December 2, 2021

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Edited Transcript of ASB earnings conference call or presentation 23-Apr-20 9:00pm GMT

Green Bay Apr 25, 2020 (Thomson StreetEvents) — Edited Transcript of Associated Banc-Corp earnings conference call or presentation Thursday, April 23, 2020 at 9:00:00pm GMT

* Christopher J. Del Moral-Niles

* Patrick E. Ahern

* Philip B. Flynn

RBC Capital Markets, Research Division – MD of Financial Services Equity Research

Good afternoon, everyone, and welcome to Associated Banc-Corp’s First Quarter 2020 Earnings Conference Call. My name is Shamali, and I’ll be your operator today. (Operator Instructions) Copies of the slides that will be referred to during today’s call are available on the company’s website at investor.associatedbank.com.

As a reminder, this conference call is being recorded. As outlined on Slide 2, during the course of the discussion today, management may make statements that constitute projections, expectations, beliefs or similar forward-looking statements. Associated’s actual results could differ materially from the results anticipated or projected in any such forward-looking statements. Additional detailed information concerning the important factors that could cause Associated actual results to differ materially from the information discussed today is readily available on the SEC website in the Risk Factors section of Associated’s most recent Form 10-K and subsequent SEC filings. These factors are incorporated herein by reference. For a reconciliation of the non-GAAP financial measures to the GAAP financial measures mentioned in this conference call, please refer to Page 21 of the slide presentation and to Page 8 in the press release financial tables.

Following today’s presentation, instructions will be given for the question-and-answer session. At this time, I’d like to turn the conference over to Philip Flynn, President and CEO for opening remarks. Please go ahead, sir.

Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [2]

Thank you, and welcome to our first quarter 2020 earnings call. Joining me today are Chris Niles, our Chief Financial Officer; and Pat Ahern, our Chief Credit Officer. As you can see from our materials, Associated continued to meet the needs of our customers, grow and generate net profit during the first 3 months of the year. We continue to benefit from a resilient core funding base, a strong market presence and a high-quality lending portfolio. But I’ll start by discussing our response to the radically changed environment we are now experiencing.

The past 2 months were extraordinary. Let me highlight the actions we’ve taken to help our customers and protect our colleagues. We closed our branch lobbies on March 17, becoming one of the first banks to transition to drive through and by appointment only service. Our branch operations and IT teams have responded wonderfully to meet the needs of our customers. We began to send people to work remotely on March 13, and now have about 70% of our colleagues performing their jobs from home. We are continuing to pay all of our colleagues, including those whose jobs were curtailed by our social distancing measures. We are also quick to offer our own COVID-19 relief program, providing customers waivers of certain fees and deferrals of loan and mortgage payments. Through Tuesday, approximately 1,450, primarily consumer and small business loan customers have been granted some form of payment or fee relief.

From a financial perspective, we were ready to meet all of our customers’ needs with both lending availability and transactional liquidity as our core deposits increased even faster than loans. Our loan-to-deposit ratio strengthened during the quarter. In addition, since quarter end, we’ve continued to support our small business customers through the SBA Paycheck Protection Program. As of April 21, we have funded nearly $900 million of loans for more than 3,600 businesses. We are ready to support our customers in the second round of the PPP program and other programs that may come from the fed, the treasury or the SBA.

We’ve also continued to support our communities in these difficult times. We continue to donate over $3 million a year to support local housing programs, food banks and other essential services. In addition, we recently donated $300,000 to the United Way and other local COVID-19 relief efforts in our footprint. Standing up new loan programs and processes while working remotely has been hard, but we’ve met these challenges and stand ready to help our customers get through this difficult period.

So now let me turn to the financial results. On Slide 4, our first quarter GAAP earnings were $0.27 per share, driven by resilient net interest income and reduced expenses. Excluding First Staunton acquisition-related costs, our earnings were $0.28 per share. We had strong loan growth, particularly in our commercial and business lending portfolio, as customers draw on lines of credit for their own liquidity. The line draws in turn drove increased deposits as customers built up cash positions. The First Staunton acquisition, which closed on February 14, also contributed to loan and core deposit growth.

Our net interest margin increased 1 basis point from the fourth quarter, driven by a lower cost of funds and elevated LIBOR rates. The slightly higher margin, coupled with loan growth, resulted in a $20 million increase in our pretax preprovision income from the fourth quarter. Our CET1 ratio was 9.36%, giving us ample capital to fund our commitments and support additional loan growth, even after repurchasing $71 million of common stock in the quarter. We also implemented CECL as of January 1, resulting in a onetime $131 million increase to our allowance for credit losses and a first quarter provision of $53 million, reflecting our economic outlook going forward.

Average loan balances are shown on Slide 5. Total loan balances were up $525 million from the fourth quarter, as we saw increases in residential mortgages, commercial and business lending and commercial real estate. Residential mortgage growth was driven by solid origination trends and lower payoffs in the first 2 months of the quarter. While we anticipate payoffs to be elevated in the second quarter due to lower rates, our pipeline continues to be strong. We’ve taken about $2.5 billion in mortgage applications this year through mid-April, which is about double the pace we saw over the same period last year. Growth in our commercial and business portfolio was driven by our Power & Utilities vertical. Additionally, general commercial lending and REITs had strong growth in the quarter.

While customer draws in March contributed to the increase, we also had strong pipeline production. Offsetting these gains were a seasonal decline in mortgage warehouse through much of the quarter, and the purposeful runoff of our oil and gas portfolio. We expect to continue the reduction of our oil and gas book as we pursue additional credit risk mitigation opportunities.

We also saw solid results from our focus on growing commercial real estate term debt, particularly in January and February. Commercial real estate construction loans also increased as we funded construction loans in our pipeline.

Turning to Slide 6, we show end-of-period loan trends, which highlights activity we saw in March and April. In mid-March, we began experiencing a significant uptick in general commercial lending as customers draw lines of credit and built up cash. We also had a large increase in mortgage warehouse loans as lower mortgage rates induced a refinancing wave in March.

In CRE, customers increased line draws and delayed payoffs in March, and we expect CRE balances to remain elevated through the rest of the year. Customer demands for liquidity and refinancing activity have subsided in April, as shown in the right hand graph. This chart also highlights the impact of our participation in the Paycheck Protection Program that we further detail on Slide 7. We began taking applications for the PPP on April 3, the first day it was offered by the SBA. Standing up a new loan program is always difficult, and this one was made more so by the tight time line, changing guidance and by working remotely. Through great effort and dedication of several hundred of our colleagues, we created all the forms and processes and modified systems to support the program in a matter of days.

Through April 21, we had funded over 3,600 customers for nearly $900 million of loans, representing about 90% of the dollars and about 70% of the loans that were applied for. We have taken advantage of the fed’s PPP lending facility to fund these loans. We expect our customers will begin applying for loan forgiveness in late June and anticipate the bulk of the loans will be forgiven during the third quarter.

With the expected extension of the PPP program, we expect to fund the remaining 1,300 applications we received, representing an additional $80 million of loans. We’ve already taken all those applications through the process so that we’ll be ready to get SBA authorization as soon as their portal opens. In turn, we expect to access the funds (sic) [fed’s] PPP lending facility to fund these loans as well.

On March 21, we initiated our COVID Relief Program by offering loan deferrals and fee waivers to our business and consumer customers. Through April 21, we’ve approved deferrals or modifications for over 1,450 loans totaling approximately $733 million, which is about 3% of our total loans. The improved loans include $303 million or about 5% of the commercial real estate book, mostly driven by our hotel and retail-oriented borrowers; $179 million or 2% of our commercial and business lending book; and $250 million of residential and consumer loans we hold in our own portfolio.

Additionally, in the first 30 days of our COVID-19 Relief Program, we waived or refunded $415,000 in fees for consumers and small businesses. We are pleased to be able to help relieve some of our customers’ financial stress and to be part of the economic solution to this crisis.

Turning to Slide 8, the current environment has introduced new risks. On Slide 8, we’ve laid out our exposures to several categories of commercial loans, potentially impacted by COVID-19 and lower hydrocarbon prices. These balances represent 9% or $2.2 billion of outstanding loans at the end of the first quarter. We’ve increased portfolio monitoring activities across the bank, and are proactively working with our borrowers to help them navigate the current environment. Our largest likely area of exposure, representing nearly 5% of the loan book, is to retailers and shopping centers. Approximately $528 million of the retailer category is in CRE. In addition, we have approximately $453 million loan to predominantly investment-grade retailer-oriented REITs. We continue to monitor our oil and gas portfolio, which now accounts for less than 2% of our loan book, with demand disruptions pushing the cost of oil down dramatically. We’ve set aside additional loan loss reserves against our oil and gas portfolio during the first quarter. While many of our customers have hedged their positions over the near term, and it may take a while for losses to develop, we expect a prolonged period of lower prices that will stress the industry.

Our exposure to the hospitality industry is fairly limited with just over $200 million of loans to hotels, representing less than 1% of total loans. We also carry approximately $100 million in loans to restaurants and other food service companies. Beyond that, we have limited exposures with just one customer in each of the casino, movie theater or fracking sand mining business.

Turning to Slide 9, we’ve outlined the bank’s transition to CECL in the first quarter. We implemented CECL leveraging Moody’s baseline forecast at both the beginning and the end of the quarter. Our day 1 allowance for credit losses adjustment came in at $131 million, which was reserved as of January 1. The higher level of day 1 adoption relative to our prior guidance was largely driven by an increase in identified probable troubled debt restructurings in our oil and gas portfolio and the fracking sand mining company.

With respect to our provision for the quarter, we leveraged the Moody’s March 27 baseline forecast and identified additional probable TDRs in the oil and gas book, given changes in price and the dynamics in the industry. Further, in response to the overall economic environment, we also added additional reserves for our key commercial loan exposures, which we highlighted on the prior slide and bolstered our unfunded commitment provision by $16 million. These factors drove the majority of our $53 million provision for the quarter.

Our net Q1 reserve build of $40 million reflects the provision, net of charge-offs and changes in our CECL modeling along with the increased expected prepayments on mortgages. In aggregate, our total allowance for credit losses on loans was $394 million at quarter end as compared to $223 million at year-end. We believe this $171 million reserve build, a 76% increase, adequately reflects the life of loan risks in our portfolio given the economic outlook at March 31.

Our current allowance levels also cover over 65% of our potential losses as produced in our last internal severely adverse stress test scenario. $64 million of the reserve build was specific to our remaining oil and gas portfolio, and we ended the quarter with an ACLL reserve of nearly 17% against oil and gas. Our overall blended ACLL represents 162 basis points of total loans with nearly 2% set against our CRE exposures and just under 1% set against our predominantly first mortgage consumer loan portfolio.

Turning to Slide 10, prior to the outbreak of COVID-19, the credit environment remained benign outside of oil and gas. Given the sudden economic downturn and customer relief programs, our credit metrics outside of oil and gas remained relatively steady. During the quarter, potential problem loans increased $73 million to $234 million, driven by a few CRE credits, along with some additional oil and gas names. Nonaccrual loans saw an $18 million uptick with $5 million coming from oil and gas and the majority of the remaining increase attributed to general C&I and residential mortgages. Net charge-offs were $17 million, with about half coming from oil and gas and the rest in general C&I.

To address the disruption brought on by COVID-19, the company has taken a proactive approach to monitor customers impacted. Loan officers have reached out to their customers to understand their capital and liquidity needs. This outreach has been an essential component of the company’s relief programs, as we support our customers through this turbulent time. Along with our customer outreach, we’ve undertaken a deep examination of our loan portfolio to identify industries with additional risk exposure. We continue detailed monitoring of these specific industries in addition to the overall portfolio, as we analyze delinquencies and deferrals as leading indicators of credit issues in this evolving environment.

Turning to Slide 11, average deposits were up nearly $190 million from the fourth quarter. The average deposit balance growth was driven by the First Staunton acquisition, which added about $440 million of deposits in mid-February. Our end-of-period balances increased nearly $1.9 billion, including $1.6 billion of low-cost demand and savings deposits that came later in the quarter as our customers built up cash. These inflows resulted in a beneficial mix shift and low-cost deposits made up 58% of our overall deposits at the end of the quarter.

Turning to Slide 12, the inflow of deposits has also enabled us to maintain strong liquidity. Our wholesale funding ratio has remained stable, demonstrating our continuing ability to fund most of our loans with deposits. While we expect to continue funding loans with deposits, we have $11 billion of wholesale funding available, including $6 billion of capacity at the FHLB in Chicago. These figures do not include the additional liquidity that’s available to us through the fed’s PPP lending facility. Our loan-to-deposit ratio was 95%, well within our historical range, which gives us flexibility to maintain deposit pricing discipline, and we expect to maintain this ratio below 100%.

Turning to Slide 13, our net interest income was $203 million, an increase of $3 million from the previous quarter, and our net interest margin was 2.84%, up 1 basis point from the fourth quarter. There were several factors that drove the modest increase in NII and NIM. On the asset side, 1 month LIBOR remained significantly elevated over fed fund rates, particularly in March, positively impacting CRE and commercial and business lending yields. This benefit was offset by a decrease in long-term interest rates, resulting in elevated refinancing in the residential mortgage book and the payoff of higher coupon loans in March. Additionally, this increased prepayment rate drove accelerated recognition of deferred origination costs, further reducing our mortgage yield.

On the liability side, our total interest-bearing deposit costs decreased 19 basis points as we reduced pricing across our full suite of deposit products. Total interest-bearing liabilities decreased 17 basis points aided by a beneficial mix shift toward low-cost deposits and reduced wholesale funding costs. These factors were most pronounced in March, resulting in a NIM for 2.89% for that month.

Looking ahead, we expect the commercial loan yields will continue to benefit from elevated LIBOR rates in April and at least somewhat into May. We anticipate the LIBOR fed fund spread will normalize later in 2020 as economic conditions become less uncertain. We also expect our deposit cost to continue to decline in the second quarter as we benefit from CD runoff and a full quarter impact from our reduced pricing, and would note that our month-to-date April cost of interest-bearing deposits is already running at approximately 36 basis points.

Turning to Slide 14, first quarter noninterest income of $98 million was up $5 million from the last quarter and up $7 million year-over-year. Our insurance income was seasonally higher as we received property and casualty contingency fees in the quarter. And our capital markets groups saw revenue lifts driven by market volatility. We also benefited from $15 million of gross mortgage banking revenue in the first quarter, but that was partially offset by a $9 million MSR impairment resulting in $6 million of net mortgage banking income. However, most other fee categories were softer in Q1 due to — due in part to our COVID-19 Relief Program and lower market levels, impacting assets under management and investment activity. These declines in other fee categories were largely offset by net gains resulting — realized on the further sell-down of prepayment sensitive mortgage-backed securities.

Moving to Slide 15, noninterest expense of $192 million was down $11 million from the fourth quarter. This decrease was primarily due to lower personnel costs as we have reduced expected incentive compensation, had less hiring in response to the current environment and are seeing the benefits of the restructuring done in the fourth quarter. Business development and advertising costs were $2 million lower during the quarter due to less business travel and the planned reduction of advertising spend. Technology costs also decreased $2 million from the reduction of third party consultants, which took place at the end of last year.

Turning to Slide 16, we look at our customer activity. As you’d expect, branch traffic is down since the pandemic began, with April branch transactions about 17% lower than January. We also saw a 32% drop in ATM transactions for the same time period as our customers increasingly chose to stay home. However, with the significant investments we’ve made in digital technology over the last several years, our customers were able to shift their activity from our branches to online and mobile. We saw an 86% uptick in mobile sessions since January and an increase in the use of our uOpen application, which allows customers to open accounts online or from their mobile devices. Call center volume has also increased 32% as we moved communications with our customers into nonbranch channels.

As shown on Slide 17, our regulatory capital levels remain strong, and we have sufficient capital to support further loan growth if our customers continue to seek liquidity. CET1 was 9.36% at the end of the first quarter, and we anticipate it will build through the remainder of 2020. We repurchased $71 million of common stock in the quarter, but suspended our repurchase program on March 13. We expect our repurchase program to remain suspended for the remainder of the year.

On Slide 18, we discuss our outlook. Given the extraordinary economic uncertainty, our previous quantitative guidance should no longer be relied upon. However, we’d like to provide more general expectations for the remainder of the year. While we have ample liquidity and funding sources, we expect to be able to fund loan growth with deposit growth and expect our loan-to-deposit ratio will remain under 100%. Given the lack of attractive investments for our portfolio, we’re now targeting and investments to total assets ratio of 15%. We expect our mortgage banking business to continue to do well, but it will likely be offset by lower service charges as we provide relief to our customers. We will also face headwinds in wealth management due to lower market valuations. We often speak about costs as being one factor that we control. We will continue our disciplined approach and expect our expense run rate for the rest of the year to be in line with that of the first quarter. As mentioned, we suspended our stock repurchase program on March 13 and expect it will remain suspended for the remainder of the year as we build capital.

With that, we’d be happy to take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Casey Haire from Jefferies.

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Casey Haire, Jefferies LLC, Research Division – VP & Equity Analyst [2]

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So I guess focusing first on the energy reserves to 17%, sounds like you guys do present to expect prolonged depressed pricing here. Can you just give us a little bit more color there? Can we expect more reserve build or do you feel like you have adequate reserves at 17%?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [3]

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Pat, do you want to take that question?

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Patrick E. Ahern, Associated Banc-Corp – Executive VP & Chief Credit Officer [4]

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Sure. So I think, in general, time will tell what we end up doing as the year goes on. We feel like we’re adequately reserved right now. However, with the kind of unprecedented environment we’re dealing with oil and gas, we’re going to follow this closely as we get into the second quarter. Right now, our oil and gas portfolio has been reduced almost 40% from a year ago. And as we mentioned, it now represents about less than 2% of the total portfolio. Now the portfolio, as it sits today, is about 60-40 oil to gas, and we feel good about the fact that about 70% of the portfolio is hedged for 2020 and almost 50% hedged for 2021. We’re just kind of starting into the spring redetermination season right now. We’ve got about 1/3 of our loans have been — we have got results on that redetermination. So we’re seeing some reductions in borrowing base of about almost 20% to 25%, and our average loan commitments have been reduced by about 20%. So…

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Casey Haire, Jefferies LLC, Research Division – VP & Equity Analyst [5]

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Okay, very good. And on the forbearance front, I think you mentioned are the deferrals, $733 million. Apologies, if I missed this in the script, but is that still trending up or has that stabilized? Just getting some color on the pace there.

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [6]

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There is more to come clearly. That’s — those are the deferrals that we’ve already granted. There is some more to come. They’re not going to go at the same pace. I wouldn’t think that we saw over this past 4 weeks or so.

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Casey Haire, Jefferies LLC, Research Division – VP & Equity Analyst [7]

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Okay, great. And then just a couple more follow-ups on the NIM. The LIBOR disconnect with fed funds, it sounds like you guys expect that to sort of normalize, I guess, a little bit towards the end of this quarter. Just what is sort of baked into your guide just for the quarter here, so we can just track that?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [8]

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Yes. So clearly, it was elevated in March. It stepped down. That delta, which was north of 80 basis points, stepped down to 60 basis points, and we have it stepping down. The long-term average is closer to an eighth. We’re not sure if that’s going to get to an eighth, necessarily much before the end of the year, but we certainly would see it getting down into that much narrower range as we move to the end of the third quarter.

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Casey Haire, Jefferies LLC, Research Division – VP & Equity Analyst [9]

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Okay. And just last one on the deposit cost at 57 in March. How much more room do you have going forward from that level?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [10]

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So we mentioned it fell into the 30s in April, and it will probably likely fall further slightly given CD rollovers and other repricing dynamics that will contribute to that. So probably will be, again, less than — it will be in the 30s in the second quarter and falling and likely less than that in the third quarter unless the environment shifts.

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Patrick E. Ahern, Associated Banc-Corp – Executive VP & Chief Credit Officer [11]

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And we slashed our deposit pricing at the same time that the fed took their last big whack at rates, and so you’ll see the full impact of that as we go through the quarter. But even as early as we are today in the second quarter, we’ve dropped another 20 basis points overall.

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Operator [12]

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And our next question comes from Scott Siefers from Piper Sandler.

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Robert Scott Siefers, Piper Sandler & Co., Research Division – MD & Senior Research Analyst [13]

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I guess first question I wanted to ask was on the reserve to sort of stress the losses. I think, Phil, you said 54%, which is obviously a pretty healthy number. I guess if I back into what the reserve is relative to the last time you guys said — publicly disclosed a stress test, it would have been closer to 55%. I mean also very healthy, but just curious if you guys can maybe walk through what has changed in either the portfolio complexion loss assumptions, what have you that would allow that reserve to kind of look better these days?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [14]

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Sure, Scott. So I think you can do the math and infer, yes, that our total stress losses in the severely adverse scenario from our last public disclosure to our last internal run did come down several hundred million dollars. The drivers of that, as Pat mentioned a little bit, in part were the more than $400 million reduction in the oil and gas book. And then the general mix of our portfolio, which has become more overall mortgage-centric, which has a lower loss content in our models in general and the continued low levels of risky asset classes in the severe scenarios, such as single-family construction lending or for-sale housing construction lending and condo-related activity. Now our models were obviously geared and tied to the realized outcomes of the prior results. So what will be the outcomes next time can shift, but based on the models that we’ve had, those numbers as we continue to mix the portfolio away from those higher risk classes and to steadier loan categories have moved the total expect loss — potential loss down, and obviously we moved the reserve up.

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Robert Scott Siefers, Piper Sandler & Co., Research Division – MD & Senior Research Analyst [15]

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Okay. Perfect. That’s good color, and I appreciate that. And then I just wanted to ask one question just on capital. So common equity Tier 1 is still very solid. And then I guess what’s a little unique about the way this cycle seems to be panning out is whereas TCE ratio was like the all-important ratio last time around, presumably this time it’s got to have much less weight given that you would get penalized on the TCE for PPP loans, but those are kind of invisible from the standpoint of regulatory ratios. I guess, in your guys’ mind, how does the TCE factor into your thinking and the way you sort of manage things this time around?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [16]

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Well, we’ve always said that we wanted to keep it at about 7 or above. And as you’ll recall, as we were building towards CECL implementation, it had run up. So we expected CECL. We had First Staunton coming. What we didn’t expect is to have $1.5 billion loans flow on to the balance sheet at the end of March. So that took it down to the 6.9% that you see. But if you exclude the PPP loans that will be sitting here, although they’re completely funded by the fed, it should creep up from here. With PPP, if you leave that in, of course, it will be lower, because we will end up with — we’ve got — I mean we have funded $900 million as we sit here today. We have about another $100 million in the queue, give or take, and we’ve opened up our inquiry page already in anticipation of Congress and the President signing the extension. So I don’t know where it will end up. It will be higher than where it is.

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Operator [17]

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And our next question is from Terry McEvoy from Stephens.

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Terence James McEvoy, Stephens Inc., Research Division – MD and Research Analyst [18]

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First off, I was wondering are you seeing and experiencing higher modification activity and drawdown activity among those commercial portfolios that you highlighted in the presentation today.

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [19]

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Sure. So the REITs have drawn their backup lines, as you know. I’m just trying to get to that page. It’s Page 8. So — yes, so the REITs have drawn and kind of just general C&I, not necessarily called out on Page 8, Terry, has drawn some. And of course, we had a run-up in mortgage warehouse, but that’s to be expected.

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Patrick E. Ahern, Associated Banc-Corp – Executive VP & Chief Credit Officer [20]

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So Terry, I guess I would add, and I apologize, I was looking at Page 6. To Phil’s comments just now, you can see the general commercial loans is where the draw and the mortgage warehouse and the REIT, that was all at the end of the quarter. And since then, which is what we try to highlight on the right-hand side of Page 6, we really haven’t seen incremental activity. So the drawdown and liquidity driven activity we saw in the last 3 weeks of March really abated when we moved past April 1, and we really haven’t seen any further of that activity here in the second quarter.

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Terence James McEvoy, Stephens Inc., Research Division – MD and Research Analyst [21]

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And then just as my follow-up question, do you have any sense for the average fee on your PPP loans? It looks like your kind of average size is skewed a little bit larger than others, which could impact that or would impact that fee?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [22]

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Yes. I think we’re figuring, it’s 3% plus. We’ve got a lot of smaller stuff in the queue. Like a lot of banks — I mean we process the loans on a first-come-first-serve basis, but a lot of larger companies with professional finance staffs were ready to go upfront. So it tended to skew larger at the beginning, and as we wound it down, leading up to the money running out, the loans tend to get much smaller. And what’s left in our queue and what’s coming in now tends to be smaller as well. So it will probably be like 3%-ish, 3% plus.

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Operator [23]

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And our next question is from Jon Arfstrom from RBC Capital Markets.

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Jon Glenn Arfstrom, RBC Capital Markets, Research Division – MD of Financial Services Equity Research [24]

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Back on Slide 6, just following up on Terry’s question. It’s probably a good sign that you haven’t seen more line draws in April. But curious, how long you expect some of those draws to hang around? Can we see those come back down? Any thoughts on that?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [25]

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Yes. We generally feel that a lot of these draws were just companies wanting to ensure their liquidity in the face of turmoil. So things haven’t calmed down yet. They’ve calmed down some. All of the fed actions have certainly helped a lot in the capital markets. So it’s very hard to predict what’s going to happen. But my guess would be that as this quarter rolls along and as things continue to stabilize, you’ll probably see some of this money come back just because people won’t necessarily feel like they’ve got to be sitting on a ton of cash. But again, it’s a little hard to predict. The fact that we didn’t continue to get draws past quarter end to any great degree, it feels like there was a little bit of window dressing going on for some of the folks who drew these funds.

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Jon Glenn Arfstrom, RBC Capital Markets, Research Division – MD of Financial Services Equity Research [26]

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Then on Slide 9, it’s a good slide. I haven’t seen CECL shown like this by category. I think I understand the moment of everything, but the 2 negative numbers, I’m assuming one is the length of loan and the other is prepayment driven. But can you just kind of address those 2 so we understand that?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [27]

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You are correct, Terry (sic) [Jon], in both cases. So in the day 1 CECL adoption, the negative in the commercial and business lending, excluding oil and gas, is adjusting for the fact that we have — tend to have considerably shorter loan terms, a lot 364-day-type facilities, et cetera. And therefore, our day 1 adoption was a reduction in the allocation of reserve to those, given the term-based nature of CECL. And similarly, but for different reasons, as we move through the quarter and refinance rates fell and therefore prepayment rates — expected prepayment rates increased the average life of the expected mortgages at the end of the quarter wasn’t — is expected to be shorter than it was at the beginning so that resulted in a net release in the mortgage line, which is why you had a net negative reserve build.

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Jon Glenn Arfstrom, RBC Capital Markets, Research Division – MD of Financial Services Equity Research [28]

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That helps. And then next one is, this is just trying to get this out to you Chris will be like trying to get the Packers draft pick early tonight. But second quarter loan loss provision, what are you watching — kind of what are the nuances for Associated, what are the things that might be a little different about how you will look at and think through the level necessary in terms of your second quarter provision?

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [29]

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Yes, it is going to be hard to get that. I’m on the Packers board. So I do know the draft pick, I can tell you if you really want it.

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Jon Glenn Arfstrom, RBC Capital Markets, Research Division – MD of Financial Services Equity Research [30]

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Kicker.

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [31]

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No, we need a new punter. Yes, obviously, we’re going to be looking at — well, let me think about that. So a lot like — let’s think about hotels. Almost all of that’s been deferred now. So that’s probably not going to drive much in the second quarter. A lot of our oil and gas build up, we use the probable troubled debt restructuring concept, which I don’t think a lot of banks have used as much, which was embedded in CECL. So if we go through continued redetermination periods, and we see continued market deterioration in collateral positions, you could end up with some more probable TDRs and CECL build there. What else would we be watching? Obviously, delinquencies and such that we haven’t deferred for one reason or another.

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Patrick E. Ahern, Associated Banc-Corp – Executive VP & Chief Credit Officer [32]

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And a change in the overall macro environment, right? So our view at the end of the quarter for CECL has a certain macroeconomic outlook. And in our internal discussions that had a fairly high and robust level of recessionary outcomes, 20-plus percent type — or 20% GDP-type drops, et cetera. And it’s plausible that 2.5 months from now that environment will either be perhaps different and more positive or possibly worse as we work our way there. Now I’ll remain optimistic and say, I’m hoping that things get better for the country and for all of us. In which case, I think there is room that the economic outlook is a positive in addition to the realized outcomes in our portfolio, either in oil and gas or hospitality or otherwise.

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [33]

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And last thing I would say is, it certainly is more likely than not that there’ll be reserve build in the second quarter, just given the environment here in the second quarter, the continued unemployment claims that we saw this morning, et cetera. But fortunately, PPNR looks pretty strong at the moment. So I think we’ve got plenty of ammunition for that.

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Operator [34]

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And our next question is from Michael Young with SunTrust Robinson Humphrey.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division – VP and Analyst [35]

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Wanted to first ask just on kind of balance sheet management and growth from here. How you’re thinking about that? Are you sort of hesitant to go out and make new loans to new customers at this point and really focus more internally? And how would you look at maybe mortgage in this environment, putting that on balance sheet versus selling?

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [36]

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Yes. So the first part of your question, Michael, we are absolutely here to support our customers’ needs, and we are well positioned to do that. We’ll continue to do it. The second piece, we are generally in a position where we’re going to move the flow of mortgages, and that’s what we’re doing now, off to Fannie or whomever. So we’re not putting a lot of mortgages on our balance sheet on purpose. That’s not necessarily because of the run-up in loan outstandings. It’s — a lot of it has to do with –you’re really not encouraged through the CECL methodology to build up a lot of mortgages on your own books. So we’ll be in the mode, generally speaking, of originating and selling those mortgages and retaining service, which has pretty much been our standard model.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division – VP and Analyst [37]

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Okay. So with higher prepayment speeds, maybe on the existing book on the — would you expect, I guess, those to — those balances to decline? And — or would you look to replace those to maintain, I guess, the overall weighting?

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [38]

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No. We — I would guess that our mix — I mean, our mix already shifted quite dramatically at the end of the first quarter. So I think you could expect the mix of our loan book to be less mortgage, more C&I, more CRE as the year progresses. So we’re not going to do anything extraordinary to maintain those mortgage balances because they’re being offset by other — by growth in other categories. And actually, strategically, we talked about this before that we felt like our mortgage book was creeping up to a too high of a level against our overall loan book. And as things have turned out, that’s changed rather more rapidly than we thought it would, and it will probably continue to evolve at a much slower pace throughout the year.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division – VP and Analyst [39]

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And one last one. Maybe just on loan to values. I think that’s something that a lot of other banks have brought up relative to their CRE book, and I guess trying to give confidence to investors that they don’t see a lot of loss content there. Do you have any of that level of disclosure, maybe by sector or anything like that?

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [40]

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Sure. I think the number that you’d be most interested in, if you go back to Slide 8, where you see our exposure to retailers, which is our largest sector of interest. The loan to values in the term book for retailers and most of it is term, is 57%.

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Michael Masters Young, SunTrust Robinson Humphrey, Inc., Research Division – VP and Analyst [41]

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Okay. And would that be consistent, though, with, I guess, other areas would be higher, maybe 70%, 75%? Any color is going to be…

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [42]

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Yes, it would depend very much on the individual categories. But on this page where we called out industries which have been impacted by COVID-19, which are 9% of our total loan book, almost 3% of that is in the category I just talked about. Obviously, retail REITs are a different animal because they’re all a basket of projects. So the LTV there isn’t as germane. Oil and gas depends on their REIT determinations, and then the rest of the exposures get pretty limited in a hurry. So we focused in on what’s the LTV on these retail-oriented commercial real estate projects, and it turns out it’s pretty reasonable.

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Operator [43]

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(Operator Instructions) Our next question is from Chris McGratty from KBW.

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Christopher Edward McGratty, Keefe, Bruyette, & Woods, Inc., Research Division – MD [44]

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Chris or Phil, just looking at Slide 18, the guide on the fee income. Isolating the mortgage component, can you provide a little more perspective on the magnitude of pressure from some of the actions you’re taking to waive fees and also kind of the market impact on your wealth business?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [45]

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Sure. So I mean the issue with wealth asset under management, we disclosed that number, and you can see it on Page 3. Wealth AUM came down by more than 15% from quarter — year-end to the end of the first quarter. So that will have a drag on those fees as we move through the year. Now some of those fees are on a lag, so they’ll basically take effect here in the second quarter based on the downdraft we saw in the first quarter. So it’s going to be an impact. With regard to the waivers and fee charges, we partially disclosed that on the slide with the dynamics we’re doing for our customers, and that’s already over [400,000]. And it will likely become more as we continue to go through the quarter. As was asked earlier, we would expect there to be probably additional requests for waivers and such over the course of the quarter, and so that will likely increase.

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Christopher J. Del Moral-Niles, Associated Banc-Corp – Executive VP & CFO [46]

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Now there is the potential that a lot of this, maybe all of it will be offset by the fees we ultimately collect from the PPP program depending on what those turn out to be. I mean they’re likely to be somewhere in the range, I’m guessing, of $30 million to $40 million fees that of course we haven’t — they weren’t even a figment of our imagination in the start of the year, so that should offset. I’m guessing quite a bit of our concern about wealth as well as some of the waivers.

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [47]

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Yes. And just for clarity, for geography, those fees will show up in net interest income over the course of the next 6 months. Likely assuming the loans come off, not in fees, just for clarity.

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Christopher Edward McGratty, Keefe, Bruyette, & Woods, Inc., Research Division – MD [48]

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Yes. Got it. Got it. Maybe one more, if I could. Phil, obviously, dividends are a big topic in Europe and making it way to the U.S. Your payout ratio is not glaringly — it’s about 60%. Just thoughts on dividend sustainability given the sharp change in the macro?

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [49]

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Sure. So I’ll give you the Jamie Dimon answer, which is we fully expect to continue to pay our dividend. We feel comfortable that we should be able to. But if we end up in a severe prolonged recession, almost anything is on the table for almost any company.

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Operator [50]

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And we have reached the end of our question-and-answer session. And I will now turn the call back over to Philip Flynn for closing remarks.

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Philip B. Flynn, Associated Banc-Corp – President, CEO & Director [51]

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Great. I appreciate you all joining us today. I do want to take a moment because I know a lot of my colleagues listen to this call to thank them for the extraordinary job you’ve all been doing during this difficult period. People have gone above and beyond whether it’s processing $2.5 billion, more than twice what we had this time last year from home, standing up the PPP program. 300 or 400 people spending enormous hours, including all night to get things through the SBA portal. It’s been an incredible effort by everybody, and I just want to tell everyone how much I appreciate it. I mean I just like to finish by saying that Associated remains strong and stands ready to help our customers through these challenges and to the recovery that is certain to follow.

So we look forward to talking with you all again in July. If you have any questions in the meantime, give us a call. And as always, thank you for your interest in Associated.

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Operator [52]

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This concludes today’s conference, and you may disconnect your lines at this time. Thank you for your participation.

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