offs. This representative an annualized net charge off rate of 8 basis points for the quarter, which brought our cumulative five quarter total to 19 basis points. So an average of about 4 basis points annualized per quarter over the last five quarters.

With respect to seasonal [Phonetic], our project team continues to do a great job and has us on track with our plan. As we've noted before, we're not yet at the stage where we're prepared to disclose the expected impact on our allowance levels. But we plan to be in a position to give some guidance there on our third quarter call. We did include in our release on the bottom of page six, the current breakout of our $71 million discount on PCI loans, which shows a credit discount of approximately 28 million and a non-credit discount to approximately $43 million.

That's a new disclosure this quarter. Our non-interest expense side, are N&E totaled 106 million, excluding the 15 million in merger related expenses, which was about where we expected the number to be with the addition of the income CDI immunization and having the charter conversion behind us.

This resulted in an operating efficiency ratio of just under 52%. Again, excluding the merger related expenses. The third quarter will again be messy with a smaller component of the income conversion occurring this month in July. But the main income conversion occurring in September but the fourth quarter should be pretty clean after that. We still expect the income cost saves to be in line with our modeling. But we do also acknowledge that our NIE base may fluctuate somewhat from quarter-to-quarter based on a number of factors, including the performance of our non-interest income business lines.

Our effective tax rate in the quarter remained pretty consistent in the 23.5% range, which is about where we expect it to remain for the rest of the year. Turning to repurchases, as we noted in the release, we repurchased 1.68 million shares at a price of just under $23 per share during the second quarter. Leaving our remaining unused authorization at 4.8 million shares.

As you heard John say, with attractive growth more challenging and with high profitability, we're forming capital at a rapid rate in a quarter where we were active in share repurchases and where we had 15 million in merger related expenses, we still grew our TCE ratio to 10%.

As investors and capital managers, we're going to continue to assess the environment and we'll make capital decisions that we believe are in the best interests of the company and its shareholders. Thank you, Katherine. We'll now take questions.

Questions and Answers:

Operator

Thank you. [Operator Instructions] And our first question comes from Brady Gailey with KBW. Your line is open.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

Hey, good afternoon, guys.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Hey, Brady.

Ernest S. Pinner -- Executive Chairman

Hey, Brady.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

So, Will, I heard you that a expense will kind of continue to be messy. But when you look at core expenses in 3Q, since we expect them to be roughly flat with the 2Q level, just due to the timing of the income conversion and then as we get toward 4Q and into 2020, that's when you'll see expenses kind of a step down as those cost saves are realized?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Yeah, in a general sense, and Steve or John or Richard may jump in and elaborate here and add to my answer, but, I guess a component in a general sense that's an accurate portrayal. I think the components that are hard to predict would be number one, we know we have several non-interest income business lines. They have commission based compensation structures and therefore have a variable expense base of revenue. And depending upon the business line and the various variable expenses, including comp, that could be roughly 50% expense increase for every dollar of revenue.

So we have additional $2 million and swap revenue or additional $2 million in fixed income sales or mortgage, each one of those would be add another million dollars or so to that quarter's non-interest expenses. So you get that component. And as we approach the back half the year, there are other other things that are harder to predict, like our health insurance. We're self-insured and our health insurance run rate is roughly $20 million annualized expense for the company, so depending upon our experience in the back half of the year there, that's hard to predict.

And then, of course, as you get near the end of the year, you begin to chew up your incentive accruals with a little more precision. And that's always hard to break halfway through the year as well. So with a lot of qualifiers. Yes, your portrayal would be accurate.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

Okay. All right, then on the buyback, it was great to see some activity this quarter. Would you consider that more of a one time thing? Or do you think the buyback is going to be something that you will consider kind of on an ongoing basis?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Yes, I think, Brady, we always consider the environment that we face when we make decisions about capital and if we continue to face an environment where growth of an acceptable quality is a challenge and an environment as well, where bank stocks are pretty much out of favor, then we would definitely expect continued return to capital via share repurchases, while also maintaining very healthy capital ratios. So, that we can operator from a position of strength. If we are -- already head into an economic downturn. So based on the current environment, we anticipate reinvesting a portion of our profits in share repurchases, but it's likely to be lumpy from quarter-to-quarter based upon what we see.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

All right. And then finally for me, with income you picked up a small kind of below the line. You call it noncontrolling interest is about 600 grand this quarter. It's not a big number. But as far as forecasting that our -- should that number be fairly constant on a forward run rate as we look quarter-to-quarter?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yeah, Brady. I'll answer that. That is related to, as you may recall, that the factoring business that come on us. And when National Commerce acquired their business in 2014, it recorded 70% interest. And that's the 30% minority interest piece. The call option that we own to acquire the remainder of that business, that window opens up during the third quarter so it would be our intention sitting here today that we would plan to exercise that call option and clean that up, although that's not a final decision we've definitively made, that's our likely intent. And so that sort of noise, if you will, will -- minority interest peaceful go away in the not too distant future.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

Got it. So if you do exercise that option and owned 100% of the company, then I guess that's 600 grand would move up in the income on a quarterly basis?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Correct.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

Great. Thanks for the color.

William E. Matthews -- Executive Vice President and Chief Financial Officer

We'll be paying cash for that, that component I thing, as well already.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

How much cash would be paid?

William E. Matthews -- Executive Vice President and Chief Financial Officer

It is a variable formula based upon a multiple of trailing twelve earnings, so the trailing 12-month period is not yet closed out. But in round numbers it's somewhere in the $12 million, $13 million [Indecipherable] $30 million,$40 million range depending upon how the final two months of that trailing 12 period play out.

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

Okay. Great. Thanks a lot.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Certainly.

Operator

Thank you. And our next question comes from Michael Young with SunTrust. Your line is open.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Hey, Good afternoon.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Hey Mike.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

I wanted to start maybe just with the acquired loans. I think the amount you brought over was just a little less than what I was thinking. I think income was around $3.3 billion at the end of the year and it was like about $2.8 billion came over. I know you kind of mentioned that, but could you just walk through maybe some of the moving pieces if there is a specific. Hopefully specific portfolios or loans you walked away from -- some color there that would be helpful.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yeah. This is Michael -- Michael, it's Steve. I think what you're referring to is just the draw down in the acquired book and of course in the acquired book there was the National Commerce Loans, but there was also the several other banks loans in there. So there was always kind of a draw down. But so there wasn't a 500 -- $500 million payoff in the national commerce itself.

William E. Matthews -- Executive Vice President and Chief Financial Officer

It was a full book came over --

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

It was a full book came over at 3.3 ish.

William E. Matthews -- Executive Vice President and Chief Financial Officer

And every bit as expected.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yeah. As expected so it would have been the entire portfolio, including other banks that were purchased that brought that number down.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Okay, and is there anything to read into that, I mean, just from a bigger picture? You -- I know the comments about, kind of the CRE projects and some sales and businesses. But any other, loss of lending personnel or anything in specific markets?

Richard Murray -- Chief Executive Officer, Director

No, Mike. This is Richard. Definitely no loss of lending personnel. And I'll give you the answer to that in a second. But the loan growth in particular, as John mentioned, it was a 1% annualized growth rate had really strong production, $860 million which was significantly above what we produced on a combined basis a quarter ago that we did have roughly $100 million in increased early payoffs and pay downs compared to the quarter before.

But the loan production was still really good across all of the markets of National Commerce in particular, it was proportional to the size of roughly 25% of the production. Our south region, our west region, as well as the Central Florida, Orlando over to the East Coast. Those are all very strong production regions and the pipelines continue to grow. So we're encouraged as we look forward to -- three. We do think loan growth will be more pronounced in Q3, but there does appear to be some pockets of caution that John mentioned, which is probably why we had the $100 million in increased payoffs and paydowns in the second quarter.

So we don't feel like this is a time for us to stress, so we won't get every deal we're seeing forward, but, the economy is still good. Like I said, the pipelines have continued to increase. So we're getting some good looks and we've got really good bankers and really good markets. And so we're going to continue to grow organically. And it may be more than what we expect. I mean, that would be great. But, given our experience in Q1 and Q2, our expectations are more and that's mid low to mid single digit growth rates. But making the focus on the relationship managers. Obviously, we're always recruiting new relationship managers. That's been a priority of ours from the beginning. Our relationship manager count actually up, we had 234 relationship managers at the end of the quarter, that's about 14 more than at the end of Q1. And we're recruiting in all markets and we're recruiting all the best bankers that we feel like are the best bankers that can be successful at CenterState, some are part of the SunTrust BB&T team that everyone's talking about and asking about and we're certainly focused on those as well because we think that's a very unique opportunity given the size and where those markets are relative to our markets. But we're focusing on all bankers in each of the markets and we've had some success there. But we're also mindful of our own situation, the change that we're going through, the conversions that we're currently planning and about to embark on. So we're also paying a lot of attention to our back door. So that's a focus for us to.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Okay. Thanks for all that color. One last one just on, I guess, kind of CECL maybe for Steve or Will, but, obviously the loan loss reserves that are pretty low number, but the acquired loans have a reserve allocated to them. Could you just remind us what the all in kind of credit mark is? And then what your expectations are, if you have any, yet for CECL, a pro forma basis?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Yeah, Michael. As well and Steve could elaborate it -- clarify. If you look on page six, the bottom on page six, we did had a footnote disclosure to our disclosure of the loan discount on our acquired portfolio. So at the bottom, you'll see were it total purchase loans about just under $7 billion in principal balance carry balances, $6 billion for change. And in total loan on this kind of loan, $145 million about $71 million of that discount was attributable to PCI loans and about $71 million as of our last cash, we forecast about $28 millioon -- $27 million, $28 million of it was related to credit with the remainder of the other $44 million just be another or rate type discount.

And on CECL, I'm sorry, I forgot that part of question. We expect to be able to get some guidance there. Our plan is to do so with our third quarter call. We were on pace with our modeling and model validation, all that true stuff but not yet at a point where we think it is information we're ready to disclose.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Right. Now, just a follow-up to Will's point on that disclosure on page six, which was new for us. We are disclosing that there's a credit component which if today all things being equal, that didn't change, which it will over a period of cash flows. There will be roughly $27 million reserve that will be created out the CCI and the rest of it would continue to accrete, which is how it's modeled today. Of course, we'll have a couple more recast and that'll change over the next couple of quarters. But that disclosure is there to try to help investors and analysts see the full impact on the PCI portfolio.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Okay. Thank you.

Operator

Thank you. And our next question comes from Michael Rose with Raymond James. Your line is open.

Michael Rose -- Raymond James -- Analyst

Hey, guys. Sorry if I missed this, but as it relates to the core NIM outlook for the rest of the year, does that include rate hikes are assuming rate cuts?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yeah. Michael, this is Steve. We have four -- we have -- two rate cuts in our outlook. And what our expectation last quarter was 395, 405 was our expectation of the core NIM for the remainder of 2019. We have changed that with the new environment and with the two rate cuts, it's going dramatically happen in the last quarter to 390 to 4% range. So we moved the range down five basis points. You'll recall this quarter our core NIM was 401, but we expect in our forecast today we expect two rate cuts.

Michael Rose -- Raymond James -- Analyst

Okay. So couple basis points for every kind of, I guess, what would make you what are the drivers that would make you come in toward the top end, relative to the bottom end of that range? I'm sure it's a myriad things, but we'd just bring your thoughts?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Sure, a couple of things. First of all, would be kind of our loan to deposit ratio would be one lever today to 89. We're comfortable taking that up a little bit further. Probably not going to take it greater than 92%, 93% or so, but that is a particular lever for that as well as the moderation of deposit cost. I think what we're seeing in our markets is at least in our last management also about a week ago, is that the pressure is still there, although we are hearing from many of these calls and others that, that the pressure might moderate. So my guess is that pressure doesn't moderate a lot in the third quarter, but maybe by the fourth quarter, if they do a rate cut or two, you would start seeing that kind of moderate down. If you look at our balance sheet in our disclosures to the 10-K, yes, we have a pretty neutral balance sheet. But understand, any time you have a neutral balance sheet, when they move rates quickly, you have to catch up a little bit. So there's some catch up that probably would happen in the first quarter to.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

And the another component, Michael, I would add it's part of it, of course, is prepayment risk on your loan book and whether some of those things pay off sooner than your demand would indicate that to be downside risk on loans that are priced above where their replacement would be today.

Ernest S. Pinner -- Executive Chairman

[Indecipherable] has I would say we were really pleased when we put the two companies together that -- this is the first time this cycle that we had at a core in NIM and above 4%. So, if you think about how John mentioned in the course of the last three years when we had Brexit that, we had a NIM and probably in the 370 range and we have moved that lever that up to around 4% NIM with a great core deposit base. So, I like our position as well as is anything.

Michael Rose -- Raymond James -- Analyst

Okay. So that's very helpful. Wanted to asked about the correspondent business? Obviously, good quarter. I just remind us again, my understanding is obviously, if rates are moving up, there's some volatility that business will do better. But if you can just remind us, what, what is the optimal environment for that business?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Sure. There's really three types of business that we do there, we do, fixed income with interest rate swaps and then three would do payments, the payments business is pretty steady under any scenario, so I'll stop talking about that. Fixed income generally does a little bit better in the low rate environment, but typically when a low rate environment comes, you get a little more steep yield curve and that's typically when fixed income does better. So we saw an improvement in the second quarter in fixed income, although not a dramatic improvement, just because although rates fell, it was under a flat curve environment, where we really saw a huge improvement was in our interest rate swap business. And that's when you have a flat yield curve. That business really takes off. And that business has been building, It's not that it's only rate dependent, It's certainly certainly dependent upon curve that we have new customers as well. So the interest rate swap business does really well in a flat curve environment. And as you kind of look at it going forward, you would expect as far as we can see right now, it appears that we're in a flat rate environment for a little bit longer for sure.

Michael Rose -- Raymond James -- Analyst

So, I think about it, if we do get a rate cut or two in the curve, we're actually steep in the fixed income piece, might do a little bit better. But the swaps swapping might come off a little bit?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yes, that's exactly right. They probably offset each other, but at a higher level than where we have been in the last year or so.

Michael Rose -- Raymond James -- Analyst

Understood. And maybe just one final one for me. Just just on the loan growth outlook for the rest of the year, that was the end of second quarter to the end of fourth quarter, all in a period end basis.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Yeah.

Michael Rose -- Raymond James -- Analyst

Low to mid single digit growth.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Annualized.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Yes, annualized.

Michael Rose -- Raymond James -- Analyst

Hi guys. Thank you so much.

Operator

Thank you. And our next question comes from Stephen Scouten with Sandler O'Neill. Your line is open.

Stephen Scouten -- Sandler O'Neill -- Analyst

Hey, guys. How are you doing? Good afternoon.

William E. Matthews -- Executive Vice President and Chief Financial Officer

[Speech Overlap]

Stephen Scouten -- Sandler O'Neill -- Analyst

Good. I wanted to get some clarification on some of the commentary. John, I felt like your commentary at the beginning was fairly cautious and maybe leading me to believe that share repurchases could be a bigger part of what you guys are doing and maybe loan growth would slow. But then it sounds like, especially in Richard's commentary, that the 3Q growth does look attractive to you all and that there do seem to be ample opportunities here. So, I'm just wonder if you can kind of help me reconcile those two statements or if it's just growth now, but cautiousness as we look out further.

John C. Corbett -- President and Chief Executive Officer

Yeah, I think it's really when we capture this analysis of looking at the deal flow the deals we didn't do, so we did 864 million in production and then there were $700 million of deals we passed on. So we looked at $1.560 billion during the quarter and we passed on 45%. And so from an activity standpoint, from a pipeline standpoint, the market is still very active. So this is just really where discipline comes in. And we're willing to only do a 75% loan to value and a competitor will do 80%. Is this really the time of the cycle to go outside of loan policy? So, you know, I think what Richard saying is there's plenty of activity, plenty of things to look at. Our lenders are busy, but this is the hard part of the cycle where you've got to make tough, forward looking choices not to take on late cycle risk. We're perfectly. We've always said, Steven, that we're trying to build the company to grow organically 10% a year through a cycle faster. The first half of the cycle slower, the back half of the cycle.

So if we want to grow in 8%, 9% and that would be fine as long as it's within our credit appetite. But if we're not growing, let's say we continue to grow loans loans in a low to mid single digit range. Our TG is rapidly marching up. So we ended the quarter at 10%. You know, a few quarters, you're looking at 11%. There's a point here where we need to deploy the capital and we need to do it in dividends, M&A, loan growth or buybacks. And this is really the first quarter in the second quarter, we really got active in the buyback piece. So a slow growth environment, we're growing capital. That's an option that we plan to utilize on a quarter-by-quarter basis based upon the market.

Stephen Scouten -- Sandler O'Neill -- Analyst

Perfect. Really helpful. Thank you. And then just as I think about some of the maybe longer term macro risks you spoke to and just that those are increasing really slightly today and you begin to monitor them more closely. Is there anything specifically you guys are seeing from a credit perspective that gives you pause any segments, any sectors and geographies or otherwise, that kind of you're starting to get more cautious on now?

Richard Murray -- Chief Executive Officer, Director

It's no different than what we've said the last couple of years. We're cautious on multi-family hotels, Miami. Those are some things we've said repeatedly. But I think what we're seeing right now is more, is more macro risk, I mean, think about what happened to stock market in December. That was a shock to the system and to business sentiment. The consumer seems to be doing fine. But the business sentiment seems a little more cautious. And when we talk about late cycle risk for us as bank managers, it's a little different than investors.

Investors have the optionality to make a sell decision in a day. Any loan decision that we make, we're planning on living with the next five years. So, I'm not saying we're at the end of the cycle, but we're clearly late cycle and we're trying to be forward-looking and looking at every decision we make as a three to five year risk.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Yeah, and I would just add, based on John's commentary and Richards, that, you know, there are payoffs were elevated this quarter, about a $100 million versus last quarter. And some of the underlying trends in there, which were interesting was that -- we had several business owners who -- some of the top payoffs that actually sold their business, not just the projects, which means they're derisking as well. And that's probably lessons learned from the last cycle. So, you kind of have a portion of the best borrowers you want to be or are selling out to go to just be more cautious as well. So that's, you know, that's who we want to align with.

Ernest S. Pinner -- Executive Chairman

Yes. I mean, these are some of these are multi generational business that are being clients of ours for a long, long time. And they just punched out and said, we're going to go on the sidelines.

Stephen Scouten -- Sandler O'Neill -- Analyst

One last clarifying point, Stephen, I think we ought to make it that $700 million or so in loans that we didn't fit within our box, It wasn't that other fill in crazy stuff. It's just one or more combinations of factors that didn't fit within our underwriting parameters and we chose not to, not to deviate. But it wasn't like this is wild stuff going on.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yes. No, they, they're really one, I mean there was no real pattern in terms of the metrics or the craziness or any particular competitor. And again, this is the first time we really gathered this information. So, we think it will be helpful going forward. It'll be more helpful. After we've been able to gather it for, two, three, four quarters consistently, so we know exactly what we're looking at. But it really wasn't anything -- another thing, these were not a transaction for the most part or opportunities -- excuse me, for the most part that were appealed by folks in the fields, which gives us the feeling that we're not shrinking our credit box as much as there -- this opportunities were just a little bit more of a stretch than we were willing to do and we didn't feel like at this point time in the cycle was the right time to try to find a way to stretch.

Stephen Scouten -- Sandler O'Neill -- Analyst

Makes sense. Makes sense. And maybe one last one for me. If we try to kind of isolate how you expect interest bearing deposit costs to react to these potential rate cuts, especially as we get, three or four potentially with the forward curve implies today. How do you think, on a quarterly basis for each 25 basis point hike. Does in spring deposit costs might perform or if you peg debated to it on the way back down? Or can you just get some color on how you're thinking about it?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Sure. And we have models around all of this and it's based on, a lot of assumptions. The one comment, I would make is, our betas on the way up have been pretty low. So, you would expect your betas are back on the way down are going to be reasonably low because there's a lot of core deposits in there. We do want to make sure that when we cut deposit rates, which we're actively looking at relative to deposit costs, that we don't cut the core customer because at the end of the day, our core deposit base is the foundation of our bank and it is a very quality low cost one. So we don't want to be short sighted in moving too fast and cutting out some of the things that we've built over the past two decades. But I would say that if you think about the betas going down, so obviously checking accounts aren't going to move very much.

The money markets are going to be probably one that moves a little faster on the way down, the CD they are going to be 100% correlated, within the first six or nine months of CD, but pretty short, we are average life is probably around six to seven months. So those would be 100% correlated to the right moment and CDs the money markets will be roughly between 40% and 50% beta.

So as you kind of think about each one of those structures, you could see, once we get Fed rate cuts for maybe a quarter or so, we'll still see deposit costs increase for the next quarter or so. But once we get that into the system and we start actually decreasing many of these costs, we'll probably see 3 or 4 basis points on the margin, on the cut side, on the deposit cost side. But that's just an estimate based on a lot of assumptions as the marketplace.

Stephen Scouten -- Sandler O'Neill -- Analyst

Got it. Great. Thanks so much for taking the questions, guys.

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

You bet.

William E. Matthews -- Executive Vice President and Chief Financial Officer

Thank you.

Operator

Thank you. And our next question comes from Tyler Stafford with Stephens. Your line is open.

Tyler Stafford -- Stephens -- Analyst

Hi. Thanks, guys. I want to start on fee income and specifically just the mortgage business. Do you have what the amount of mortgage loans sold during the quarter were?

William E. Matthews -- Executive Vice President and Chief Financial Officer

The 416 times, 66 -- 63%. Whatever that was. [Speech Overlap]

Tyler Stafford -- Stephens -- Analyst

Okay, I can do that math. So lots of inputs, I guess, over the last several quarters with the addition of the State Bank team income this quarter and just obviously the lower rates and the added volume that the mortgage markets producing for you guys. Can you just give a sense, a sense for how to think on a sustainable kind of annual production level if there is a target amount of total mortgage production as you want to sell each year? Just given all the puts and takes on it, just how to think about that from a --from an annual kind of big picture perspective?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yes. So, it's a good question. Kind of our target secondary to portfolios around 70%, so 30% portfolio. Of course, that will change in the various environments like for instance, what you're seeing now is an inverted yield curve. So therefore you would expect that the pipeline would close this quarter probably has a little more bet toward the secondary versus portfolio just because, a bit cheaper from a portfolio, from a secondary perspective, since the 30 year rates are hovering around 4%.

As you think about our targets for that business, we're looking I think we said earlier in the year with income, we're looking at around $1.5 billion of production and back to 70% of that would will be our target to sell. So, if you do that math and being on sale, that would kind of get you from an annual basis. And then, of course, you're going to have puts and takes relative to the refinances or yield curve [Indecipherable] or what have your hope. Is that helpful?

Tyler Stafford -- Stephens -- Analyst

Yes, $1.5 billion on an annual basis is kind of a rough approximation is that the number you said?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Yes.

Tyler Stafford -- Stephens -- Analyst

Okay. Got it. Okay. Perfect. Just thinking about the deposit trends you saw this quarter. Can you just talk about, I guess, legacy CenterState and legacy National Commerce of -- just what you saw from it, from both the pricing and kind of product trend. Product growth trend perspective during the quarter?

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Taylor, this is Steve again. As I mentioned in our prepared remarks, the deposit costs went up 4 basis points. If you kind of normalize in National commerce and CenterState as of the first quarter, I think our cost positively put us together with 66 basis points this quarter, 70 basis points. So it was up 4 basis points. But if you looked at our interest bearing liabilities, which would include, all our federal home loan, bank advances, trust preferred and so on, our interest bearing liability costs were only up 1 basis points. And the reason for that was we saw an opportunity late in the first quarter to move some of our federal home loan bank payables off and go to broker at cities. So what happened was our deposit costs went up a little bit because there was a funding advantage to doing broker cities, which shows up in deposits cost versus federal home loan bank advances which show an interesting liability. So as we look at it, you know, total funding was a a basis point for the quarter. Having said that, where we see the most pressure is on the money market side of the house.

So I think that's where we're seeing, any pressure at all, the rest of CD pressures maybe still there, but we're not a big city shop. So I don't think there's a ton of pressure in money market is probably the biggest pressure point.

William E. Matthews -- Executive Vice President and Chief Financial Officer

And Taylor, just to clarify that. As Steve said, that 1 basis point and 4 basis point respectively those both were excluding the effect of the income margin.

Tyler Stafford -- Stephens -- Analyst

Okay. Got it. Thanks, guys. And then just lastly from me, just given the income deal that close 90 days ago or so, any interest in what you're interested in M&A or appetite for M&A at this point?Thanks.

John C. Corbett -- President and Chief Executive Officer

Taylor, its John. Really, it's no different than what we've communicated earlier. 2019 is kind of a heads down integration year to make sure that we get all the pieces put together correctly. Having said that, the industry is facing revenue headwinds we've got an inverted yield curve. Growth is potentially slowing. So we're going to get growth and earnings per share it may have to come on the expense side and there's no better way to do that than through M&A. So we are entertaining, we're having discussions, but we're thinking about what to do in 2020. And one of our goals is to continue to grow the franchise in markets where there's great demographics, great population and migration. Our first choice would be to be in the markets we are currently in, in Florida, in Georgia, in Atlanta. If we had to leave these markets, in order to replicate that kind of population in migration, if you went east, it's got to be the Carolina's; if you went West, you'd have to go to Texas to keep the same kind of demographic profile. But that's sort of our thinking, but heads down in 2019 and planning for 2020.

Tyler Stafford -- Stephens -- Analyst

So, John, Texas at a certain point would not be too far West for you?

John C. Corbett -- President and Chief Executive Officer

You know, it feels kind of far west, but if you look at how larger banks have built their franchise in the markets that they've gone to. If you went West from Atlanta, everyone goes to Texas. They normally don't stop along the way. So that's not saying that's something that we're going to do, but that's just the demographic reality of the east if you head up 85 -- if you are good to go to Greenville, Charlotte, Charleston, those kind of markets are very attractive, similar to ours, but if you go west, you really got to go all into Texas in order to have a similar demographic profile.

Tyler Stafford -- Stephens -- Analyst

Understood. Okay. Thanks, guys.

Operator

Thank you. And our next question comes from John Rodis with Janney Montgomery. Your line is open.

John Rodis -- Janney Montgomery Scott LLC -- Analyst

Good afternoon, guys. Just a little different question. I had seen a -- the other day a 13-F filing at a Region Financial that they bought some stock like a little bit over 1% of stock in CenterState's. Just curious if -- did we had any conversations with them just about what that position is?

William E. Matthews -- Executive Vice President and Chief Financial Officer

Hey, John. It's Will. I'll short circuit that, that is not -- that's Regions Trust Department and it's a shareholder, group of shareholders that were national, large national commerce share owners that have their shares and a trust in regions, regions trust far and so. We have the same question at National Commerce over the years as well.

Ernest S. Pinner -- Executive Chairman

So, its not regions.

John Rodis -- Janney Montgomery Scott LLC -- Analyst

Okay. No, I thought that might be the case, but I just wanted to get it out there. So, no, I appreciate it. All my other questions were asked and answered. So thank you, guys.

William E. Matthews -- Executive Vice President and Chief Financial Officer

[Speech Overlap] Thanks John.

Operator

Thank you. And we have a follow up from Michael Young with SunTrust. Your line is open.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Hey, thanks for the follow up. Just on the M&A commentary, if you went into another new market even in the past, you wanted to go with a little bit of scale. Is that kind of the way you're thinking about it this time? Or it is the fact that we're late cycle makes you want to make smaller bets, just trying to kind of size up how you're thinking about that?

John C. Corbett -- President and Chief Executive Officer

Yes, Michael. It's John. I think we're more interested in the quality of the loan book than the size of the institution. The reality is, if you look at the chess board today, there are not as many smaller opportunities as there were over the past five years. We really built the company doing $500 million to $1 billion deals, we've already said 10 to -- 10% of our size to a third is kind of ideal. But we have to play within the reality chess board and there aren't as many smaller opportunities out there.

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Okay. Thanks.

William E. Matthews -- Executive Vice President and Chief Financial Officer

You bet.

Operator

Thank you. And I'm showing no further questions. I'd like to turn the call back to Mr. John Corbett for any closing remarks.

John C. Corbett -- President and Chief Executive Officer

Okay, Kevin. Thank you for calling in today and thank you for your interest in CenterState. We're planning to attend a number of investor conferences in the third quarter, we'll be at the KBW conference in New York next week, and then in September, the Stephens conference in Little Rock; and Raymond James in Chicago. So we hope to see many of you there. In the meantime, if you have any questions, feel free to reach out to any of us and have a great afternoon.

Operator

[Operator Closing Remarks]

Duration: 54 minutes

Call participants:

William E. Matthews -- Executive Vice President and Chief Financial Officer

Ernest S. Pinner -- Executive Chairman

John C. Corbett -- President and Chief Executive Officer

Stephen Dean Young -- Executive Vice President and Chief Operating Officer

Richard Murray -- Chief Executive Officer, Director

Brady Gailey -- Keefe, Bruyette & Woods, Inc. -- Analyst

Michael Young -- Suntrust Robinson Humphrey, Inc. -- Analyst

Michael Rose -- Raymond James -- Analyst

Stephen Scouten -- Sandler O'Neill -- Analyst

Tyler Stafford -- Stephens -- Analyst

John Rodis -- Janney Montgomery Scott LLC -- Analyst

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