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Edited Transcript of MOFG earnings conference call or presentation 26-Jul-19 4:00pm GMT

Q2 2019 Midwestone Financial Group Inc Earnings Call

IOWA CITY Jul 31, 2019 (Thomson StreetEvents) -- Edited Transcript of Midwestone Financial Group Inc earnings conference call or presentation Friday, July 26, 2019 at 4:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Barry S. Ray

MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP

* Charles N. Funk

MidWestOne Financial Group, Inc. - President, CEO & Director

* Gary L. Sims

MidWestOne Financial Group, Inc. - Senior VP & Chief Credit Officer

* James M. Cantrell

MidWestOne Financial Group, Inc. - CIO, VP & Treasurer

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Conference Call Participants

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* Andrew Brian Liesch

Sandler O'Neill + Partners, L.P., Research Division - MD

* Brian Joseph Martin

Janney Montgomery Scott LLC, Research Division - Director of Banks and Thrifts

* Damon Paul DelMonte

Keefe, Bruyette, & Woods, Inc., Research Division - SVP and Director

* Jeffrey Allen Rulis

D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst

* Nathan James Race

Piper Jaffray Companies, Research Division - VP & Senior Research Analyst

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Presentation

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Operator [1]

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Good day, and welcome to the MidWestOne Financial Group, Inc. Second Quarter 2019 Earnings Conference Call. (Operator Instructions) Please note, this event is being recorded. I would now like to turn the conference over to Charles Funk, President and CEO. Please go ahead.

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [2]

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Thank you very much, Alyssa, and good morning, or good afternoon. Today, I want to begin by reading the forward-looking statements message. This presentation contains forward-looking statements relating to the financial condition, results of operations and business of MidWestOne Financial Group, Inc.

Forward-looking statements generally include words, such as believes, expects, anticipates and other similar expressions. Actual results could differ materially from those indicated. Among the important factors that could cause actual results to differ materially are interest rates, changes in the mix of the company's business, competitive pressures, general economic conditions and the risk factors detailed in the company's periodic reports and registration statements filed with the SEC. MidWestOne Financial Group, Inc. undertakes no obligation to publicly revise or update these forward-looking statements to reflect events or circumstances after the date of this presentation.

With that obviously there were a lot of moving parts in our financial statements this quarter, certainly more than usual. We'll try to walk you through these as best we can, but overall I would say, this was a quarter of progress in many respects in our company, both with the merger and with the legacy bank.

Just to go over reported results, the reported results showed an ROA of 101 basis point, 13.3% return on tangible equity, 63.3% efficiency and $0.72 per diluted share. If we only take the merger-related expenses out, these numbers are 125 basis points ROA, 16.3% return on tangible equity and a 56.2% efficiency ratio, and we calculate $0.88 per share per diluted share.

We also have 2 onetime items or relatively onetime items that should be noted, clearly the sale of MidWestOne Insurance that -- where we realized a $1.1 million gain, was a onetime item. And the MSR write-down -- mortgage servicing rights write-down of $507,000 was certainly a larger-than-anticipated amount. And just for those -- for the record, that write-down was about 50-50 between MidWestOne and American Trust.

So as you can see, it was a busy quarter. If we look at the balance sheet, loan growth was relatively flat for the quarter. Generally, as I said in the earnings release, the rural regions in Iowa, Minnesota and Wisconsin showed net pay downs, some of this involved working problem credit side of the bank, which is a good thing, and we did show continued growth in Denver and the Twin Cities. Though the Twin Cities was a little bit uneven, in the Twin Cities, we have 2 regions with nice loan growth for the year and 2 that are either flat or down. Denver has gone well above the $100 million mark in loans outstanding, which is -- and they continue to do very well, and we're seeing better loan growth out of Iowa City than we've seen for several years.

I would say, we have a decent pipeline for the second half of this year, but we also see a few more pay downs coming. We're also seeing very aggressive credit terms in a few of our markets. And over the last 30 days, we passed on a few credits due to competitors pushing the envelope and we weren't willing to push the envelope quite that much.

Certainly, a bright spot on our balance sheet has been the growth in deposits at legacy MidWestOne. Legacy MidWestOne is up more than 4% from year-end and that's not annualized in deposits, and up 1.5% for the second quarter. So -- and every region in our company has shown positive growth in deposits. And over the long term, we think that's a very good bank.

The strongest markets for deposit growth have been Iowa City and Florida as well as Denver, and I will say that the team in Denver has had a few big deposit wins that will hit our balance sheet in the third quarter as that market continues to be disrupted a little bit.

I think we have a good story on the net interest margin in certainly a tough interest rate environment, given the slope of the yield curve right now. Of course, the headline margin of 3.68% includes discount accretion. We calculate our core margin, which would exclude purchase accounting adjustments, would be at 3.45% and declined 3 basis points during the quarter.

I would also note that due to the acquisition, we took on increased debt at the holding company and so between the bank loan that we have, the assumed sub-debt and troughs, we calculate that cost as 6 basis points of margin. So that means at the core bank, we actually have an even better story relative to the net interest margin, so I would say, that's a positive story.

On the margin -- last thing on the margin, there were 3 things that helped our margin stabilize: number one, it's just a mix change, which we expected because of the higher loan-to-deposit ratio from the American Trust acquisition. But also we did identify $40 million of negative leverage that was on their balance sheet, and we eliminated that leverage before the merger. That had a significantly good impact. And we also restructured their investment portfolio by selling almost every bond in their portfolio and reinvesting in bonds that are more -- have a little bit more yield and certainly in line with what we've done traditionally at MidWestOne. So again, good story on the net interest margin.

On noninterest income, I think the big thing is that we're very pleased to see the increased contribution from the Trust Department in Dubuque. There has been good customer retention thus far and the margins in their Trust Department are very close to where we would like them to be in the long term, very, very positive. Investment services is having a strong 2019. I think, recently recorded the best month they've had in their history and they've brought over 3 brokers from American Trust, which will help that area of our company do even better going forward.

Net of the MSR write-down, mortgage had a strong June, above budget, and they have a very good pipeline in July and August. And again, I want to remind everyone that American Trust has a very strong mortgage team, and we look forward to their contribution going forward and that team is intact after the merger.

On noninterest expense, again, a good story. Legacy MidWestOne have been making some progress in expense reduction. I think it's fair to say that progress is on hold for a few months as we go through integration, but we will continue to work at that as we go through the year. But I think the big story is the cost saves from the AT acquisition. We think we're well on the way to -- for 30% cost saves, which is what we said we would do whenever we announced the deal. We have no reason to think that we won't achieve that goal.

And I think on noninterest expense, before we get too excited, we still have to wait a quarter or 2 and see where everything settles in, but what we see right now would lead us to be very encouraged for the future. And I think it's fair to say that we've gained positive operating leverage going forward.

On loan quality, again, a positive story. The provision at the legacy bank was $700,000 for the quarter and that puts us back very close to our 2019 budget in the legacy bank. All of our charge-offs came from previously identified credits, and it's important to note that they were marked appropriately, and you could see that because there was a little bit of a recovery as well, a little over $0.5 million during the quarter.

External and internal loan reviews have seen minimal, if any, ratings differences with management, that's always a positive thing. Most of the questions we get on credit are about the ag, the agricultural economy. I think we have a little better story to tell this quarter. And I'll give you a few numbers and speak slowly so that those of you that are recording can get them all down.

We now have 9.5% of the portfolio in ag with the addition of American Trust. So American Trust had a little higher percentage of ag loans than legacy MidWestOne. If you look at legacy MidWestOne and you look at the ag portfolio, we had 1 downgrade and we had 1 upgrade during the quarter. So that's been relatively stable.

If you look back 1 year and you look back to 2018 -- June 30, 2018, 23.4% of the portfolio was either Watch or substandard, that number today is 19.2%. So a little bit apples and oranges because American Trust is in the 19.2%, and I think American Trust portfolio is of slightly higher quality than legacy MidWestOne. But overall, I think a stable to slightly improving picture.

Notably, AT has more dairy exposure. So now at the combined company about 1/6 of our portfolio is -- has dairy exposure. One thing too that's very important is that American Trust did a very, very good job of getting FSA guarantees in their dairy portfolio and they were used extensively. And for those who are familiar with FSA guarantees, that limits the credit risk to the bank, and I think that was very prudent management by AT.

AT also has some cattle exposure, mostly the smaller operators, most left on 100 head. And many of those credits are secured by ag real estate as well as the cattle and very few credit concerns right now in that portfolio. In terms of growing conditions, Iowa probably a little bit better than surrounding states. Nevertheless, I think, it's obvious that yields will be down from the bumper crops that we saw in 2017 and 2018.

Good news in the last 90 days, because I think growers projected cash flows have improved with strength in commodity prices, especially corn. And some of our borrowers took advantage of the strength in commodity prices last month, specifically corn, to lock in prices above $4 a bushel, and that's a good thing and will probably help them with their forecasted cash flow going forward.

So I wouldn't call the situation rosy, but I wouldn't call it dyer. I would just say that it's probably slightly better than it was 90 days ago, but certainly, one that we have to be very, very vigilant in terms of our portfolio. For those that care about lamb prices in our region, lamb prices down 2% in the last year and 13% after 2013 high. And one last thing on credit, in our legacy portfolio, our loan loss reserve at quarter end was 125% of nonaccrual loans. We think that's a strong ratio.

Moving on to capital. You never quite know where capital is going to fall out whenever you do an acquisition because of all the purchase accounting adjustments, but we were pleasantly surprised to see tangible equity at 8.06% at the completion of the merger in quarter end. We had modeled that a little bit lower, so that was a pleasant surprise, and we continue to believe that we have room to selectively repurchase shares and also for future dividend increases.

In terms of the AT transition, it was truly a marathon because of the long time between announcement and close. And just to remind everyone, ATB had to dispose of their financial management group before we could close the deal. That took a little longer than anticipated and we were finally able to close on May 1.

We converted the Wisconsin -- their Wisconsin Bank on May 15, that conversion went very well. We converted American Trust on savings bank in Dubuque 2 weekends ago, and that conversion has a few more issues. I don't think it's anything that we can't handle and we've got -- we've had all hands on deck and a lot of people engaged over the last -- especially over the last 14 days.

Very, very happy with the strong commercial bankers that we have and every one of our AT markets that stayed very close to their customers, and I think we could say the same thing about our Trust staff. So overall, there is, I think, there is reason to be optimistic, but clearly, a lot more work to be done, especially over the next 90 days.

So in conclusion, we continue to build on the momentum that we've established this quarter, continue to be positive with the direction of credit quality and I would thank Gary Sims, especially for his leadership in that regard. And the immediate goal would be to return to a better loan growth path and continue to maintain our deposit growth and bring all of our employees who have come into our company from ATBancorp into our strong culture.

On the call today, in addition to myself, there is Gary Sims, our Chief Credit Officer; Jim Cantrell, our Treasurer; and Barry Ray, who is at a remote location, our Chief Financial Officer, and we would all be happy to answer your questions. There may be a little delay between us because Barry is not with us, but hopefully, we can answer all of your questions. And with that, Alyssa, we'll turn it back to you.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question today comes from Jeff Rulis with D.A. Davidson.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [2]

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I want to dive into the expenses with the merger costs in there, I get to a core rate of closer to $26 million in the quarter. You'll have sort of full quarter run rate with ATB in the third quarter, but you talked about some timing of conversions, a piecemeal, some of it happening in this quarter. Just wanted to kind of check and to see what that run rate looks like for the balance of the year and if there are still some outstanding things to occur maybe even frame up 2020 kind of growth rates on expenses and/or savings, if you could.

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [3]

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Thank you, Jeff. This is Barry. I'll take that one. Yes, so we estimated the 30% cost save and that was on annual run rate of about $40 million of American Trust. And so what we're thinking, given the delay in the conversion this year, I'm going to say that cost savings in at a rate of about 50%. So I would say, we're probably -- we had about $5.3 million of additional expense from American Trust in the second quarter, which equates to about $8 million per quarter. So I would say, our run rate for the balance of the year is probably going to be around -- about between $22 million and $23 million attributable to American Trust. And then going forward, our additional expense from American Trust looking forward to 2020, so you get the quarterly expense run rate, additional expense, again, to about $7 million, that would be consistent with what we anticipated for the 30% cost saves.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [4]

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Okay. So you're pointing to a $22 million, $23 million run rate in the third and fourth quarter?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [5]

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No, sorry, Jeff. I think that's obviously including the second quarter. So I would say, the third and fourth quarters would be somewhere around $8.5 million a quarter perhaps.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [6]

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Above the...

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [7]

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Above our -- no, no, no. So above our $20 million.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [8]

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Well, you're a combined company now. So I guess, if we just take it...

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [9]

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Let's call it $28.5 million.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [10]

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$28.5 million, okay. Fair enough. And then if we kind of run that out and then what was the $7 million remainder in 2020, that's additional or savings?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [11]

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So moving forward to 2020, it would be, let's say, $28.5 million, let's call it, $27 million a quarter, Jeff.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [12]

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Got it. Okay. And then the insurance sale, do we assume that both out of the fee income that -- does that go away out of that, anything there? And is there an offset on the expense side?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [13]

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There is, and we articulated that. It is in the earnings release, but there is around -- Hold on 1 second, Jeff. Yes, on the revenue side, insurance was about $1.3 million in 2018 and the expense component of that was $1.1 million in 2018.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [14]

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Got it. And then maybe one final one, if I could. Just on the -- Charlie, on the credit, just some detail on the increase in nonaccrual and OREO in the quarter?

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Gary L. Sims, MidWestOne Financial Group, Inc. - Senior VP & Chief Credit Officer [15]

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Jeff, this is Gary Sims. So as we kind of tried to articulate in the press release, the legacy MidWestOne problem loan portfolio declined slightly for the quarter, but the increase that you see for the quarter is primarily -- well, principally the problem loans that we brought on from the American Trust acquisition. And as Charlie alluded, we did -- they did have a fairly material agriculture portfolio and most of the problem loans that we brought into -- from the acquisition was from the agriculture portfolio. We've spent our time since -- as we brought them into the portfolio, we spent our time getting our arms around this problem portfolios, making sure that they were adequately collateralized and the appropriate purchase accounting discounts applied to them. So we feel pretty confident in our ability to manage that portfolio to the right conclusion based on where we're at today.

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Operator [16]

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The next question comes from Nathan Race with Piper Jaffray.

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Nathan James Race, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [17]

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I want to start maybe on the margin outlook on a core basis. I appreciate you guys did some balance sheet repositioning that helped kind of the core NIM in the quarter. So just curious maybe how we should think about the trajectory of the core NIM in the third quarter, assuming we get a Fed rate cut next week? And within that context, curious maybe where you're putting new loans on the portfolio today relative to that core yield of around 4.77%.

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James M. Cantrell, MidWestOne Financial Group, Inc. - CIO, VP & Treasurer [18]

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Yes, Nate, this is Jim. I will take that one. Everything that I'm looking at indicates to me that -- my expectation is the core margin is going to be pretty flat going forward. Now that's in a neutral interest rate environment, which, like everybody else, I think we are expecting the Fed is going to make a move, I guess, next week already. I think we're pretty well positioned for that. My guess is we're going to pretty neutral. My experience would say, we'll see a downward drift in asset yields because we do have some prime-based loans that are attached, that will be affected. But we have some -- a fair amount of offsetting liabilities that are floating rate as well. So the impact on that isn't going to be very big. Net -- could be a small increment down in net interest income immediately, followed by a period where I think we probably earn it back pretty quickly over the next several quarters. So again, in the long term, I'm fairly neutral on the margin.

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [19]

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Yes, I would just add to that, Nate, that in our footprint, we've already selectively reduced some deposit rates with the exception of Iowa. And in Iowa, we've got -- we have 1 primary competitor who is paying up -- it was a major competitor and we've not been able to lower our rates in Iowa. But we would expect, if the Fed does reduce, as Jim says, we'd be able to reduce interest rates more selectively over the near term.

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Nathan James Race, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [20]

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Okay. Got it. I appreciate that. So it sounds like, from a deposit cost perspective, they're likely to peak in the third quarter assuming the Fed cuts and rates kind of remain at such level going forward?

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James M. Cantrell, MidWestOne Financial Group, Inc. - CIO, VP & Treasurer [21]

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Yes. I think you're right, it's about the inflection. Third or fourth quarter ought to be the peak in deposit costs, could be -- again, depending on a couple of variables, including market competition, but yes, I think, you're on it, third or fourth quarter would be my expectations for the top out in deposit rate.

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Nathan James Race, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [22]

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Okay. Got it. And just lastly, on loan growth, Charlie, I appreciate your comments earlier, and it seems like payoffs were a headwind in the quarter as well, but you guys are seeing pretty good production across most of your footprint. So just curious how payoffs are tracking thus far in 3Q? And if you still kind of feel good about a mid-single-digit loan growth target over the back half of 2019 here?

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [23]

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Yes. I knew somebody would ask me that question. I would say that we still see some payoffs. I just had a meeting this morning and we still have some payoffs, some just the regular course of business, some from borrowers that we'd like to have pay us off. So between now and the end of the year, I'd say, 1% to 3% on annualized growth, and we'll see where it -- that's a little bit of a wider range, but we'll see where things fall out. We do have potential in some of our metro regions to do better than we've done, but we sort of need to put the pedal to the metal and I'd say 1% to 3%.

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Operator [24]

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The next question today comes from Andrew Liesch with Sandler O'Neill.

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Andrew Brian Liesch, Sandler O'Neill + Partners, L.P., Research Division - MD [25]

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I've got an accounting question for you. Does the expense number that -- the guidance, does that include the intangible amortization?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [26]

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No. That number is not included in the intangible amortization, Andrew.

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Andrew Brian Liesch, Sandler O'Neill + Partners, L.P., Research Division - MD [27]

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Got you. So it was about $930,000 this quarter. Should it step up here in the third quarter, just with the full quarter of the transaction being in the numbers?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [28]

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It will, yes.

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Andrew Brian Liesch, Sandler O'Neill + Partners, L.P., Research Division - MD [29]

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Okay. Got you. And then trend down from there?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [30]

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Yes.

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Andrew Brian Liesch, Sandler O'Neill + Partners, L.P., Research Division - MD [31]

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Got you. And then just, Charlie, deal has been closed now for a few months. Just in general, can you just talk about -- I know you talked about it on the wealth management side, but just customer retention at AT, just how is that going? How do you feel it's going? What -- and then just any update you can provide there.

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [32]

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I'd say, generally, pretty good. It's never going to be 100% whenever you do something like this, but I would say, generally, pretty good and I would attribute that to the strong calling efforts not only from our commercial bankers, but also to our wealth management people. It's been a high priority. So probably a better question for next quarter, but for this quarter, I'd say, pretty good.

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Operator [33]

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The next question comes from Damon DelMonte with KBW.

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Damon Paul DelMonte, Keefe, Bruyette, & Woods, Inc., Research Division - SVP and Director [34]

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So pretty much all of my questions have been asked and answered, but just from a more of a modeling question. So the $3.1 million of merger-related charges, could you kind of give us a breakout as to where those were in the line items, so we can model those line items a little bit more accurately going forward?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [35]

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Damon, this is Barry. On Page 3 of our earnings release, we articulate what line items that falls into, but for compensation and benefits, that was $1,020,000; legal and professional was $1,826,000; data processing, $240,000; and other had $48,000.

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Operator [36]

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The next question comes from Brian Martin with Janney Montgomery Scott.

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Brian Joseph Martin, Janney Montgomery Scott LLC, Research Division - Director of Banks and Thrifts [37]

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Maybe just one question for Jim. Just -- you mentioned, Jim, on the margin the -- kind of the neutrality, what -- can you just give -- remind us what your -- what variable rate loans you have and same thing on the funding side, just kind of -- what the breakdown is because it sounds similar because what -- then what indexes are things tied to?

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James M. Cantrell, MidWestOne Financial Group, Inc. - CIO, VP & Treasurer [38]

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Brian, yes, we -- on the loan side of the balance sheet, if you look, we have a variety of indexes, the biggest single one is prime. We probably have just over 20% of the loan portfolio has a prime element to it. I think if you look at other variable rate index, be they LIBOR indexes out to as long as 1 year, CMT, I think, we would -- if you add all that together with the prime, you get to maybe close to 35% of the portfolio. On the liability side, it's not quite so straightforward. We do -- we clearly have some debt and some liabilities that are tied directly to LIBOR. But there, we will subjectively -- as Charlie mentioned earlier, we'll take the opportunity to lower selectively and back down some of the exception pricing that we've exercised here over the last 2 years as we paid certain accounts a little bit higher rate to get them onboard. We'll start to reverse that. And so I don't have a number for you in terms of the total number of liabilities, but it's going to be, I would say, quite north of $0.5 billion, about $500 million that I can just think of off the top of my head where we would -- we could unwind our pricing on pretty quickly if we need to.

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Brian Joseph Martin, Janney Montgomery Scott LLC, Research Division - Director of Banks and Thrifts [39]

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Okay. And I guess, Charlie, maybe just to your point on the deposit growth, what's been driving the growth in kind of the legacy markets that you guys have been seeing?

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [40]

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Focus. I mean that would be the biggest word. I think those of you who have been on these calls for a while know that we talk a lot about deposit generation, and I think the focus has been good and -- in most of our company. And for example, I believe our Florida market had been flat for about 12 months and they're up 8% or 9% in deposits and they -- we did some things down there not necessarily tied to rate, but we did some things and they've started to see deposit growth. Same thing in the Twin Cities. Hiring David Lindstrom to lead our retail effort has been terrific. Our retail group has been up, depending on what's your time frame is, anywhere from 4% to 6% and they just do a better job of cross-selling and increasing wallet share. And I think maybe lastly -- well, maybe 2 more things, Iowa City really has turned the corner, and is doing a very good job in both retail and commercial of getting deposit business. And then finally, last, but not least, as I mentioned in my opening remarks, what we're seeing out of our Denver team and some of the relationships, they're bringing in 7-figure relationships at a reasonable price and are doing it through wearing out the shoe leather and calling on people, and we have a wonderful treasury management person out there, who is a pretty good closer when you get her in front of our customers. So it's not any one thing, but I would say, it's just focus and we'd have to continue to do that because as my predecessor in this company often said, we're going to raise deposits because we'll always find ways to make loans and make good loans, but we have to fund them with core deposits, that's just as the core principle of our company.

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Brian Joseph Martin, Janney Montgomery Scott LLC, Research Division - Director of Banks and Thrifts [41]

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Right. Okay. That's helpful. And just maybe one similar to what was asked earlier, just on the -- maybe it's for Barry, just on the fee income side kind of now with the transaction closed and having a couple of periods of time. Could you kind of frame out the similar outlook on the fee income as you guys look on the back half of this year and then into next year with AT in there?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [42]

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Yes. I think what we're seeing -- what we initially were thinking Brian on the fee income was we're getting around $2.8 million to $3 million additional lift from the American Trust. What we saw in the second quarter, which was 2 months of American Trust operations, was about $1.8 million. And so just with that, that would equate to about $2.7 million per quarter. So pretty close to what we were anticipating. I think that's unlike the expense side, which is more difficult to assess at this juncture. That should be fairly consistent, I would think.

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Brian Joseph Martin, Janney Montgomery Scott LLC, Research Division - Director of Banks and Thrifts [43]

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Yes. Okay. And lastly for Charlie, just credit-wise, Charlie. You talked about the provisioning and the decline in this quarter kind of getting back to where you want on the legacy bank. Can you just talk about are you seeing anything in credit that's causing a concern? Or is the -- as you kind of look at the run rate on provisioning going forward, I guess, how do you see that unfolding in the next couple of quarters or 18 months? Whatever, however you want to frame it.

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [44]

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No. I think we have -- we still have a few more things to work through, but one of the things I'm encouraged by is that when we're discovering things or looking at things they are on smaller loans than we have -- than we've been looking at previously. So I think the outlook is reasonably good. There will be a few more things to work through, but I think, they are things we can manage and I think, Gary, you can add to that, if you like.

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Gary L. Sims, MidWestOne Financial Group, Inc. - Senior VP & Chief Credit Officer [45]

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Yes. I'd -- the only thing I'd add to the thought there is that over the course of the past few quarters, we've -- as a company, as a group and as a culture, we've gotten better at recognizing our challenged credits earlier. And then once they are recognized, creating more proactive work-out strategy. So I think that's what you're seeing in terms of directionally -- we are going in the right direction in terms of managing the credit quality of the portfolio.

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Operator [46]

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The next question comes from a follow-up from Nathan Race with Piper Jaffray.

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Nathan James Race, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [47]

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Just one on capital. I think you have alluded to the fact that maybe TCE came in a little higher than maybe what you guys are anticipating. So just curious how we should think about the buyback and keeping some excess capital kind of as dry powder for potential acquisition opportunities, and so forth?

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [48]

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Yes. It's a good question. I think the way we should look at that is that we've always said that our desired capital range on TCE has been 8% to 8.5%, and we're certainly happy to go below that from time to time. We anticipated going below that in this acquisition. It just didn't work out that way. In terms of buyback repurchase activity, we certainly are willing to undertake that when we think the stock is at an attractive level. And clearly, over the last 6-months, we think the stock has been at an attractive level and we've exercised that as we were able. Hope that answers your question?

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Nathan James Race, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [49]

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Yes. No. I appreciate that, that's helpful. And if I could just ask one more on the tax rate going forward. I assume with some additional ATB acquisition-related expense is likely in the 3Q number, how we should think about the tax rate in 3Q and 4Q as well?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [50]

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Yes, Nate, this is Barry. I'll take that one. I think we're probably a little bit higher than what we've all been in the past, probably in the 22% to 23% range would be what I would use, Nate.

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Nathan James Race, Piper Jaffray Companies, Research Division - VP & Senior Research Analyst [51]

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And does the tax rate drop off as those one-time expenses go away in 4Q?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [52]

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Well, we're also seeing the fact that taxes in income as a percentage of total revenue is dropping, so I do think that the rate is going to be probably a little bit higher get past the 22% range.

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Operator [53]

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The next question is a follow-up from Jeff Rulis from D.A. Davidson.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [54]

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Just a quick housekeeping item. The loan revenue is where you booked the mortgage banking, correct?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [55]

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Yes, that's correct, Jeff.

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Jeffrey Allen Rulis, D.A. Davidson & Co., Research Division - Senior VP & Senior Research Analyst [56]

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And then that is -- is that $648 million reported, was that a net number of the MSR hit, so?

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Barry S. Ray, MidWestOne Financial Group, Inc. - CFO, Principal Accounting Officer & Senior VP [57]

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Yes. The MSR write-down is embedded in the net mode revenue number, Jeff. Yes.

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Operator [58]

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This concludes our question-and-answer session. I would like to turn the conference back over to Charles Funk for any closing remarks.

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Charles N. Funk, MidWestOne Financial Group, Inc. - President, CEO & Director [59]

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Well, thanks to everyone, for being on the call today and for those of you who wish to follow up, please feel free to follow up with any of us who spoke on the call today, and we would wish you a good day, and a good weekend. Thank you, Alyssa.

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Operator [60]

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The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.