FNB Corp
NYSE:FNB
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FNB Corp
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Good morning, and welcome to the F.N.B. Corporation's Second Quarter 2021 Earnings Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, today's event is being recorded.
I would now like to turn the conference over to Lisa Constantine, Investor Relations. Ms. Constantine, please go ahead.
Thank you. Good morning, everyone, and welcome to our earnings call. This conference call of F.N.B. Corporation and the reports it files with the Securities and Exchange Commission often contain forward-looking statements and non-GAAP financial measures. Non-GAAP financial measures should be viewed in addition to, and not as an alternative for, our reported results prepared in accordance with GAAP. Reconciliations of GAAP to non-GAAP operating measures to the most directly comparable GAAP financial measures are included in our presentation materials and in our earnings release. Please refer to these non-GAAP and forward-looking statement disclosures contained in our related materials, reports and registration statements filed with the Securities and Exchange Commission and available on our corporate website. A replay of this call will be available until July 27, and the webcast link will be posted to the About Us, Investor Relations and Shareholder Services section of our corporate website.
I will now turn the call over to Vince Delie, Chairman, President and CEO.
Thank you, and welcome to our earnings call. Joining me today are Vince Calabrese, our Chief Financial Officer; and Gary Guerrieri, our Chief Credit Officer. First, I will provide a short review of the second quarter financial results. Then I'll cover recent performance trends of our key business lines before turning the call over to Gary and Vince for their remarks. Lastly, I'll wrap up the call by discussing the key consideration of last week's merger announcement with Howard Bancorp Inc.
FNB second quarter earnings per share totaled $0.31, representing an 11% increase on a linked-quarter basis. Operating net income reached a record $101 million and total revenue increased to $308 million. Our performance resulted in a return on tangible common equity of 16% and growth in tangible book value per share to $8.20, an increase of $0.19 or 2%. The quarter's efficiency ratio of 56.8% improved due to the benefit of increased revenue and continued expense discipline as we achieved the 2021 operating cost savings goal of $20 million.
Our company remains well capitalized with an estimated CET1 ratio of 10.02% for the second quarter. Second quarter revenue was supported by record wealth management revenues and strong contributions across a number of segments, including insurance, mortgage banking, capital markets and SBA lending. Many of these areas have continued to benefit from our expansion into higher growth markets. On a year-to-date basis, wealth management revenues increased over $6 million, as total wealth management and insurance revenues increased 26% and 8%, respectively.
Looking at the balance sheet on an annualized linked-quarter basis, FNB demonstrated strong fundamental performance as we saw a pickup in lending activity that translated into a significant spot loan growth of 9% when excluding the impact of PPP loan. On a spot basis, total deposits were flat with seasonal outflows and a decline in time deposit balance.
Non-interest-bearing deposits grew to $10.2 billion at June 30 and now comprise a third of total deposits. This brings our loan-to-deposit ratio to 82.4% providing FNB with ample liquidity and a favorable funding mix moving forward.
Diving deeper into the Wholesale Bank's performance this quarter, we are encouraged that commercial loan activity has begun to pick up across the footprint and pipelines are healthy entering the second half of the year. We have significant opportunities within the commercial pipelines in the Carolinas, Pittsburgh and Mid-Atlantic markets, which reached the highest level in the last two years. Additionally, strength in the total near-term pipeline, give us optimism for a strong second half for commercial loan origination.
Consistent with our comments on the April call, activity levels around commercial pipelines as well as consumers are encouraging given our goal to reach mid single-digit loan growth on a spot basis by the end of the year. However, I'll note that commercial line utilization rate remain well below historical level. We are optimistic that utilization rates could move higher in the second half of this year as remaining PPP loans are processed through the forgiveness period and the U.S. economy begins to accelerate as the supply chain for many industries improves.
As we discussed on the prior call, our mortgage banking business continues to see near record production volumes; however, gain-on-sale margins contracted across the industry during the quarter reflecting the current market conditions. In addition to mortgage banking, the overall consumer pipelines have grown significantly since the beginning of the year. We have begun to experience lending growth across the consumer product set. As economic activity has begun to pick up, we are experiencing increased loan demand in commercial and consumer banking and favorable credit trends.
With that, I'll turn the call over to Gary so he can provide additional detail on asset quality. Gary?
Thank you, Vince, and good morning, everyone. Our results for the second quarter were favorable and we are very pleased with our credit portfolios position moving into the second half of the year. Delinquency and non-performing levels decreased meaningfully during the quarter and our net losses remained low.
Positive momentum of the broader economy and continued reopening of businesses have further contributed to the favorable results for the quarter, particularly as some borrowers in the more sensitive industries and asset classes begin to show signs of recovery. I'll cover that in greater detail later in my remarks. But first, let's walk through our credit results for the second quarter and review some of those highlights.
The level of delinquency, excluding PPP balances ended June at 80 bps, a 9 basis point improvement linked-quarter, which was driven by broad improvements across all portfolios, notably commercial and 1-4 family. The level of NPLs and OREO also improved to end the quarter at 58 basis points, representing a 14 basis point decrease from the prior quarter's ex-PPP level. Our NPLs decreased meaningfully down nearly $30 million during the quarter, which was driven primarily by a $21 million reduction in the commercial portfolio, including the resolution of a credit that was previously reserved for.
Net charge-offs for the quarter were very low at $3.8 million or 6 basis points annualized, while year-to-date net charge-offs remained at a very solid 9 bps annualized. Non-GAAP net charge-offs, excluding PPP balances were 7 bps and 10 bps for the quarter and year, respectively. We recognized a $1.1 million net benefit in provision this quarter following broadly improving economic activity and positive credit quality results through June, resulting in a stable reserve position at 1.42%, while the ex-PPP reserve stands at 1.51%.
NPL coverage also remains very favorable at 278% due to reduced NPL levels during the quarter. Our total ending reserve position inclusive of acquired unamortized discounts totals 1.58%.
I'd now like to provide some additional color on our loan portfolio and give an overview of our approach to underwriting and managing risk as lending markets remain highly competitive. Looking quickly on loan deferrals, we ended June at a level of 0.7% of our core loan portfolio with these levels continuing to decline as new requests have essentially ceased and borrowers returned to contractual payment schedules.
Our banking teams have also remained actively engaged with our commercial customers to stay apprised of how the broader economy and emerging trends are affecting their operations, including the impact of supply chain disruptions, labor shortages and the general future outlook for their respective industries. These factors are all taken into careful consideration during our underwriting and credit approval processes, which is consistent with our overall credit philosophy.
We were successful in closing a number of high-quality lending opportunities in the quarter with strong borrowers that fit within our desired credit profile and we will continue to approach transactions in this manner to help us meet our growth targets, while maintaining our desired risk profile.
In closing, we had a successful quarter marked by solid credit results and loan losses, which has us favorably positioned moving into the second half of the year. We made significant progress working down rated credits as indicated by a 15% reduction in classifieds, reflecting the tireless efforts put forth by our workout teams to reduce exposure to more sensitive industries and take risk off the table as economic conditions continue to improve.
As we look ahead to new lending opportunities, our core credit principles that have served us well throughout economic cycles remains front and center in all credit decisions we make including consistent and disciplined underwriting across the footprint, attentive and timely management of risk, and proactive portfolio management to further position us for the quarters ahead.
I'll now turn the call over to Vince Calabrese, our Chief Financial Officer for his remarks.
Thanks, Gary, and good morning. Today, I will discuss our financial results and current expectations. As noted on Slide 5, first quarter EPS increased to $0.31, up significantly from the prior and year ago quarters. Looking at highlights for the quarter, on an operating basis, net income available to common stockholders increased $18.3 million or 22% to a record $101.5 million as total revenue increased $2.1 million or 0.7%.
Operating expenses were well controlled, down $5 million linked-quarter. We saw a negative provision for credit losses due to the improved credit metrics that Gary just discussed. Linked-quarter growth and operating PPNR of $7 million or 6% reflects the company's strong performance in the quarter even without provision benefit.
Now turning to Slide 7 to review the balance sheet. Period-end loan balances excluding PPP increased $515 million or 9.1% annualized on a linked-quarter basis. Through organic growth with strong contributions from both the commercial and consumer segments, the economy continues to rebound. On an average balance basis, total loans decreased $56 million reflecting accelerated PPP forgiveness during the second quarter. On the deposit side, average deposits increased $1.1 billion or 3.9% to over $30 billion, a record high with non-interest bearing deposits comprising 33% of total deposits. On a spot basis, deposits were relatively flat, even the managed decline in higher cost time deposits.
Focusing on Slide 8. Net interest income increased $5 million to $227.9 million as the PPP contribution increased $2.2 million to $25 million, which was offset by $1.9 million decreased contribution of purchase accounting accretion to $5.0 million. The underlying net interest income trends improved due to a more favorable balance sheet mix and our continued focus on reducing deposit costs in the lower interest rate environment was evidenced by our total cost of interest bearing deposits declining 7 basis points to 24 basis points.
Reported net interest margin decreased 5 basis points to 2.70% as earning asset yield declined 9 basis points, which was partially offset by the 6 basis point reduction in the cost of funds. The yield on total loans and leases remain stable at 3.51%. When excluding the higher cash balances, purchase accounting accretion and PPP impacts, the underlying net interest margin would be 2.71%, representing a 1 basis point increase compared to the first quarter 2021 and the second quarter in a row of improving underlying net interest margin.
Let's now look at non-interest income and expense on Slides 9 and 10. Non-interest income totaled $80 million decreasing $3 million from record levels last quarter. We achieved record wealth management revenue of $15 million through contributions across the geographic footprint and positive market impacts on assets under management.
SBA volume and average size of transactions increased during the quarter, driving SBA premium revenues to $2.6 million almost double the prior quarter. Pipelines in this business remain solid and we expect near-term SBA premium revenues to be strong. Mortgage banking operations income decreased $8.3 million as gain-on-sale margins tightened meaningfully in the second quarter 2021 throughout the industry. Held-for-sale pipeline declined significantly elevated levels and the benefit for mortgage servicing rights impairment valuation recovery was $2.2 million lower than last quarter.
Non-interest expense decreased $2.4 million linked-quarter on a reported basis. When excluding $2.6 million of branch consolidation costs in the quarter, non-interest expense decreased $5 million or 2.7%. On an operating basis, salaries and employee benefits decreased $5.3 million or 4.9%, primarily related to the timing of normal annual long-term stock awards recognized in the first quarter each year.
Outside services expenses increased $1.8 million reflecting increases from third-party technology providers, legal costs and other consulting engagements. We are very pleased with this quarter's results with record operating net income, accelerating sequential loan growth, strong revenue growth, solid credit quality metrics and continued growth in tangible book value per share, increasing $0.19 per share to $8.20.
Now turning to our outlook for the third quarter of 2021. Excluding PPP contribution, we would expect net interest income to be up slightly in the third quarter compared to the second quarter. The level of PPP contribution will be a direct function of the modest forgiveness process during the quarter. Our current thinking is that we will see around $500 million of forgiveness in the third quarter, which would translate into a $79 million reduction in net interest income contribution from PPP loans. However, if the SBA approves forgiveness closer to second quarter levels, the reduction in PPP contribution would be smaller.
We expect non-interest income to be in the high $70 million area given the diversified nature of our non-interest income revenue streams. We expect non-interest expense to be flattish compared to operating expenses in the second quarter. Our provision for loan losses remains dependent on the level of loan origination activity and we are encouraged by the favorable credit trends observed during the first half of 2021. Regarding our full year assumptions, our loan growth, total revenue and non-interest expense assumptions remain unchanged with current deposit growth reflecting the benefit of additional government stimulus as we continue to see increased liquidity and a loan-to-deposit ratio below historical levels.
With that, I will turn the call back to Vince.
Thanks, Vince. I'd like to provide an update on the pending Howard acquisition. We are excited to begin the integration process with the Howard team. We are confident that our established leadership in the Mid-Atlantic market will work well with the talented bankers at Howard. We share a deep culture of client and community service, which should allow for a seamless transition in the coming months for all of our stakeholders. We also expect the conversion and integration to run smoothly as both organizations operate on common core system.
As discussed previously, our decision to selectively enter higher growth markets through a combination of de novo locations, loan production offices and strategic acquisitions has FNB well positioned today. With the Howard merger, we will grow to the number six deposit share in the Baltimore MSA, while adding meaningful customer density to the Mid-Atlantic region, which covers Maryland, Washington DC and Northern Virginia. Our long-term strategy is to best position our company in the markets where we have the ability to grow loans, low cost deposits and fee income organically through increasing our market share over the long-term and expanding the universe of clients and prospects.
If you look at our market expansion strategy in the Mid-Atlantic, our four acquisitions since 2013 came in a lower relative acquisition cost with a weighted average price to tangible book of 1.5x. Our growth strategy in the Mid-Atlantic region provided access to a population of 10 million and more than 300,000 businesses with revenue greater than 100,000.
Since the end of 2015, our compounded annual organic loan growth for FNB in Maryland is 15%. Furthermore, as a company overall, we have nearly doubled our annual non-interest income since 2015 from $162 million to $294 million, most of which has to do with our investment in products and services, but also bringing those capabilities into our expansion markets and broadening our client relationships.
Therefore, we are very excited about our long-term potential for growth as we offer our deep product suite to Howard's customer base. Looking specifically at some of the transaction highlights. The Howard franchise increases FNB Baltimore deposits by $1.7 billion to $3.5 billion on a pro forma basis, while creating a combined organization of more than $41 billion in total assets. Additionally, the transaction carries lower execution risk given the end market synergies. We view the transaction as financially attractive with a 4% EPS accretion with fully phased-in cost savings and enhanced pro forma profitability metrics, which included 200 basis point improvement in the efficiency ratio and an internal rate of return greater than 25%.
Consistent with our approach to capital management, the transaction is expected to be neutral to CET1 at closing and includes minimal tangible book value dilution of 2%. As I noted earlier, our TBV growth this quarter alone was 2%, essentially earning the TBV dilution back in one quarter. Our M&A strategy hasn't changed from what we said in the last couple of quarters. First and foremost, our focus is on organic growth. But if opportunities arise, where the target is in market, has potential for significant cost saves and carries low execution risk with minimal tangible book value dilution, the potential acquisition becomes worthy of evaluation.
We are excited about the opportunities in front of us as our organization continues to flourish and evolve as a more diversified financial institution. Last month, we were honored to be named as the Top Workplace in Northeast Ohio for the 7th consecutive year and our 30th Workplace recognition overall, which are based solely on employee feedback.
In closing, we are focused on continuing our commitment to advance our market position by gaining scale and operational efficiency and by cultivating a great culture and meaningful lasting relationships with our clients and communities while simultaneously creating value for our shareholders.
With that, I will turn the call over to the operator for questions. Operator?
Yes. Thank you. At this time, we will begin the question-and-answer session. [Operator Instructions] And this morning's first question comes from Frank Schiraldi with Piper Sandler.
Good morning. Just on loan growth. I just want to make sure I understand the mid single-digit growth expectation or guide for 2021. Does that assume, Vince, that line utilization rates remain at the low levels they are now, and then there could be upside if that moves higher? Is that the messaging?
Yes.
Okay. And then on the other side of the coin, the thing I worry about a little bit is, I know you guys have always had such a strong credit function, there's so much liquidity out there, presumably chasing loans that I would imagine companies, banks could get more aggressive on price in terms and – pricing in terms and good banks could find themselves on the sidelines to some degree. So I just wonder if you're seeing evidence of that in the marketplace in terms of tighter pricing, tighter terms and just your general thoughts there?
Frank, I'll try to tackle the initial response and then I'll turn it over to Gary, as he sees the other trends relative to credit pricing more than I do. But I can tell you, we have 10 regions. If you look at the breakdown of the growth by region, Pittsburgh has a huge portfolio. They were up about 3%. Our capital region, which is Harrisburg, Scranton, Lancaster and Redding, they were up just almost 5%. South Carolina, which is Charleston, principally, they were up 15%. South Raleigh was up approximately 4%. That was pretty decent-sized portfolio. And then we saw some growth in Builder Finance and in our SBA portfolio. So I think that we have enough granularity, and that was the strategy from day one was to not be dependent on a single geography where adverse selection kicks in and market trends move in the wrong direction, we end up booking assets that come back to haunt us.
As you know, from your long history with this company, we are very conservative. Many of the moves that we made leading into the current situation, we were very proactive and discarding what we considered to be risky asset classes because we thought we were in the late term of the cycle even before the pandemic. So I think we're very well positioned from a credit perspective. I think we're proven. We don't have to make any bones about it. We performed exceptionally well. In fact, I would argue that without stimulus, many of our peers might have had more substantial credit problems because of concentration in certain industries, which we don't have.
So I think that given everything that we've designed within our company, it's all working pretty well and I would suspect that those pipelines, it's going to vary from market-to-market and some markets are irrational, and we're going to back away, but we can lean in, in other areas to pick up the slack.
Go ahead, Gary. I'll let you talk about the trends which you're seeing.
Yes. Frank, in terms of the competitive nature of it, it surely is that we're going to pick our spots with our clients and we'll compete from a pricing standpoint as we have. We've seen during the quarter some great high-quality opportunities with some really strong clients, as I mentioned in my remarks. We're seeing more and more of those opportunities. There's some M&A activity going on and we'll continue to play in that space and pick our spots.
The other thing we are seeing is it's a very good time to get rid of some assets that we don't want on the balance sheet for the long-term. Banks are very aggressive in that space right now. And it's one of the reasons why we were able to upgrade some credits and more importantly, get rid of some of those credits that we didn't want during the quarter, which helped that classified number come down significantly. We do also expect that to continue as we roll into Q3. So hopefully, we get some additional benefit there. But we'll be opportunistic to pick our spots and take care of our clients as we do each and every day.
Okay. Great. And then one last one, if I could, just in terms of M&A. Certainly, Howard does fit the bill of what you've been talking about for the last few quarters, Vince, in terms of the potential strategy or what you look for in a partner. Just wondering, I guess maybe you never say never, but just wondering your thoughts on, could you see something more expansionary larger on the M&A side or is that kind of largely off the table for you guys, just given what you are able to do on the organic side?
Well, I think we're still focusing on organic growth. Opportunistically, there maybe opportunities that come up. We're going to be keenly focused on tangible book value dilution as the governor. So as that kind of moves out certain transactions, right. Unless we can get substantial cost take out and it fits strategically and is active to our organic growth strategy, I would hold it out. If it works within our strategy and I said it pretty clearly, I thought in the prepared comments, we're going to look for those metrics that drive returns for shareholders and fits into our strategy, which I think we've executed extraordinarily well.
I reflect back to 2017. I don't think there's been a quarter where we missed what our forecasting has been. So I think our employees have done an exceptional job integrating those companies. We've done a phenomenal job growing non-interest income. I mentioned that on the call, it's more than double, almost all organic and again, it's the execution of our strategy against the market expansion and the accumulation of companies that we brought on through our acquisitions and through organic growth. So that continues to bode well for us. And I think we've got a lot of work to do on the digital front to continue to improve our interface and we continue to drive activity from a technology perspective and that's very exciting. So I think when you look at all of that, that's pretty much our M&A strategy. I think I've reinforced it in the script and hopefully that's clear enough for everybody.
Yes. That's great. Thank you. Thanks for all the color. That’s all I have.
Thank you. Yes. Appreciate it. Thanks, Frank.
Thank you. And the next question comes from Michael Perito with KBW.
Hey, good morning.
Good morning, Mike.
Good morning, Mike.
Couple of questions from me. Just on the unchanged revenue guide, I think, approximately $1.2 billion for the full-year. It seems like you're actually tracking a little ahead of that to start through the first six months here and I'm just curious outside of what's likely some conservatism around PPP forgiveness, I imagine, in terms of the timing of when that recognizes. Is there anything else in the back half of the year that we should be mindful of from a revenue perspective? Like, for example, the recent wealth production has been strong, is there some likes for normalization there or anything else that that could potentially kind of slow the trajectory you're on from a revenue standpoint in the back half of the year?
Well, I think, we're being conservative because we're in unchartered territory here. I mean, I want to be optimistic. I'm an optimistic person. You guys have accused me of that many times. I tried to stay positive, but I also know that there is quite a few unknowns out there. That changes that have gone on with the pandemic, it really turned some things upside down. So I think can we achieve greater loan growth and increases in outstanding balances in the loan portfolio? Absolutely, but the supply chain needs to be corrected. There are a number of issues, particularly in the C&I segment with companies that can't meet full production quotas because they can't get supplies. Their commodity price increases that haven't been reflected in revolver balances because they can't get the product or they're unwilling to take the risk on price volatility in the current market.
So there's quite a few unknowns out there. Inflation, what will inflation do. When you look at the mortgage business, gain-on-sale margins came in fairly substantially. We signaled that on the last call, somebody had asked and we had indicated that we saw that they were coming in and they've been varying. So there is some volatility in the pricing there too because of the changes in the 10-year interest rate in particular, so there's quite a bit out there that makes it difficult to forecast. Having said all of that, I think the activity has picked up, the pipelines are up substantially. It's the best pipelines we've had in consumer small business and middle market banking and a number of years. And I'm hopeful that we can execute and turn that around.
When you look at non-interest income, I think one of the benefits of having such a diverse base fee-based businesses when one is up – when one is down the other one is up. So SBA is really up fairly significantly. Wealth had a big leap because of some organic growth that we experienced and improvement in net asset values because of market condition. That all offsets the mortgage decline.
So I think and I can tell you from a capital markets perspective, we probably would have been a little more conservative looking into the future, but I think with the 10-year at about $1.18 right now, there is now an opportunity for people to continue to fix. The rates to derivatives fee income looks like it's still hanging in there pretty solidly. We've got some great syndication's opportunities in our debt capital markets platform that we launched. We've already seen three or four deals that we participated in. So that's all exciting, but again it's very difficult to forecast in this environment.
Yes. No, that makes sense. Appreciate the color. Maybe a question on the kind of the liquidity position in the margin from here. I mean, you guys continue to grow deposits, which I imagine is a good indicator of kind of overall customer growth in this quarter, particularly, but with a lot of the stimulus playing out over the last two quarters. But just curious how you guys are thinking about the cash position, pace of deployment in the bond book and/or conversely sitting heavier in cash and hoping that the loan growth kind of materializes and maybe there's some normalization in deposits if the economy continues to recover? Just any thoughts there?
Yes. I would say this on the investment portfolio side. I mean, our plan from here is to reinvest cash flows coming off the portfolio. We're not looking to increase the size of it. I mean, during the second quarter, we opportunistically reinvested 110% of cash flows. So we grew portfolio a little bit. There were some opportunities in April, in late June. Our plan from here to the rest of the year, we just think to reinvest about $125 million to $150 million a month and kind of put that to working. The reinvestment rates in the second quarter, they were $1.21. Rates compared today, they were down $1, $1.10 and could go even sub-$1. So we'll pause when it doesn't make sense to do that.
So investment strategy is pretty much intact and then the level of cash on the balance sheet that we have – the main focus area is going to deploy that in loan origination, on the loan growth in the second half of the year end. As Vince said, there's lot of opportunities there throughout the market and then there is opportunity to use some of the cash too once we close the transaction. There's some borrowings and some deposit classes that would make sense to kind of use some of our cash there too. So that's kind of a high level plan as far as the cash position.
Got it. Helpful. And then just one last question for me, just regarding. Howard. I appreciate the additional color. Looking at Howard's recent results, it seemed like over the last quarter or two particularly, they'd start to really show some good organic growth despite everything going on and after some initial slowdown after their transaction they have with First Mariner. I'm just curious, I mean – I imagine that's a kind of a critical piece of this for you guys as you mentioned, trying to be additive to your Baltimore growth. I'm just curious if you have any color you can provide on kind of the retention of that lending team and how you kind of expect them to fit into your already growing operation in the greater Baltimore region?
That's a great question and I'm happy to answer it. I think when we first set out to do due diligence on Howard. We know what we would find and as we dug deeper into the information, we became extremely confident with the quality of the people and the quality of the portfolio. And I think this is one of the lowest credit marks we've had, believe me Gary and his team do a fairly extensive job, Tom, Fisher, Gary, the whole team evaluating risk within those targets. We're very seasoned at doing the doing the acquisitions and many of us have been here for a number of years. I've personally been here for I think 15 or 17, I don't remember.
But there's a quite a bit of due diligence that goes on. We were very impressed with the people, with the culture, with Mary Ann's leadership. I know the company has struggled a little bit, but when you look at the opportunity for us, just in the DDA accounts, we had 40,000 customers in the Baltimore market. With our data analytics teams, with our digital strategy on the consumer side that provide substantial benefit.
If you look at the opportunities from a mortgage lending perspective in the market, it's been a big contributor for our success. The Mid-Atlantic region. In total, they are in mortgage banking that provides us with a tremendous amount of opportunity and the consumer segment relative to mortgage banking. If you look at commercial banking, their legal lending limit was relatively small, while they have a really, we think, a pretty solid customer base. They don't offer derivatives. They don't offer international banks. They don't offer as many treasury management services as we offer. So there's a substantial opportunity, which by the way, this has not all been modeled. We think over time, just like we did with the rest of the company with non-interest income growth, we have an opportunity with that portfolio and Gary, I don't know if you want to talk about the credit due diligence or we evaluated the opportunity.
Yes. The due diligence work that the team does and as Vince mentioned, it's a deep team. The group has done many of these transactions. We totally reunderwrote 80% of the commercial loan book at Howard and it checked out very, very nicely. Vince mentioned the credit market 1.7%. We also reviewed 20% of the retail book with the underwriting there, evidence of lower risk underwriting, so felt very comfortable really across the books.
The philosophy around the commercial underwriting was very similar to ours. So again, a lot of good work done there, felt very comfortable with the credit mark and the work that the team has done at Howard. So we feel it's a very good match from a cultural standpoint.
And we also from a leadership perspective we have strong leadership in Baltimore. Baltimore has been a double-digit performer for us from an organic perspective, we've grown 15% per year since 2013 there. So we have a very strong team. They have very good people. I'd say, our focus is probably a little bit further up market. Their focus is middle market and small business. It fits in very well for us. So there's plenty of opportunities for their bankers to join our team and benefit plus we are keeping the Credit Officer. So he will be one of the Senior Credit Officers in the marketplace because there is confidence.
The management team will be there tomorrow. So we will have a meeting with the bankers tomorrow. We're very excited about that and I think that we'll be able to convey some of the things we've said today to those individuals. And I think they'll be excited about the opportunities for them to cross-sell additional products and services and to serve their clients.
I don't remember if you've asked me anything else, but I will tell you that we're very excited about the opportunity to double our deposit share in Baltimore. There are a number of large players there at number six deposit share with $3.5 billion, I think we nearly doubled number seven. So and then it moves up fairly dramatically from there. So having that additional scale in Baltimore, in the Mid-Atlantic region is critically important.
So look what it did for us in Pittsburgh, it substantially accelerated our ability to go after middle market opportunities and grow organically in Pittsburgh. And I think the same will happen there.
Got it. Helpful. Yes, I think the only other element was just kind of the actual formal retention of lenders, but it sounds like that's still being sorted out.
And we are still working through that. Believe me, we've allocated substantial retention. We have a process that we use to evaluate talent and flight risk. We've done this a number of times. I would say, despite what everybody believes, we've done a pretty good job of retaining who we wanted to retain throughout our history of acquisition. So I can't say any more than that, I think.
Yes. That's perfect. Very helpful. Everyone, thank you for the time and taking the questions.
Thanks.
Thanks, Mike.
Yes. Take care.
Thank you. And the next question comes from Jared Shaw with Wells Fargo.
Hi, good morning. This is Timur Braziler calling in for Jared. How are you guys doing?
Good.
Good.
Maybe the first question on mortgage production and then looking at whether or not you're putting those mortgages on the portfolio versus selling them, given the current trends, should the expectation be that more of the mortgages end up on balance sheet? And I guess, what would that do for mortgage banking outlook going forward and what would need to happen to really get mortgage banking revenues higher?
Yes. I would say, I guess, a few things. So just a comment on the activity in the quarter. As we mentioned in our remarks, I mean, we had a significant decline in gain-on-sale margins of over 100 basis points. During the quarter, mortgage rates declined 35 basis points in the second quarter after a steep run-off in the third quarter. That's a big driver to the change in the first and second quarter, and then the amount of the saleable pipeline dropped about 13%. So that's also a key factor and then our MSR valuation reserve. We have $2.5 million in the first quarter of positive recovery. Then we had $0.3 million in the second quarter. So those are kind of the three kind of key variables there.
From a sole production standpoint, we actually go more quarter-over-quarter, second quarter versus first quarter and we're really selling the most of the loans that – all the loans that our saleable to jumbo loans, we tend to keep on balance sheet, those having private banking relationships. We have certain programs that are more geared towards that. So the kind of hold versus sell is really by the nature of the loan. The overall production was a $1.1 billion in the second quarter, up from $853 million and sole production was comparable.
So yes, I mean as we go forward from here, I mean, as we sit here today, purchase activity is about 68% in the retail volume and 55% in the first quarter, so another kind of key indicator. Things seem to have stabilized somewhat as far as gain on sale margins and for the third quarter, we're looking at around the same level, but for some upside there depending on what happens with rates, which we all know it's impossible to predict, but the margins having stabilized is definitely positive to go forward and we make our decisions, like I said, it's based on the nature of the loan, whether it's growing portfolio or we're selling.
Okay. That's helpful. Thank you. Maybe just switching over, it seems like Charleston had another good quarter here in the second quarter and I know last quarter there was a good amount of detail provided on your expansionary efforts there. How does that market compare from an organic growth standpoint to what had been going on in Baltimore? Are you confident that you can gain that market organically? Are there opportunities to supplement that growth through smaller M&A? Or just those of the smaller size of that market relative to the Baltimore and kind of DC, MSA make it easier to attract talent and grow there organically?
Yes. I think, again a great question. When you look at Charleston, the opportunity in Charleston was – it's about a half – a little less than half the size of Baltimore, Pittsburgh in terms of MSA. So we tried to size it. We did an analysis to see what it would take to de novo into that market and adequately cover the marketplace and we're doing that with a combination of branch expansion and ATM and ITM performance within the marketplace. Some of it co-branded ATM deployment.
So I think we came to the conclusion that we could expand into the Charleston market and grow it if we had the right people and we were positioned properly within the marketplace from a customer access perspective and then leveraged our digital tools and our analytical tools to drive additional growth and that seems to be working very well. I mean, when you look at the retail locations that we rolled out, two of the locations have been open for over a year in the top 25% of our branches from a production perspective.
If you look at the C&I team, the team that we recruited, very solid individuals who I actually enjoyed interacting with, they're great bankers. Len Hutchison and his team in Charleston have done a phenomenal job. They brought over a number of key clients. And then the PPP process really helped accelerate that too because it gave us an opportunity to bring on thousands of customers in the Southeast because some of the larger banks couldn't get the PPP loans processed.
So all of that together has worked exceptionally well for us. So I think Charleston is a de novo opportunity and there are others that we pursue, Greenville, South Carolina, Asheville, and we've done similar strategies and they're starting to take off too. So I think there's room for both. We have to evaluate how we want to deploy our resources and do it in a way that provides the highest returns for the shareholders and that in Charleston's particular instance, I think it makes more sense for us to go in de novo.
Okay. Understood. And then just one last one, if I can, for Gary. The allowance ratio still seems relatively elevated and the pace of reserve release is a little bit slower than what we've seen at others. I guess how much that qualitative factors contribute to the slowing pace of reserve release in the second quarter and what's the outlook for future reserve release? Are you all actively trying to moderate that versus what the model maybe spitting out and what level do you think you can get back to closer to a day one type allowance?
Well, when you look at where we sit today, I mean, they're still exists risk in the economy. We talked about the supply chain issues, inflation and other items around that. You also have some pandemic starting to pop up again. So we're going to continue to be a bit cautious with that. When you go back to CECL day one, we started at 1.25% from an ACL standpoint. Today, we see that 1.51 ex-PPP. So I would tell you that there surely is some room to continue to move that downwards over time as we work through the economy and the pandemic and get back to some normalization.
So all told, qualitatively, we're at the higher end of our scale right now. That generally ranges from 20% to 30%. We're at the higher end as we sit here today. So there is some room there. And when I look at the economy normalizing over time, I think we're in a good spot as we sit here today with some future benefit to come.
Thank you for the questions.
Thank you. And the next question comes from Dave Bishop with Seaport Research Partners.
Yes. Good morning, gentlemen.
Hey, there.
Good morning.
Hey. Maybe you can stay on that topic, Gary, I don't know if you can quantify this, but assuming normalization in the loan growth outlook there once we get through some of the PPP churn or so. Would you think you'd be back to reserving on a quarterly basis that 1.25% of loans, just curious if there's any color you can get in terms of how you're thinking about reserving under a more normalized basis?
There is a lot that comes into play these days. Mix is an important part of it. When you look at the life alone situation under CECL, but once things normalize and portfolio activity normalizes, yes, I would feel comfortable that the economy is going to be back in a spot where you're moving very close to or at normalization from a provisioning standpoint. So as I just mentioned, I think there's still some uncertainty out there. We're going to manage it appropriately and we'll work it through the system as the economy continues to improve and stabilize and the growth starts to normalize. So it will be a quarter-by-quarter analysis as we look at it each and every quarter.
The only thing I would add too is that the growth we had, spot growth of $550 million, we've provided for that. So that was probably $7 million or so. So that negative $1 million benefit really was kind of $8 million, except for that loan growth. So we always talk about, we need to provide for the loan growth. So that was a good problem to have in the quarter. But the underlying kind of release is a little bit bigger from a kind of pure provision standpoint.
Yes, a lot of that was driven, it was really driven by the improvement in the credit portfolio that we talked about with reductions in classifieds and all the credit metrics, all moving in a very positive direction that really drove that reduction.
Got it. And then in terms of the loan yields looked like they remain relatively stable here. Just curious if you can provide some commentary in terms of the onboarding of new loans originations of the yields this quarter, what you're seeing and is there a significant difference across your various markets and regions?
I think it's amazingly similar. At this point, I think it's pretty competitive across the board. So the feedback we've gotten from the yield, there's some pressure on credit spreads, the priced over cost of funds. I think that given the environment we're in where everybody is flushed with liquidity obviously, that's everyone's trying to grow the loan book. So it's very competitive. I think on a quarter-over-quarter basis, the yields have been pretty similar. I don't think this is a new phenomenon. I don't know if Gary, you want to add to that, I mean, I think it's been sustained for several quarters.
Yes, I would agree with that. When you look quarter-over-quarter, it's pretty much fairly stable and sitting where it's been here. It's the occasional transaction that gets really pressured. And as I mentioned earlier, we'll pick our spots with our clients and be effective there.
The higher quality credit obviously is getting priced very similar in the market. I think as long as you can justify the returns on capital invested, cross-sell opportunities, ancillary products and services, capital markets opportunities, it can work. But the credit spreads are definitely in.
Got it. Appreciate the color.
Sure. Thanks.
Thank you. And the next question comes from Manuel Navas with D.A. Davidson & Co. Mr. Navas, your line is live. We are moving on. The next question comes from Samuel Varga with Stephens Inc.
Good morning.
Good morning.
I wanted to ask a little bit about the direct instalments and the other loan categories. And just wanted to get a perspective on, I guess, what drove the increases there, was it due to loans and home equity and if so, particularly on the auto loan side, I just wanted to get a feel for whether that's due to larger volumes or just the size of the loans due to the increased car prices?
Yes. It was really driven by the home equity book. The home equity book is very active. Our home equity instalment product has been a very good product for us that we have seen solid growth, good solid activity in. The automobile book growing slightly. There's issues in the supply chain there as well with new inventory. So in terms of that book, it's growing at a much smaller pace, but it's really being driven in that home equity instalment product at this point
And I think as you – at the beginning of the pandemic, people were afraid to do anything, all of a sudden trillions of dollars of stimulus flowed into the economy. People began – individuals, consumers began to regain confidence. They either bought a new house and paid 20% more than they would have before the pandemic where they decided, hey, I'm going to renovate my home now and that's what we're starting to see. We're seeing an escalation in our direct instalment portfolio in particular and the pipelines have grown principally because of where we are in the cycle relative to the pandemic.
And I think the overall effect of stimulus has led to people taking a little more risk in terms of improving the property and then they're seeing property value appreciation, which gives us added confidence, right, to get that done. So I think all of that is kind of blowing in here, right? I'm not sure that we're the most aggressive lender from an LTV perspective, I don't think we are, I think it's more a function of the economy and demand for that product moving up in terms of what's happening.
In terms of the growth that you are seeing in the auto space, that's kind of seasonally driven. The dealers are having trouble with new vehicles from that standpoint. That's a smaller part of our business, but it's impacting activity there.
Understood. Thanks for the color there. And then just returning to the mortgage side just for a quick question. There was about a 5% linked-quarter growth there and so can we assume that that was due to holding the production on the books?
Yes, that's just the nature of the loans that we originated during the quarter. So yes, that's all I think. It's just from origination activity.
Great and then one final one from me. With regards to Howard acquisition, could you give us some details on the accretion that you expect to recognize and the timeframe over which you expect to recognize that?
Yes, I can touch on that. So when you net credit mark accretion with the loan mark accretion and some of the smaller items, I mean, it really only totals to about 20 bps of 4% accretion. So on a kind of more cash accretion basis, you're looking at 3.8% total accretion. Now, in terms of over what time frame and we assume a five year life of the loan portfolio and that's pretty much accreted straight line. So on a net basis, it's relatively small and less than like $1 million.
4% included – timing wise.
Got it. Thank you for providing the color. Appreciate it. That’s all for me.
Thank you. And the next question is from Brian Martin with Janney Montgomery.
Hey. Good morning, guys.
Good morning, Brian.
Hey, just one on the PPP, just the timing of the forgiveness or just the recognition of the remaining $45 million. Do you guys have any kind of big picture thoughts on how that plays out or how you're seeing that unfold in the next couple of quarters and into next year?
Well, the forgiveness that I mentioned have opened for us and this is $0.5 billion, $45 million for the full year. And this is contribution – most will be this year. We'll have some sales that will go into next year, 10% to 20%, probably about 10% or 15%, Brian that will carry over into next year, but we would expect, I mean, the pace that the SBA was forgiving is based – going to ramp up in the second quarter, we would think with round two, starting to get forgiven as that would start to accelerate at some point. We just don't know exactly when. So we're a little conservative and our $500 million that we are assuming for the third quarter, more opportunity for that number to be higher, but the vast majority of what's left with the cover come through this year.
Got you. Okay, perfect. And then just go to the margin for a minute. Can you just give any thoughts on the margin accretion that comes from Howard? And then just on the core margin this quarter, it sounded as though obviously this is the second quarter of kind of incremental increase. Just how you're thinking about that core margin going forward? I guess, it sounds like it's at a bottom and should continue to trend higher based on some of the commentary on loan growth and maybe utilization getting better, but just kind of Howard add and then just a core margin, if you can give any color Vince?
Yes, let me – I'll touch on the core margin and you guys comment on the Howard impact, when I finish that, which is just a couple of comments there. So our net interest income went up $5 million while the PPP contribution was up too, [indiscernible] push there. So the growth that we saw was driven by the spot loan growth by 15% that we talked about, as well as continued reductions in the cost of interest bearing deposits.
So if we go ahead from here, I mean, on interest bearing deposit cost side, brought it down another 7 bps, 24 bps for the quarter, the spots is 22 basis points at the end of the quarter. We have continued benefit from CD maturities that continue to roll down. I mean, there's $160 million to $200 million a month for the next three months on the books to 65 basis points to 85 basis points. I mean, yet on around 50 basis points or so. So that will continue to provide some benefit, still some opportunity kind of on the commercial side too. And I guess to put CDs in perspective, the total cost of that portfolio, which is already at 3 bps and 4 bps, we look for that to come down another 15 basis points or so by the end of the year and that's kind of baked into our guidance.
As we look ahead from – to the third quarter excluding PPP, which we commented on this variability there, we expect net interest income to be up slightly, the stronger the loan growth is, stronger you get their of course and the core NIM kind of be flattish from here. I mean, we're trading PPP for the normal loans as I would comment. So that will kind of roll through the portfolio, but kind of flattish on the margin and up on net interest income given those factors that the loan growth plus the continued opportunity to bring down cost of deposits.
Yes. And on the impact to the overall margin with Howard combination, as you know, Howard's margin is higher than ours in the low to mid-3s. So when you kind of a flap them together, it is going to be modestly accretive to margin. I wouldn't say a whole lot. And part of that's also due to some of the balance sheet items that we plan to execute on that Vince alluded to earlier on. So I'd say very modest contributions of higher margin.
Perfect. Okay, and then just the Howard or the Baltimore loan portfolio today, and I guess how does that stand? Maybe if you commented on that, maybe I missed. I'm sorry.
When you say, how does it stand, are you asking about the size of the portfolio?
Yes. Just how is that trending today, the Baltimore portfolio loan?
Yes. It's trending upwards, the exposure there is $3.3 million in total and balances are right around $2.5 billion, Brian.
$2.5 billion. Okay.
And it's been moving up nicely at a 15% rate.
Yes. That's kind of like. Okay, and then just the last one or two from me, was just on the – just Vince, you gave a lot of color and I appreciate it on the M&A, just to kind of understand what's happening there, I mean, just a dialog on M&A today. I guess if you can give some color on that? And then just curious if you lay out what you would be looking at from an M&A perspective, how large a transaction could you potentially consider if it met the criteria you mentioned earlier, just trying to understand where the opportunities are, how big an opportunity you may consider if it was appropriate?
Yes. I don't think, again I'm going to refer back to the comments that I mean, Brian. I think that we're going to focus on minimal tangible book value dilution, strong IRRs and we're going to evaluate what's best for the shareholders. And when you look at this transaction, this is the best way for us to deploy capital at this point in time. Obviously, if we start growing loans nicely that usually ends up being the highest return on capital invested. So that's how we look at it.
This particular, obviously given the activity, everybody knows, there's quite a bit of M&A activity going on. So it doesn't take much to stumble across the conversation, right. We all know that. We're going to be very disciplined on how we move forward and that's – yes, I think my prepared comments kind of sums it all up.
Okay. Perfect. And then just last one was just on the buyback, I guess, just curious how you're thinking about that today or is just how you see that unfolding in…
Does not take our acquisition as I mentioned again in my comments, the tangible book value dilution on a whole company basis was de minimis, right. We earned it already. It's not going to change how we look at deployment of capital moving forward, which includes buybacks, the dividend, the old vol of that. So we're going to continue to deploy our disciplined capital management strategy that we laid out for you over the last few quarters and that's still going to be part of our decision-making process.
We will be opportunistic on the share repurchases. So definitely in the…
That's not off-the-table.
Yes. Okay. Perfect. Just wanted to clear that up. So thanks guys for taking the questions.
Okay. Thank you. Appreciate it. Good spree of questions. Thank you.
Thank you. And the next question comes from Michael Young with Truist Securities.
Hey. Thanks for taking the question. Wanted to ask just a follow-up on actually net charge-offs, Gary. There is obviously a lot of pieces that are moving within CECL and loan growth at will affect provision levels, but net charge-offs at 6 or 7 basis points depending on how you look at it are historically low for you all. Was there anything that was kind of like one time in there in terms of recovery and should we expect kind of low levels and then trend higher back to that 20 basis points to 25 basis points kind of over time or just any outlook there would be helpful?
Yes. Actually, Mike, it went the other way. We had net charge-offs as you know of $3.8 million in the quarter, and it was really driven by one acquired account that we've been working through over the last few years from the Yadkin acquisition that was a $4.2 million write-down during the quarter. So absent that, which and that was previously reserved for quite a while back. Absent that, we would have had a net recovery quarter this quarter. So the book really across all of the portfolios is performing really nicely right now.
Naturally, we talk about the charge-off levels in that normal range of ours and eventually I would expect that things will normalize over time. Right now, the positions that we've made in moving some higher risk asset classes off of the books over the last number of years has really benefited us. We also are sitting here with an outlook for more upgrades as I mentioned earlier, which should provide some benefit going into Q3. So as we sit here today and I've been communicating this regularly, the portfolio and the position of it, we feel really good about it at the moment.
And I will tell you, I'll remind everybody we got our OCC and Fed regulated. So we have a very professional strong oversized on our portfolio, we've gone through what several reviews since the pandemic started and have been in constant touch with the OCC. So we're feeling pretty good about the credit situation here. Gary and his team have done a terrific job.
Okay, great, thanks for the color. My last one is just on PPP forgiveness. Can you maybe just talk about qualitatively what's going on with customers as that happens? Are you guys retaining additional deposits or expanding relationships. Just kind of qualitative factors that we should be thinking of as this continues throughout the year?
Yes, I don't have any hard fast facts for you at my fingertips, but there were approximately 5,000 PPP loans in the first two rounds. I don't know what the third round holds, as we kept that mostly for our customers, but probably several hundred more, I think that is in prospects. But 5,000 or so were purely prospects. They were largely centered around our Southeast and Mid-Atlantic regions because there were several large banks that couldn't provide PPP loans in a timely fashion or brought people out. So we have been capitalizing on converting those clients. Every PPP borrower that we had opened the depository now because we have a fully automated process and as part of our authentication process as well.
So many of those deposit balances have grown, which is why our demand deposits in particular have gone one up fairly substantially. So there's been an element of retention that's gone on and the team is very focused on staying in touch with those companies waiting for the opportunity to bid on their credit facilities that they renew. That's where we are.
So any of those deposit balances have grown, which is why our demand deposits in particular have gone up fairly substantially. So there's been an element of retention that's going on. And the team is very focused on staying in touch with those companies, waiting for the opportunity to bid on their credit facilities that they renew. That's where we are.
Okay. Thanks.
Overall [indiscernible] for our clients and for us.
Okay. Thank you. And this concludes our question-and-answer session. I would like to return the call to Vince Delie for any closing comments.
I'd like to thank everybody for calling and we had great questions, very detailed questions. It was a solid quarter. I'd like to congratulate the team. I think everybody in the field really stepped up in managing expenses, taking redundant costs out of the company was a focus, growing the loan portfolio was a focus. And that's all of that takes a tremendous amount of work. And I'd like to thank our team for everything they've done and they've really stepped up and it shows in the quarter. So thank you for your support and the questions, great detailed questions today. Thank you.
Thank you. The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect your lines.