Columbia Banking System (NASDAQ:COLB) Q3 2020 Earnings Call

0:00 Ladies and gentlemen, thank you for standing by. Welcome to Columbia Banking System's third quarter 2020 earnings release conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session through both the telephone and web. Instructions will be given at that time. If you are on the telephone and should require assistance during the conference, please press star zero. As a reminder, this conference is being recorded. I would now like to turn the call over to your host, Clint Stein, President and Chief Executive Officer of Columbia Banking System. Thank you, Tamara. Welcome and good morning, everyone.

0:47 Thank you for joining us on today's call as we review our third quarter results, which we released before the market opened this morning. The earnings release and investor presentation are available at ColumbiaBanks.com. We saw momentum continue to rebuild in the third quarter as evidenced by the growth in deposits, core earnings, and our loan pipeline. From the onset of the pandemic, our bankers have remained externally focused with the mindset that the current environment could be with us well into 2021. The team continues to be creative, implementing new, real-time solutions for our clients and our employees, such as our highly successful Pass It On campaign, quickly standing up the PPP loan and forgiveness portals, or providing resources for parents who are juggling work and distance learning for their children.

1:42 Out-of-the-box thinking is valuable in a time like this, and our team's ingenuity is paying dividends. In the midst of it all, we opened our newest neighborhood hub in Boise expanding our commitment to southern Idaho. On the call with me today are Aaron Deer, our Chief Financial Officer, Chris Merrywell, our Chief Operating Officer, and Andy McDonald, our Chief Credit Officer. Following our prepared remarks, we will be happy to answer your questions. Let me remind you that we may make forward-looking statements during the call. For further information on forward-looking comments, please refer to either our earnings release, our website, or our SEC filings. At this point, I'd like to turn the call over to Aaron to review our financial performance.

2:31 Thank you, Clint. First quarter earnings of $44.7 million and EPS of 63 cents were an increase of $8.2 million and 11 cents respectively on a linked quarter basis. Quarterly pre-tax, pre-provision earnings of $62.1 million were down $16.2 million due to the non-recurring second quarter gain on sale of a portion of our Visa Class B restricted stock and subsequent write-up of the remaining shares that contributed $16.4 million to that quarter. Total deposits ended the quarter at $13.6 billion, up $469 million from June 30th. This supported a further reduction in FHLB borrowing and an increase in earning assets, which together drove net interest income up by $2.9 million when compared to the second quarter.

3:18 Access to liquidity from the deposit inflows was mostly invested in lower yielding mortgage-backed securities, which combined with lower loan yields and other factors resulted in a 17 basis point drop in the net interest margin to 347. Of note, PPP loans weighed on the margin by about nine basis points. Given the great environment and outlook, we anticipate great pressure to continue. Though we have taken measures to mitigate this pressure, including targeted adjustments to our deposit pricing, Purchases of agency securities with reduced repayment risk and adding floors to new loan production. Our industry-leading cost of deposits dropped by one basis point to six basis points. I will also note that just last week we terminated our $500 million notional value interest rate collar, effectively locking in the gain on that collar to benefit the margin through February 2024.

4:11 Total loans ended the quarter at $9.7 billion, down $82 million from June 30th. Loan production was light for a third quarter at $279 million. However, production volumes increased sequentially throughout the quarter. Excluding PPP, new loan production was brought on at an average tax-adjusted coupon rate of 3.86%, which compares to the overall portfolio of 4.14%. Non-interest income of $22.5 million was a decrease of $14.8 million. After factoring out the one-time gains of $16.4 million on the Visa Class B restricted stock and $875,000 from the disposal of loans in the second quarter, non-interest income was actually up $2.5 million or 13%.

4:59 Increased transaction volume from the relaxation of shelter-in-place orders drove card revenues and deposit service fees up by $755,000 and $566,000 respectively, and loan revenue increased by $1 million, mostly from new mortgage loans originated and sold. Non-interest expense was $85.1 million in the third quarter, which was an increase of $4.3 million on a linked quarter basis. Compensation and benefits expense increased by $9.1 million principally due to the deferral of loan origination costs related to the PPP loan program in the second quarter. This was offset by a $2 million reduction in the provision for unfunded loan commitment included in other non-interest expense. Much of the remaining $2.8 million non-interest expense variance was due to systems Legal and Professional, and other various costs incurred in the second quarter to set up the PPP program and respond to the pandemic.

5:56 Our non-interest expense ratio remained at 2.13% for the quarter, and our operating rate efficiency ratio increased about a point to 56%. We expect our quarterly non-interest expense run rate to remain in the mid-80s for the fourth quarter. Our effective tax rate for the quarter was 18.2%, and should remain in the 18 to 19% range for the full year. With that, I'll turn the call over to Chris. Thank you, Aaron, and good morning, everyone. Our production teams have been actively engaged across our footprint, securing new business and partnering with our clients to ensure they have what they need to run their businesses. In addition, our operations teams have been diligent and creative with finding solutions to support our relationship bankers and bring the organization to the client Thank you for joining us today.

7:13 The highlight of the quarter was continued strong deposit growth largely stemming from a combination of new client relationships, economic stimulus, and reduced spending by businesses and consumers. Coming off a record second quarter, deposits grew by another $469 million during the third quarter with growth evenly split between existing and new accounts. The deposit mix shifted from 59% business and 41% consumer as of June 30th to 62% business and 38% consumer at September 30th. The increase in business deposits is attributed to normal seasonality. On the consumer side, account balances were essentially flat as we saw an increase in debit card transactions as COVID restrictions were relaxed and consumers resumed more normal spending habits.

8:07 From a product perspective, deposits as of September 30th were 51% demand and other non-interest-bearing and 49% interest-bearing. Our bankers have been busy rebuilding the pipeline amidst the pandemic, and they generated new loan production, as mentioned, of $279 million during the quarter, which included $9 million of additional PPP loans brought on in early July. Most of the new production was in CNI and CRE, followed by 1-4 family, ag, and construction loans. Loans overall decreased by $83 million during the quarter to $9.7 billion. New originations were offset by net payments on existing loans of $84 million, payoffs of $66 million, and a reduction in line utilization of $33 million. The remaining decline was mostly due to loan prepayments.

9:05 Our line utilization rate declined from 47.5% at the end of the second quarter to 46.8, driven by declines in construction, followed by consumer, and CNI. PPP loans, gross of deferred fees, were $970 million a quarter-inch, representing 10% of total loans. But should decline from here, as we opened our forgiveness portal in mid-August, and began receiving forgiveness payments from the SBA in early October. Excluding the PPP loans, the quarter production mix was 45% fixed, 42% floating and 13% variable. The overall portfolio mix is now 10% PPP loans, 45% non-PPP fixed, 31% floating and 14% variable.

9:59 Residential mortgage activity accelerated in the third quarter, driving non-interest loan revenue higher by $1 million on a linked quarter basis. This has been a bright spot given the lower interest rate environment. As a reminder, Columbia Bank originates and generally sells its conventional production and portfolios to Jumbos. Deposit service charges and card revenues increased by a combined $1.3 million from a return to normalized transaction activity levels after the second quarter lull caused by state government mandated shelter-in-place orders. We are continually optimizing our delivery strategy and have been proactive in consolidating branches over the past several years, expanding each branch's service coverage area given local market conditions and projected growth.

10:52 In the past five years, we have consolidated 20 branches, representing approximately 12% of our network, with 13 of those in the past three years. As part of our ongoing branch rationalization process, we announced the consolidation of two branches in the fourth quarter. One in our coastal region consolidated this past weekend, and the other in our Puget Sound region will occur in the next two weeks. As Clint indicated, we also opened our newest neighborhood style branch in Boise at the end of September, which has been well received by the community. Now I will turn the call over to Andy to review our credit performance. Thanks, Chris. The provision under CECL of $7.4 million reflects the strong Q3 rebound negated by increased uncertainty going into 2021.

11:45 Consistent with my comments last quarter, the momentum and path of the recovery will continue to be threatened by the coronavirus pandemic. In general, our forecast anticipates a second contraction in 2021 attributed to uncertain consumer reactions to rising case counts within the United States as we head into winter. Certainly, the events that are currently unfolding in Europe Germany, France, Italy, and Spain, and what if any future government stimulus may look like will impact this. Therefore, our modeling continues to reflect a more protracted recovery with slower GDP growth and an unemployment rate that remains elevated in 2021. As a reminder, we use IHS market for our economic forecast.

12:42 Annualized Gross Domestic Product is anticipated to decline in the fourth quarter of 2020 by 6.3%, followed by a rebound in the fourth quarter of 2021 where GDP grows 4.6% as the economy begins to slowly exit the pandemic. While the unemployment rate has Retreated from its high in Q2, we anticipate ending 2021 at close to 11% due to the lasting effects of the coronavirus. We also added an overlay in this quarter for what we consider high-risk commercial real estate, basically hospitality, office, and retail, and downstream potential impacts of permanent job losses at a significant Northwest employer.

13:35 These amounted to a combined $5 million in additional reserves for the quarter. We ended the quarter with a provision relative to period-end loans of 1.62%. Adjusting for the PPP loans, the allowance for period-end loans increases to 1.8. NPAs for the quarter were relatively unchanged at 29 basis points. However, I feel adjusting for PPP loans Loans provides a more consistent comparison as we move forward into 2021. With this adjustment, MPAs do increase, but only by two basis points. So again, relatively unchanged. I would like to remind folks MPAs are still comprised of credits whose issues predate the pandemic.

14:26 Past due loans for the quarter were 15 basis points compared to 21 basis points last quarter. Net charge-off annualized were eight basis points for the quarter versus 16 last quarter. And our impaired capital ratio rose modestly from 23.5% to 25.3%. So, as alluded to earlier, your standard credit metrics for the quarter were relatively stable. On the risk rating front, loans rated watch or below was unchanged at just around $1,085,000,000. We saw watch loans increase $7 million, going from $386 million to $393 million. Special mention loans declined $32 million to $355 million.

15:16 And substandard loans saw an increase of $23 million and are now around $336 million in total. These changes increased our watch and below risk ratings from 11% to 11.1% of total loans. Again, very stable metrics. Okay, let's move on to deferrals. At the beginning of the quarter, we had close to 1.6 billion in active loan referrals. At the close of the quarter, we had 114 million in active deferrals. Most of the deferrals today are in the hospitality portfolio, which accounts for 62 million of the active deferrals. Approximately two-thirds of this amount represents loans in their second deferral period.

16:05 As mentioned before, this is consistent with our strategy relative to this sector and does not cause us to be any more concerned than we were when we entered the first deferral with these borrowers. At the end of the quarter, the portfolios we had identified as being some of the first to be impacted by the pandemic which includes our hotel, retail, restaurants, aviation, and dental and healthcare portfolios amounted to a little over 2.4 billion or roughly 25% of our loan portfolios. If we exclude the dental and healthcare portfolios, which we are feeling much better about these days, it falls to about 1.3 billion or 13% of our loan portfolio.

16:54 The largest portfolio we identified again was our dental portfolios. As previously discussed, we believe the impact on this portfolio is and was truly transitory. Today, these practices are generating revenue at around 82% to 85% of pre-pandemic levels. At this level of revenue generation, most of these practices are operating above break-evens. This is further evidenced by deferrals in this portfolio declining from 78.6% of the portfolio to less than 1% of the total portfolio during the quarter. Again, the combination of deferrals and PPP loans are allowing these practices to move forward with little impact on the bank's balance sheet.

17:44 Similar to last quarter, 95% of the portfolio is rated pass. 4% watch, and the remaining 1% is evenly split between special mention and substandard. The next largest segment we identified as having a higher risk relative to the economic disruption caused by COVID-19 is our retail portfolio. We have approximately $568 million in retail-related exposure, which is essentially unchanged from the prior quarter. It's split between commercial real estate and commercial business loans and represents about 5.8% of the total loan portfolio. The largest part of our retail exposure is comprised of commercial real estate loans, which account for approximately $441 million of the total.

18:37 It is evenly split between Washington and Oregon and, as you would expect, centered within the Portland and Seattle MSAs. The average loan size is $427,000. To give you an idea of the types of retail properties we finance, the most common are small four- to five-day strip centers located in suburban communities. We also do a fair amount of standalone single-tenant properties which would be characterized as auto park companies, home and garden slash building retailers, as well as food and beverage stores, also called convenience stores, along with gas stations, sporting goods, and furniture stores. In addition, the portfolio contains grocery anchored centers and mixed-use properties.

19:28 We are not in large downtown core metropolitan areas, nor do we finance regional malls. Using at origination values, the average loan-to-value for the portfolio is 52%, with 97% of the portfolio having a loan-to-value less than 75%. We have stress tested this portfolio for an equivalent decline in value as seen during the Great Recession. The average loan-to-value rises to 64%, with about 72% of the properties having a loan to value less than 75%. For the entire retail portfolio, 89.7% is pass rated, which is a slight improvement over last quarter when 86% was pass rated.

20:21 For the balance of the portfolio at quarter end, 5% is watch, 4% is special mention, and 2% is substandard. This breakdown is essentially unchanged from the first quarter. Deferrals in this portfolio declined from 16.4% of the entire portfolio to less than 1% of the portfolio. Obviously we are pleased with how this portfolio is performing, but we remain cautious and our expectation is that we would see weakening in this portfolio as PPP funds become exhausted and deferral benefits subside.

21:06 This segment would greatly benefit by another round of stimulus, in my opinion. Okay, let's discuss hotels. We have 335 million in hotel loans, representing about 3.4% of our loan portfolio. About 38% is in major markets, which would include the Portland and Seattle MSAs, However, we also have about 16% of the hotel portfolio or 55 million of exposure out on the Oregon coast. To give you an idea of the type of hotels we finance, most have one of the following flags. Holiday Inn, Best Western, Choice, Marriott, and Wyndham. In total, flag properties comprise 84% of the portfolio.

21:56 The average loan size is $1.5 million. Today we have about $62 million on deferral, which is down from last quarter when approximately $179 million was on deferral. Many of the loans on deferral today are on their second deferral, which is consistent, as I mentioned before, with our strategy for this portfolio. We anticipate the recovery in the hotel sector to be prolonged. With this in mind, we are working on a number of options for our clients, which include USDA programs, the Main Street Lending Program, along with more conventional solutions as well. Many of these plans were crafted in concert with our borrowers during the first deferral period. We are now using the second deferral period to effectuate upon these strategies.

22:49 Similar to the retail commercial real estate loans, we continue to do stress testing on this portfolio as well. The average loan-to-value for the portfolio based on originated appraised value is 52%, with 95% of the portfolio having a loan-to-value less than 75%. On a stress basis, about 69% of the portfolio has a loan-to-value less than 75%. Non-dental healthcare is about $299 million in total. Similar to the dental portfolio, we saw the impacts of the pandemic here to be transitory as well, as individuals are once again able to see their orthopedists, dermatologists, optometrists, and so on. In addition, elective surgeries such as hip replacements, knee replacements, cataracts are again being performed, along with blood tests, MRIs, sonograms, and EKGs.

23:50 The breakout of the portfolio is as follows. Approximately 95 million is veterinary. Another 152 million are physician practices of varying kinds. And 53 million is other types of healthcare providers such as chiropractors, physical therapists, and counseling services. The average loan size is 317,000. As of June 30th, 98% of the portfolio is pass-rated, with 1% on watch and 1% rated substandard. We had deferral requests for about $107 million in total in this segment, or roughly 36% of the portfolio as of June 30th.

24:36 Today, we have $381,000 on deferral, or less than 1% of the portfolio. As I mentioned earlier, we are feeling good about this portfolio. Okay, restaurants and food services. We have approximately $211 million in this portfolio with two-thirds comprising commercial real estate loans. The average loan size is $269,000. Today, 86% is pass rated, 5% watch, 3% special mention, and the balance is substandard. We granted 157 deferrals for about 66 million in this portfolio. But today we have 16 on deferral or roughly 16 million.

25:24 Similar to the hotel and retail segments, we see this area taking some time to heal. And while we are pleased with the performance of the portfolio, we remain cautious here as well. Outside dining, and such had a significant impact for many of these businesses, but the colder months ahead will make it difficult for these revenue-generating options to remain viable. As such, we anticipate additional stress in this segment in the months to come. We do stress testing on the CRE portion of this portfolio, and on a pre-pandemic basis, the average loan-to-value was 58%, with 93% having a loan-to-value less than 75%. again on a pre-pandemic basis.

26:11 Under our stress test scenario, average loan-to-value rises to 72% with only 54% having a loan-to-value less than 75%. Again, the last portfolio I'm going to discuss is our aviation portfolio. It is comprised of both direct exposure to domestic airline carriers as well as entities that lease airplanes and engines to airline carriers. In total, the portfolio is about 142 million, with 98 million being direct exposure to U.S. domestic airlines, and the remaining 44 million in exposure to lessors. Today, most of the portfolio is rated watch, which is an improvement over last quarter. Most of the upgrades have been centered in the domestic airline segment, thanks to the significant amount of capital our borrowers have raised year to date.

27:04 Of the domestic airlines we have exposure to, they have raised over $43 billion in additional capital to assist them through this pandemic. Just this past quarter, they raised an additional $10 billion and have secured agreements with the U.S. Treasury for additional funding if needed. As such, this additional capital combined with expense reduction efforts results in all of our borrowers having over 24 months of burn rate now. This increase in burn rate was the primary driver for the upgrade from special mention to watch, as it gives the airlines two years to adjust their business models relative to the impacts the pandemic has placed on them.

27:50 Most of our domestic airline exposure is secured by aircraft, with a pre-stressed loan-to-value of 70%, and a current loan-to-value we believe closer to 74%. on a stress test basis, the loan-to-value rises to 89%. As for the leasing portfolio, 49% of the exposure is in Asia, 23% Europe, and 9% North America. The majority of the portfolio consists of narrow-body aircraft with an average age of 6.8 years. We view the younger, more fuel-efficient aircraft as being the most in demand post-pandemic. Based on origination values, our average loan-to-value for the portfolio is 77%.

28:38 However, based on what we believe is today's value, the loan-to-value is closer to 83%, and on a stress test basis, the loan-to-value rises to 97%. Okay. With that, back to Clint. Thanks, Andy. Given our strong earnings stream and total capital of 14.2%, Yesterday, our Board of Directors approved a new share repurchase program for up to 3.5 million shares. In addition to share repurchases, we have a full menu of options for deploying excess capital, including further investment in your business, special dividends, and, should the right opportunity arise, strategic M&A. We announced our regular quarterly dividend of 28 cents this morning.

29:24 This quarter's dividend will be paid on November 25th to shareholders of record as of the close of business on November 11th. This concludes our prepared comments. As a reminder, Andy, Chris, and Erin are with me to answer your questions. And now, eTamara, we will open the call for questions. At this time... To ask a question via the web, click the Q&A button on the lower left-hand corner of your screen. Type your question in the open area and click Submit. To ask a question via the phone line, please press star 1 on your telephone keypad. To withdraw your question, press the pound key. Okay, via the phone line, you have a response in the line of David Fester.

30:14 Please go ahead. Hey, good morning everybody. David. I just wanted to get a sense of the competitive dynamics and thoughts on loan growth. Originations are down a bit. Just curious your appetite for new loans, the competitive landscape, the pulse of your clients, and maybe just how your pipeline is trending and just any thoughts you might have going forward. I'll start and then I'll Turn it over to Chris to fill in some gaps. Chris and I have traveled extensively throughout our footprint, met with bankers and our clients, and Andy has as well. And every time we come back, much more optimistic.

31:05 We see the things that are going on, the opportunities that our bankers are getting a look at, There is some disruption that's occurring within our market with some of the things that some of the large national banks are doing, and that's creating opportunities for us as well. I think from a production standpoint, we saw, in terms of what it was down, it was on a percentage basis, pretty similar to what we experienced in the second quarter. But what we've seen with the pipelines is consistent in terms of the rebuilding there with the things that I just mentioned that our bankers are getting a look at.

31:53 And so it gives us a lot of optimism. It's still a tough and very competitive environment. The yield curve is definitely unfavorable and things of that nature. But the team of Chris, Aaron, and Andy are working very hard with all of their folks on making sure that we're capturing new business, that we're deepening the relationships that we have, and that, more importantly, that we're finding a home for all of that liquidity that is found its way to our balance sheet in the last six months. And with that, I'll step back and let Chris provide his perspective.

32:41 Thanks, Clint. Good morning, David. Yeah, I would say that to echo Clint's comments that the pipeline is moving in the right direction. We're, I would say, cautiously optimistic with everything that Andy talked about and what potential is down the road. We have to be very cautious. Looking at credits and what we're comfortable bringing on. But the good news is with all of that considered and the extra time that it takes to add a COVID overlay, I'd say we're cautiously optimistic and it is moving in the right direction. The environment in and of itself, you can see the new loan yields and what they come on at. I expect that to probably continue with The yield curve where it's at and just the environment in general with excess liquidity.

33:37 New loan volume is paramount for everybody. I think we're winning our fair share and, again, cautiously optimistic as we move forward. That's helpful. And then I know you've only got two out there, and one was just implemented. But how do you think about the performance of these neighbor hubs? And what's your plans for growth of this concept going forward? I mean, is this a good way for organic market expansion and kind of beta test the market, potentially backfill with lift outs or M&A and just capitalize on some of this disruption that you're talking about? Or just how do you plan to use this concept going forward? Yeah, thanks for the question. The concept in and of itself, you know, we're talking about branches that are less than typically 1,800 square feet, different concepts within it. It's not built around transactions first.

34:34 It's built more around solutions and consultation and sharing, you know, some of the digital options that are out there and available. The two have been well received in the areas that they are It certainly is a lot easier to go into a new market at 1,800 square feet than what you would have seen in a traditional manner years ago. And we'll continue to look at that for where the concept fits. With the community rooms and things of that nature to draw people into that space, you do need some population centers and all of that. But I think the best thing about them is we're using the concept to then How do we use that to fit into our traditional branch network where maybe we have a 3,000, 4,000 square foot branch and how can we downsize it?

35:24 How can we do other things using the same model? We have a few of those out there that are being piloted right now and we're pleased with the results. I wouldn't say that we're We're rushing out to put a bunch of brand new branches into areas, but we're certainly looking at it as part of the strategy where we can support our commercial teams and our other relationship bankers where they're having great success driving loan volume and what will really take them to the next level is the full commitment of a retail branch. And I'll just add on to that that With the first Neighbor Hub that we opened a little over two years ago and then with the one in Boise, they're learning labs.

36:11 And that's really what Chris was getting at is how can we take some of the technology, the staffing model is different, and how can we learn from that and apply that to our existing network. And so even though the physical facility may not change, We can drive some efficiencies through learnings from these neighborhoods. And I think that that's probably our greatest opportunity over the next two to four years with our retail banking group is applying that across the entire network. The actual changing of the physical footprint of the branch is much more complex, especially if it's leased.

37:02 So there's a lot of different, I guess, dynamics at play here, but I think it's much more than just having a concept that's in certain markets. I think the bigger potential is what we do with the learnings from that. Okay. That's helpful. And just kind of following up on that, I mean, you know, we've talked in the past. Cost savings is really just a part of your DNA. It sounds like this might play into that. Just wanted to get your thoughts on expenses and how this concept, you know, Other various initiatives that you might have to kind of combat the revenue headwinds and inflationary pressures and how you think about expenses going forward.

38:00 We're all looking at each other because that question was a pretty dynamic one and it touches many different aspects in terms of We'll let Aaron here in a minute talk about what he's thinking for the run rate, but I think that kind of building on our response to the last question, really, you know, people and occupancy are our two largest line items, and when we think about the Neighbor Hub and how it's staffed versus a traditional retail branch model where a lot of the activities there are paying and receiving. The neighborhood staffing concept is really geared towards sales and consulting. And we think that with the digital tools that we have available today and the things that we've invested in and the things that will come down through our pipeline in the next Six to 18 months.

39:10 As well as the acceleration that's occurred as a result of COVID and stay-in-place orders, we think that will help accelerate that transition from that paying and receiving function to the sales and consulting function. So you have fewer people that are better able to, I guess, do a wider variety of things, and that equals less downtime, if that makes sense. and that's where I think that the real opportunity lies in terms of just from the staffing standpoint. The technology piece, and this is what Chris alluded to earlier, we're piloting in some of our higher volume branch and other locations is it works great in a de novo branch that's building its customer base if we add thousands and thousands of transactions, daily transactions onto that process to break. And that's what we're testing now and challenging our folks to do and how do we take that technology and simple things like that.

40:25 dual custody, and there's some things we've done with the Neighborhub that have given us some efficiencies there. Actually, given social distancing requirements in our branches, it's been great to know that we have a different process where you don't have to have two people counting money two feet apart from one another. Chris, I'm sure I've missed a lot in that response. I think you captured it pretty well. and Dale, I think you captured it pretty well in the beginning when you said it's part of our DNA and it's consistently something that we're looking at and evaluating all the time and that's why we've seen the progress over the years and it is consistent as we evaluate. It's not a big rash decision or anything like that.

41:17 It's part of our ongoing strategy around our values and what we bring to the table for our clientele by being there for them and the neighbor hub and the concept within it is equipping our bankers to be more outbound and turning that from, because those are de novos, there obviously is not as many transactions that are walking in the door. So how are they turning that and being more outbound into reaching out to clients, sharing with them all the things we do, you know, you've seen the results in the mortgage group right now because of and many others. We're much more proactive in that aspect and I think that's where you look down the road to what can we accomplish in those areas to help offset some of the stuff that we've already done but also that we will continue to do and I'll let Aaron add anything else on run rate and such.

42:22 You know, hopefully we continue to see the provision for unfunded commitments, you know, drift down in the right direction. You know, heading into the fourth quarter, you know, I could see some project costs that might tick up a little bit. And, you know, there's always kind of some year-end true-ups and things. We're still feeling pretty good about that mid-80s run rate, even if it might tick up the path from where we were this quarter. And then heading into next year, we'll probably look to give some guidance on that next quarter. But I think what you're going to continue to see is just as we continue to find ways to streamline certain areas, we'll look to redirect those resources into more revenue-generating areas. and try to increase our overall productivity over time.

43:10 Okay. That's helpful. Great caller and great quarter. Thanks, everybody. Thanks, David. Thank you. Your next response is the line of John Offstrom. Please go ahead. Hey, thanks. Good morning, everyone. Hi, John. Great. You talk a little bit about the approach on reserves. It seems like you've built in quite a bit of conservatism in with a worsening 2021 and some of the overlays that you've put in. Maybe, Andy, for you, what would need to happen to drive the need for more reserves? It feels like you're adequately reserved at this point, but what would need to materially change for the reserve levels to have to go up again? Well, I think that the biggest wild card is the pandemic still.

44:00 And if our footprint goes back into A situation where businesses get shut down. I think there are places across the country like El Paso, for example, and then you look at what's occurring in Europe. There are chunks in the portfolio that I alluded to that seem to have weathered the first storm. to weather another storm back-to-back would be very difficult. That's probably the biggest wild card is how the pandemic continues to evolve.

44:47 Okay. But it seems like you've built in some of that thinking into the overlay that you put in place. Is that fair? Yeah, we believe that The model itself still relies to a certain degree on historic numbers. You got to go a long way back where we had losses. And so your loss given default, we had some concerns there for some particular segments that I outlined. And then, of course, the announcement of the 787 Dreamliner leaving the Pacific Northwest and going to South Carolina. You know, while we don't have necessarily a lot of direct exposure to Boeing, it will have a community ripple.

45:36 And we believe it's prudent for us to acknowledge that and somehow add that into our reserve. And that is so unique and specific to a particular part of our footprint, it's not going to be captured in sort of national GDP and unemployment numbers. Okay, fair enough. And then I want to touch on the margin and some of your expectations because you clearly called it out in the release again, Aaron, but you talk a little bit about the decision to terminate the collar, some of the steps you can take to offset some of the pressure, and I guess the bigger picture is do you feel like the way you're set up now that you can continue to grow net interest income from here?

46:23 Thanks. Hey John, it's Aaron. With respect to the caller, I think that just reflects our expectation that the benefit that could be had there in terms of down rate risk is kind of washed out. We'd really have to see rates go negative to yield any additional benefit there. Whereas if we do see rates move higher, the gain in that would have diminished. So it just felt like the right time to lock that in. And I would note just to be clear that that is a, the benefit of that has been in the run rate and will then remain in the run rate as a result of having locked that in. So you're not gonna see an additional benefit from that. It is in the existing run rate.

47:23 In terms of the you know, the margin expectations in general. I would obviously like to have a more optimistic view, but it's, you know, given where the, where rates are and the shape of the yields curve right now, I think we're likely to continue to see some pressure there at least on a core basis. Now, the, you know, if you look back over the past A couple of quarters. We are effectively down, and I'm just going to kind of use round numbers, but down, say, 55 basis points. Twenty of that is excess liquidity.

48:08 We've got 15 from the securities portfolio, another 15 on lower loan yields, PPPs, 10 basis points, and we've got some offsetting benefit on the funding side that's probably five basis points. The liquidity in the PPP should go away over time, right? But as you're getting those funds redeployed into higher yielding assets, we're pulling it out of Fed funds, we're turning in and getting that into securities and loans. At this point, most of it is going into the securities portfolio.

48:55 You're still looking at sub 1%. And so it's, you know, you're picking something up there, but it's not as though you're going to be getting it back to, you know, the kind of yield that you'd be getting if we were driving that into loans or if we were in a better rate environment. There's going to be some volatility in it as the PPP stuff pays down, both from having the lower yielding aspect of that go away, but also realizing the fees on that. And just to give you a sense of where we are there, we've got about $17 million of unearned income on those PPP loans that will be either amortizing in or being recognized as the loans are forgiven.

49:43 and so that's all going to add some volatility, especially over the next, you know, probably two, three quarters as those forgiveness, you know, the bulk of that gets forgiven, presumably. So there's a lot of noise, but I think underlying it all is going to be, you know, some continued pressure on the core margin. And the dollar, I guess the dollar amount net existing income, you know, feels like you've got some liquidity to deploy as well. But do you feel you can defend the NII level? That is our objective. And I think that given the confidence that I think you heard Chris talking about in terms of some building pipelines and what's happening on that front, that we should be able to see better loan growth. and that should be able to help us hit that target.

50:47 I'll just add, as Aaron went through the items that impact the margin and all the variables that are included in that, it makes it A challenge to zero in on and tell you that we expect three basis points of expansion or contraction or anything of that nature. As we have conversations internally at our ALCO and with our key line of business leaders, our conversations are really centered around net interest income. and what those targets look like and what the opportunities for expanding net interest income are.

51:37 And I think that's the bright spot. As Aaron mentioned, you know, we're getting ten basis points on overnight funds. As we move those into even if it is the securities book, there's a pickup in and I.I. So that's very much our focus given the current rate environment and the current amount of liquidity that we have. Yep, I agree. I agree. That's the more important number. So thanks for the help, everyone. I appreciate it. Thanks, Sean. Thank you. Your next response is from the line of Jeff Rulis. Please go ahead. Thanks. Good morning. Just to follow on, perhaps, I mean, it strikes me as a bigger question maybe for the industry, too, is just the liquidity in the system.

52:25 And in your discussions, Clint, you kind of touched on it a bit. You know, I may be interested in the outlook of the outflow of liquidity and timing in 21. Are we going to be stuck with this for a while or kind of – The pace of that liquidity surplus, any thoughts that you guys have shared internally about how that plays out in 21? That's the $2.6 billion question for us. It's a great question. We've spent a lot of time over the last couple of quarters thinking about and the stickiness of it. And then for us it's compounded because we typically have seasonal inflow of deposit growth that occurs in the back half of any given year.

53:29 And so really trying to bifurcate between what are surge deposits and what are normal growth and I mentioned some of the activities of our bankers and they're out winning new business and some of that business are very, very significant deposit relationships and so we have that noise that gets added in and of course we have all the details but you can't get there from just seeing a growth number year-to-date or quarter-over-quarter But that stickiness is something that we've challenged ourselves to think about and walk through.

54:20 We talked about PPP forgiveness. Well, in order to get forgiveness, they had to spend the money. And so when we think about almost a billion dollars of of those deposits that could be related to PPP and it's actually a few hundred million more than that because we have depositors that obtain PPP elsewhere and put the money with us. And so then it's trying to peel back the layers of the onion and figure out how much of that is just customers Greening up how much of it is that they're having great years. Some of them are doing very, very well, and they're just sitting on the cash because either for their own investment purposes or reinvestment in their business, they want more certainty.

55:14 So it's a very complex issue, and that's been part of the struggle that Aaron and the team have had in terms of how much to put back into the bond market. and I'll let Aaron and Chris jump in and add their perspective because I know that this is a, not quite daily, but almost daily conversation between the two of us. Yeah, this is Chris and it is almost a. I think there's a couple of things that I would add to that that remain to be seen and some of it is their Is there another round of stimulus? Deposits have accumulated through basically lower spending, but as Clint mentioned, some of the businesses are what I would describe as thriving.

56:06 Do they choose to make an investment at some time? Do they pull those funds out and put them somewhere else in an investment aspect? We're always trying to encourage that with us. There's a track record for that, but we'll see how that part of it plays out. And then on the other side of that, of people who have Maybe hunkered down a little bit more and are being very conservative because they're not sure what the winner holds for them or what is the crystal ball saying. They may start to spend some of that money just to stay in business and things of that nature. So I think another round of stimulus would tell us a lot about what's going to happen there and I'd be more comfortable if I knew what was coming and what had been announced. and I could probably say it's a little stickier, but I think you're in between those two things.

56:58 And as of today and in our continued conversations, we continue to see it remains to be sticky. And you see the results from the second quarter and grew outside of our normal seasonal activities. And with that, I'll let Erin add anything. No, I would just say that we continue to do a lot of analysis and try to understand the deposit of behavior. But I think Clint and Chris did a good job kind of summing it up. I appreciate the thoughts there. And my other question, kind of in the who knows variety again, but Andy, you touched on kind of the winter months and giving your Northwest exposure, kind of on the hospitality side, the restaurants, maybe hotels. as you talk to borrowers and they prepare for maybe colder months, I guess is that you get the sense that that's indeed a tougher environment versus a group that's maybe a little more adept at managing a new normal or as they've changed their business practices, trying to get a sense for, you know, at some point it's a black or white being outside or indoors, but can they weather that change into the winner and what are borrowers saying to that?

58:23 Yeah, I think that the easiest example to kind of talk about is the portfolio of hotels out on the Oregon coast with people not able to travel to places overseas, or not comfortable getting on an airplane or yeah I can go to Hawaii but my two week vacation is stuck in quarantine. A lot of those folks had what turned out to be record summers. Certainly back in spring it looked a lot worse when everybody was canceling. But in the end people flocked to the Oregon coast and we saw that same consistent behavior with where we have hospitality properties for example in Bend, Coeur d'Alene and some of the more vacation type places.

59:17 Well now the key is did they generate enough liquidity to get to the next summer season? Because one of the things that will be different this winter is that out on the Oregon coast they would still have Business meetings, they would have different organizations that would get together, people who collect Barbie dolls or collect coins or have an interest in something, right? They get together and have a convention. Well those meetings aren't going to occur this winter and so that incremental cash flow won't be there. So the amount of liquidity that they accumulated coming out of what was a very successful summer season.

1:00:03 We now have to project out if that's going to be sufficient to get them to the next summer season. And that's exactly what we're working with our borrowers on. And business owners are generally optimistic people. So they're feeling pretty good, especially where they're coming out of. and again as Clint mentioned a lot of us have traveled around the footprint and it has been very encouraging to see how businesses have already adapted to a lot of these challenges. So I always come back feeling a lot better but nevertheless right now the story is still how much liquidity you have and if you generated that liquidity because you had record attendance at your hotel occupancy during the summer or if you were able to boost your revenues with outside dining.

1:01:01 Did you do it enough to get you through those cold winter months? And that's the conversations that we're having and of course those conversations are ongoing and we'll know more as we get to the end of the fourth quarter because we'll be able to assess that. And that's why I remain cautious in those segments. Yep, that helps. That's it for me. Thanks, guys. Thanks, Jeff. Thank you. Your next response is from Jackie Bolin. Please go ahead. Hi. Good morning, everyone. Hi, Jackie. You've had really good trends so far in what you've been submitting for forgiveness. It appears to be a little bit higher than some of the other conversations I've been having.

1:01:46 Just curious as to what you – and I know this There's a lot of interpretation, but just curious as to what you think the timing might be for getting forgiveness for some of the portfolio this quarter versus 2021. Yeah, Jackie, this is Chris. We've had good response to, you know, we opened up our portal back in August, and we've actually had about a third as far as numbers go that have applied to forgiveness. So we've had a little over 1,400 that have applied. It's a couple hundred million dollars. We don't expect to probably get that level back this year. So some of it most likely in there, and you alluded to it earlier, probably looking into the first, second quarter next year, and maybe some of the trails even into the third quarter. But they're starting to trickle in.

1:02:43 I wouldn't say that it's fast by any means. And again, we're seeing that about a third of the borrowers, if you will, have applied for forgiveness already. Okay. Okay, thank you. That's helpful. And then it was a very interesting comment that you had in both the press release and I think it was part of the prepared remarks as well in terms of just working to retain talent during a challenging environment given what people have going on in their personal life. How has retention been now versus how it was, say, a year ago? Retention, I'd say, has actually been pretty good. We're finding creative ways to work around issues, distance learning, things of that nature, so we can be a little bit flexible.

1:03:34 Other team members are stepping into health, and so we've been able to minimize a little bit of that turnover. I think I'm probably more optimistic of the talent that we're starting to see that is wanting to come to work with us. From all the disruption that is going on and the things that you've seen out there, there are very high quality bankers that are calling us and reengaging in conversations and that's always a positive. I'll just add a couple of points. Early on in the pandemic, the first few months, we saw a small uptick in folks that were at or beyond what you would consider a normal retirement age that elected to retire.

1:04:24 I think the uncertainty and strain of coming to work in a pandemic environment was was more than they wanted to deal with. So we did see a little bit of that and it was understandable. I think as Chris mentioned, some of the things that we're seeing in terms of outreach from other bankers across our footprint, one of the biggest challenges that as a management team that we've been very focused on is maintaining our culture. That's challenging when you're in a remote work environment.

1:05:10 I think that we've done a really good job as a team of maintaining that culture and keeping folks connected to our organization. I think that's what we're seeing with other organizations that maybe have struggled in that regard. and we're starting to get that outreach from some of their employees. And so that's an encouraging sign from our perspective in terms of what we think we'll be able to do from an organic standpoint as we move forward. Okay. No, that's great. And you actually answered the second part of my question. That was a follow-up to it. and then I guess just lastly, the two branches that you're closing in the fourth quarter, is that included in the count of 20 or does that bump it up to 22?

1:05:59 It would bump it up to 21. Twenty-one? Okay. Great. Thank you. Thanks, Jackie. Thank you. Your next response is from Matthew Clark. Please go ahead. Hey. Good morning, guys. On maybe just on the deposit growth, it's been fairly robust here still, and I just want to get a sense for where it's coming from, how much of it's kind of existing customers versus new, and whether or not there's anything unusual this quarter. I can't tell you unusual for the fourth quarter but for the third quarter it was pretty much a mix between new business as Clint had mentioned some of our bankers have brought in some pretty significant new accounts and just existing clients increase some of that is the seasonal and some of it's just the reduced spending habits. On the consumer side as I mentioned we saw more of a return to the Normal, or Approaching Back to Normal with Card Stand and things of that nature.

1:07:18 Most of it's been commercial. It's a mix in that. Again, we watch it daily and we talk about it frequently during the week. There hasn't been anything yet that's come out where I see a big runoff or something of that nature. I don't know if anybody wants to add anything to that. I would certainly characterize a lot of what's happening on the composite front as unusual. There was nothing that was out of character. We didn't add any brokerage or something like that that bumped that number up.

1:08:06 Just on the pipeline, Not sure if you quantified that during your prepared comments, but any color on the size of the pipeline, either link quarter or year-over-year, and whether or not the expectation is you might be able to show net loan growth ex-ag? We don't typically share the amount of the pipeline. I can tell you that, yes, it's rebuilding in a year-over-year comparison. We're not where we were in previous years, but that's understandable based on the environment. The positive is it's rebuilding. We're cautiously optimistic into the fourth quarter of what that looks like. Some timing may come into play of end-of-year closures and things of that nature.

1:09:00 Okay. And then just on capital management, wanted to touch on the buyback and M&A conversations. I guess, you know, how aggressive might you get with the buyback? And if you could also, you know, give us an update on any commentary around M&A in terms of active conversations, whether or not they picked up. Yeah, well, you know, the buyback has been a – One of the tools that we've used for capital management for a long period of time and we had the plan that expired in May and we wanted to just let some time pass and see how things played out with the pandemic and before we decided on what a new plan might look like. You know, we're looking at our current capital levels, and we're very comfortable with those. We're very comfortable with all the various scenarios we've done from a capital stress test point of view.

1:10:14 You know, our expectation around the performance of the loan portfolio going forward, our current ACL level, And then when we look at the market volatility that's there, we just wanted the flexibility and felt like it was the appropriate time to bring that tool back into the mix. And so I can't... Give you any specifics around levels or frequency or anything like that with it, but I think you've followed us for a very long period of time and you know that we've been good stewards of capital and that we've used the combination of our regular dividend and M&A and special dividend and share repurchases to manage those capital levels.

1:11:16 and we're still significantly higher than the 12% long-term goal that we have for total capital or 8% TCE. So we'll be strategic with it and when it is appropriate, we'll use that tool. With respect to M&A, I think everybody is starting to kind of They were hunkered down for much of the second quarter and I think as the third quarter went on and their own businesses started to stabilize and we started to get clarity on the outlook for the great environment and the difficult operating environment that the industry is going to be faced with for the next two to four years.

1:12:10 I think that folks started Reconnecting, if you will, so not necessarily what I'd call robust M&A conversations, but definitely staying in touch with one another and just seeing if, as we progress through the tail end of the pandemic and the credit ripple that comes from that, and all the challenges. There's a lot of banks that I think don't have the scale that they need to drive the value for their shareholders that will be expected. And so I think there will be opportunities for M&A.

1:12:55 I think just from an industry perspective, I really think there's going to be some pent-up demand and I think we'll start to see that play out in the coming year. Okay, thanks for the call. You bet. There are no further questions in the queue at this time. Do you have any closing remarks? Well, thank you, everyone, and we look forward to speaking with you again after the fourth quarter. Thank you again for joining us today. We hope you found this webcast presentation informative. This concludes our webcast. You may now disconnect and have a good day.