Good afternoon, and welcome to the First Merchants Corporation Third Quarter 2012 Earnings Call and Webcast. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mr. Michael Rechin, Chief Executive Officer. Mr. Rechin, please go ahead.

Thank you, Amy, and welcome, everyone, to our earnings conference call and webcast for the third quarter ending September 30, 2012. Joining me, as usual, today are Mark Hardwick, our Chief Financial Officer; and John Martin, our Chief Credit Officer. Now the company released our earnings in a press release at 10:30 this morning, Eastern Daylight Savings Time, and our presentation speaks the material from that release. The directions that point to the webcast were also contained at the back of that release, and my comments begin on Slide 4, a slide titled Third Quarter 2012 Highlights. In the release, we reported third quarter 2012 earnings per share of $0.35 compared to a $0.25 loss during the same period in 2011. The income available to common shareholders totaled $10.1 million for the quarter, a $16.5 million increase over the third quarter of 2011. The loss in the third quarter of 2011 was the result of a $0.46 per share, onetime charge related to the corporation's exit of the treasury's CPP program. In Mark's comments, which follow, he'll cover a cleaner view of period-over-period results comparison that highlights the progress we've made. On the bottom of Page 4, several of the key performance improvements that drove our improved results. Top line in the box speaks to nearly $39 million of net loan growth, 5.5%; annualized, 1.4%. What we're finding is that we still have a deleveraging low level of demand consumer borrower with increased activity, but yet to have balances aggregate, while our commercial progress is really quite nice. Commercial loan balance is up 2.8% quarter-over-quarter, as highlighted in one of the detail slides of the press release, aggregating C&I lending, which was strong, investment real estate, agricultural lending and our construction portfolio. So while that rate of annualized growth, which is in excess of 10% on the commercial side, I don't know that that's sustainable. I'll cite later why we feel confident that our market coverage should continue to produce some net growth as we look forward into the fourth quarter in 2013. The remainder of the bulleted items on Page 4 speak to various income-statement-driven items. Mark will provide the detail on the net interest income and the net interest margin, both of which were positively impacted by discount accretion, but each of the them on top of a core margin level at a stable and healthy level. So at this point, I think, including some of the noninterest income categories, I'm going to go to Mark. But I think in summary of Page 4, I would say that we have a company with a growth direction, taking advantage of opportunities available to us, both in really healthy mortgage demand and the resources we've put in place to meet that demand and then treasury management fees and other items that have been able to grow at double-digit rates that aid that noninterest income, Mark. So if you'd pick up from here, I'd appreciate it.

Okay. Thank you, Mike. Again, we're pleased with our quarter, and we like the quality of our earnings, as well as the positioning of our balance sheet. As you can see on Slide 6, our demonstrated ability to grow portfolio loans for the fourth consecutive quarter on line 3 provides yield strength during this prolonged interest rate cycle, and our allowance for loan losses continues to strengthen relative to nonaccrual loans. The composition of our loan portfolio on Slide 7 is diversified, granular and allows for pricing power. The loan portfolio produced a 5.29% yield on loans for the quarter and 5.23% year-to-date. When adjusted for fair market value accretion year-to-date, our loan yields totaled 5.07%. We are particularly pleased with growth in C&I, as this category now totals 22.1% of total loans and has increased, from this time last year, by $74 million. On Slide 8, our $929 million bond portfolio continues to perform, while producing higher-than-average yields with a moderately longer duration than peer. Our 3.66% yield compares favorably with peer averages or approximately 2.95%, and our duration is just 8 months longer at 3.8 years. The net unrealized gain in the portfolio now totals $44.8 million. We have $42 million maturing throughout the remainder of 2012 with a yield of 3.31%, and $141 million that will mature in 2013 with a yield of 3.13%. As we complete our 2013 planning, this amount of appraising seems very manageable. Now turning to slide 9. Our nonmaturity deposits on line 1 did decline during the quarter, as public funds decreased by $54 million, accounting for the entire decline. These valuable deposits are seasonal, and we anticipate higher levels on deposits by year-end as property taxes are collected. Our broker deposits and Federal Home Loan Bank advances are being strategically used…

Okay. Thanks, Mark. And good afternoon, everyone. I'll be covering the asset quality, starting on Page 18, before moving to the allowance coverage and asset quality migration and then concluding with the portfolio trends and some several higher-level thoughts on the portfolio. So please turn to Page 18. Asset quality, the asset quality summary continues to show improvement. Nonaccruals on line 1 continue to decline, as we've been successful in our strategy of workout restructure throughout the year. Nonaccrual loans are down $6 million to $57 million from the quarter and down $13 million from the year from $70 million at the end of 2011. Other real estate owned has also declined on line 2, but at a slower pace, falling from $14.3 million to $13.8 million. The liquidation of ORE will -- continued to be an area of focus in the fourth quarter as we look to auction off or otherwise liquidate ORE. In total, we have roughly 50 properties with the 3 largest representing roughly 1/2 of the total of the $14 million. We saw an increase in 90 days past due on line 4 to $2 million, driving a trend with a deterioration in consumer loans for the quarter with a $1.1 million -- or with $1.1 million of the total $2 million resulting from consumer delinquency. We would expect to see this come down as these consumers' loans migrate to nonaccrual. And while I don't see this as a start of a trend, the consumer delinquency was the cause for the elevated 90-day delinquency at the end of the quarter. And finally, on Slide 18, both classified assets on line 8, otherwise categorized as those containing a well-defined weakness, and criticized assets on line 9 were those with both a potential or well-defined weakness, continue to…

Thank you, John. I'd like to offer some third quarter summary thoughts and an early look at our 2013 priorities, kind of speaking to Slide 24 and 25. On 24, in regard to our third quarter results, really pleased to see that our pipelines, which we've been tracking with increased effort, are moving on to the balance sheet, in almost all loan categories. Mike Stewart, our Chief Banking Officer, and our entire senior management team spent a lot of time refining our ability to measure early and advanced stage commercial and mortgage activity. And then, more recently, moving into retail statistics in the business banking group, adding accuracy to our ability to forecast revenue generation and anticipate the need for support resources. In the retail bank, somewhat of a similar improvement in the sharing of store level information that's consistent with producing a strong margin and consistent with providing alternatives and answers to a consumer-customer base, trying to maximize this low interest rate environment. The result of the enhanced management information and the communication around it produces an engaged team of associates focused on our marketplace. Another bullet point in that same section refers to our confidence in our reserve level vis-à-vis the risk in our portfolio. John and his team, as you heard in his comments, guide our underwriting and have led the strategy of individual loan outcomes that aggregate into our improving credit profile and managing down our credit cost volatility. Bottom of the page. We have some forward-looking comments on this slide. I think our signature advancement for our customers in the quarter was the upgrade and the launching of our new website on September 7. The site upgrade is intended to reduce clicks, improve access, quality of information to all of our clients. Our early feedbacks…

[Operator Instructions] Our first question is from Scott Siefers with Sandler O'Neill.

Mark, I guess this one's for you. I was just hoping -- and I appreciate the detail on the margin, kind of reported versus adjusted. Was just hoping you might share with us your expectations on where the core margin should trend. And if you could kind of venture a guess, the reported one, I guess. Maybe a good place to start is how much of the discount accretion came from faster prepayments versus what you might have expected. So just really any color you can provide and then the top couple of things you see impacting the margin as you look out.

Yes. Thanks, Scott. Just speaking to the core margin, as we have run our models, we're anticipating that next year, the 2013 numbers are somewhere in the mid-3.90%. So we expect some compression next year. But given the length of the portfolio, and actually, we're still modeling some continued reduction to the length of the bond portfolio, we're still modeling some reduction in our deposit expense. And we're able to still stay in the kind of mid-3.90% range. On the fair value accretion, we still have just a little over $15 million set aside against the loan portfolio. This particular quarter, the pay-downs, I've got my list here, they accounted for $1.9 million. So we had $2.6 million of fair value accretion in the quarter, and $1.9 million were from accelerated pay-downs, which is consistent with the second quarter that -- in terms of just the normal amortization cycles around $700,000 a quarter. So it's really the acceleration and pay-downs where we see the volatility. So -- but I'm not sure what to expect in terms of pay-downs as we move forward, but I would think that normal monthly amortization is in that $700,000 to $800,000 range.

Okay. That's perfect. I appreciate the color there. And then maybe second question for you, Mike, just as you look toward capital management. You made a couple of comments in your prepared remarks about looking at SBLF and repayment alternatives as you look into next year. What would be your ideal manner of repaying? Would it be kind of an all-at-once or over-time? How are you thinking about it?

At this point, the over-time approach looks clearly more attractive to us because it allows us to take advantage of that capital we're generating at the bank, that we can quickly get to the holding company for -- as a source of repayment. And so the program is designed with kind of a minimum repayment of 25%. And so we're targeting that here in our near-term plans. And then with the idea that, should our performance continue at the same level, that we would have the ability internally to take another swing at that before the end of 2013. At the same time, as you have seen, there've been a number of pretty attractively-priced capital transactions for banks a little bit larger than ours. But it clearly makes evaluating and acceleration of that worth spending some time on. But in the near term, that 25% repayment seems something we can get done on our own.

Okay. Perfect. And then I guess just last question on your closing slide, as you look to next year, is the top box about growing revenue. On the one hand, the industry, including you guys, have a lot of challenges, meaning kind of margin compression in the next year or mortgage may be coming down. But you guys' loan numbers, I hear recently, you've held up pretty well. It sounds like you have a couple other points of flexibility in the hopper. Do you feel like next year, you will -- you'll be able to post higher revenue relative to 2012? Or how are you thinking about that dynamic?

Well, on -- if you put the discount accretion to the side in terms of the core business, yes, I think we can grow at a low single-digit rate that bakes in not only the mid-level single-digit decline in our core net interest margin that Mark highlighted, coupled with loan growth. I was trying to say, and I'll say it again, that a 10.5% annualized commercial loan growth, which was third -- second to third quarter, it would probably not be in our plan. I mean, we have a very risk-adjusted appetite that I don't think would allow for that level of growth. But we have a full expectation that every market we're in will grow to some level. Our market coverage is really pretty strong at this point. We have experienced management running every market we have, and I referenced some talent additions that would come both in business banking, which is just beginning to get the traction that we hoped when we put it together, both in its sales force and its product suite. And so in combination, yes, we think that the commercial side will grow at a mid single-digit level and produce revenue growth. Hidden in our service charges, while overdraft fees continued to struggle from the time the regulations changed, are -- is a treasury management sales line that really grows to offset that. It's obviously sold by our commercial sales force. So it's another reason we're optimistic.

Our next question is from Stephen Geyen with Stifel, Nicolaus.

Mike, maybe a question for you. The pipeline, you've given us some good metrics in the past. I'm just curious if you could kind of run through kind of what you're seeing right now in the pipeline as far as the consumer loans and commercial loans. And then maybe also some thoughts on what you're hearing feedback from customers as far as whether they're putting off investment for the time being or if they're going ahead with those investments that they have planned earlier or kind of their outlook for -- over the next 3 to 6 months?

Sure. I think I get all your question. The quantitative part of it, on the front end, around backlog detail, pipeline detail, I'm happy to provide. I've done it in the past. I mentioned in my remarks that Mike Stewart is gaining confidence in the precision of those numbers, which is why we've been sharing them. And so our third quarter, so this would not be pipeline, but the activity that produced the third quarter balance sheet, as you might guess by the magnitude of the growth, was pretty strong. We closed significantly more loans in mortgage, in retail, in business banking and in commercial banking. We closed almost 25% more loans. If you look forward from a pipeline standpoint, mortgages ought to have a big fourth quarter. I mean, the mortgage business all summer, right up through September, and best we can tell based on what our October closings have been is going to be very strong. And so that pipeline is up. It was over $100 million at the end of the second quarter. It's more like $125 million today. The retail pipeline, again, that's probably been the softest spot within the overall portfolio. The turn time is quicker, as you know, from origination to close, so the pipeline never gets all that large, but it's down from $8.5 million to just under $8 million. The commercial side, which just drove the third quarter results, the pipeline itself is overall down relative to the end of the last quarter, but it's still at a pretty healthy level. And it's pleasing to me that it's geographically dispersed. So that while Indianapolis and Columbus are strong, the balance of the franchise, Lafayette in particular, really picking up. So we're excited about that. The real estate appetite is that we're allowed to have based from the fact that our balance sheet was not out of balance relative to product type, is allowing us to be selective in terms of structure and get paid for the use of the capacity. So -- and then lastly, business banking, again, smaller dollar size, ticket, growing sales force, increasing use of our traction, that pipeline was $4.1 million. At the end of June, it's almost twice that, it's about $7.5 million. So kind of encouraging, but the biggest part of that commercial, modestly down, which is why I'm guarded as to how much net growth will pick up fourth quarter or through next year.

Okay. That's great color. And maybe a question for you, Mark. You gave 1 large -- 1 yield that I was particularly interested in, the loan yield, core yield, I think, was 5.07% this quarter. Just curious what it was last quarter and then also kind of what you're seeing in the market as well as far as the pressure in the...

What was the last part of that question?

I'm sorry?

What was the last part of that question? The core...

Yes. The core yield, loan yield, I think, was 5.07% is what you gave. And I'm just curious what it was last quarter. And then also just kind of your thoughts on what the -- where you're seeing -- where the market is going right now, and where you're seeing the pressure.

The year-to-date loan yield, I don't have the quarter specifically, as of June 30, was right at 5.15%. So we have some pressure year-to-date. And so the core is down a little from there this quarter. And then the second half of that question, I'm sorry.

Yes, the second half of the question. This is Mike again, Steve. The highest-caliber borrower is getting just outstandingly competitive, meaning low rates. The syndicated market that you might see independent statistics on kind of the same story, if you get an implied credit-rating borrower. For the most part, that is not our borrower, which is why the diminution of our yield is probably slower than companies bigger than ours. And so to that really desirable top-flight borrower, exceedingly competitive, which makes you bundle your services to get a wind that has a meaningful return to you. But for our core borrower, kind of that million-dollar borrower and below, I -- it's still my belief that the speed and high-quality attention allow you to be paid fairly.

Okay. Perfect. And earning assets, they were relatively flat quarter-to-quarter. It looks like the loan growth was funded via cash flows from the securities portfolio. Is that something that's likely to continue in the absence of deposit growth?

It is. We are -- as we're looking at our planning with investment portfolio opportunity, the yields on new investments being so low, we are looking to use the bond portfolio to fund some of that loan growth, with the only maybe caveat there is that we're continuing to look at asset sensitivity and make sure, where appropriate, that we're extending our liabilities to pay for some of the loan growth as well. So when you model higher interest rates, it protects us a little better than using the bond portfolio.

Our next question is from John Barber with KBW.

John, you mentioned that I think 3 of the OREO properties comprise 1/2 of the total OREO balance. Just wondering how long have those properties been in OREO.

I know -- and I have to reduce without a net here, but I -- 1 property is just a little bit over a year. 1 property is probably closer to 3, 3.5 years. And I think the third one was also in the year-ish range.

And just on the nonaccrual inflows, the $8.3 million, was there anything of size?

No. For the most part, it was pretty granular. I think the largest one was just north of $1 million, and then it flowed down from there. Yes, the largest one was in that $1 million range.

And Mark, you detailed the maturity to securities portfolio next year. I think you said it was $141 million. Just curious what you're buying and if you're looking to maintain the current 3.8 year duration of the portfolio.

Yes. The duration is going to stay around 4. I don't really see much that we're willing to do that's longer on the curve that would push the overall duration higher. And by policy, we're limited to 5 years. So a few municipals, but most of what we're doing, we're looking for cash flow that would perform in our favor in a rising interest rate environment.

And just the last one I had, the non-owner occupied CRE portfolio is the largest component of the total portfolio. Just wondering, is there a size that you'd like to keep it below in the context of the total portfolio? Or how are you thinking about it?

Yes. We -- for CRE -- investment CRE, we've modeled it out, and I think it's -- generally, we look at as a percentage of capital, and we want to keep it between the 200% -- in the 200% to 250% range.

Our next question is from Brian Martin with FIG Partners.

Say, the -- Mark, I guess, can you talk about where is -- did you guys send money up from the bank this quarter to parent, and just kind of where parent company cash is? And just of kind of your thought as far as -- I mean, do you think you can repay the SBLF with internal funds without going to the market in some capacity? I guess, just talk about your thought on how you proceed with maybe after you get done with the first swing at it, as far as maybe reducing it 25%.

Yes. We have $32 million in parent company cash today. The 25% piece of the SBLF would be 22.5%. And we think that maintaining around 10 -- a little over $10 million is a prudent place to be relative to parent company liquidity, just so that we have that service coverage over a couple year period. The earnings of the bank are over $40 million right now on an annualized basis. And we're really anticipating next year that we're going to be aggressive in terms of upstreaming virtually all of the bank's earnings to the holding company to create flexibility. So I think we have the ability to take a couple of bites of SBLF out of just pure cash flow as we move through 2000 -- the remainder of this year and 2013. But we are absolutely evaluating the debt market to subdebt and senior markets to determine if there might be a time that accelerating that repayment would make sense.

Okay. All right. That's helpful. And just the -- you talked about maybe just kind of that -- the funding of the loan growth with the bond book. I guess, is that -- is there a minimum level you take the securities portfolio to, I guess, you want to maintain?

Well, through next year, we didn't see that we're going to push it to a level that gets concerning from a loan-to-asset ratio perspective. But we're $940 million. We entered the cycle around $600 million. And for us to be more like $700 million, $750 million would probably be a more optimal balance sheet when it comes to just pure earnings power. So when we look at our balance sheet today, we feel like we have excess liquidity in the bond portfolio. We have access to liquidity through CDs, where we have not been aggressive with pricing. And we've paid off, so it's a significant amount of our Federal Home Loan Bank advances and borrowings. So we feel like we have the -- not to mention our -- just our ability to grow core deposits. So I feel like we have an amount of dry powder that allows us to continue growing the balance sheet in a really sustainable, manageable way into the future.

Okay. That's helpful. And then just lastly, just from a -- you talked a little bit about the capital plans and kind of what your expectations are. I mean, what the M&A market -- I guess, what -- maybe it's more for Mike, maybe just what you've seen of late as far as opportunities, if there's more, if there's less, or kind of what your expectations are, just kind of in the market for the consolidation maybe over the next 6 to 12, 18 months?

Well, the larger picture on that question, Brian, I'm not that -- I'm not familiar enough to answer because our universe, in terms of interest, is a dozen to a dozen and a half institutions, either in our state or directly contiguous. But we think we would do a very nice job both in terms of having the management that could help run it and a cost takeout that would allow us to provide a price that we thought added value to a seller. So we're going to try and stay as disciplined as possible. We like our organic plan. And as I said, probably have a dozen to a dozen and a half companies that we're trying to maintain dialogue with in the hopes that we can either make timing happen or be there when timing is right.

Okay. And then have you seen any pickup in, I guess, sellers coming to you, or has it been about the same, I guess, with opportunities, or really no change from the last few years?

I'd say no change from anytime earlier this year.

Our final question is from Daniel Cardenas with Raymond James.

Just a couple quick questions here. On the lending side, the loans that you have lost, have those losses been due more to rate, or is it a structural change at -- or on [ph] structure, I mean...

I think I would answer it by saying yes. I mean, we've lost from both categories. But primarily, when that -- on the larger high-quality deals, there are rates that do become unattractive for us to participate. But primarily, I would say it's the structural side that we walk away and not interested.

Okay. And then most of the growth that we saw in this quarter, was that throughout the entire footprint, or was it primarily Indianapolis-focused?

I would say that on an absolute dollar figure, it's probably more in Indianapolis, but it's pretty well spread out, and it includes Columbus, Ohio as well.

We had our best quarter in net loan growth in Columbus in a couple years. And as I mentioned, pipeline-wise, we've had a strong year in Lafayette throughout the year, and that's where the pipeline has held up the best as the closings have taken place. So it's kind of nicely spread throughout the company.

Excellent. And it's primarily market share grab, I take it?

It is, yes.

Great. And then in terms of potential key additions and you're talking in key markets, I mean, are you primarily Columbus, Lafayette and Indi?

The business banking, which was launched with the majority of the talent in Indianapolis, now we're trying to broaden out a little bit to other markets where we think the retail system would drive loan demand. So looking at Muncie and looking at Lafayette in the business banking sector is kind of the increasing direction. But for the middle-market bankers, which I think speaks to the spirit of your question, until we see that we can't add quality people and see pretty near-term return, Columbus and Indianapolis will probably gain the most salespeople.

Okay. And then does it become easier to track talent? I mean, we've seen some steady -- good steady improvement in operating fundamentals. Has that been made it easier for you to go out and attract what you want?

In terms of good bankers, understanding the First Merchants story and our ability to succeed, yes, I would agree with you, that's gotten marginally easier. To the extent that there is seasonality in it, it's probably tougher in that if you're a good banker working at a good institution today and you've had a successful year, you probably want to stay until the end of the year to see what that could mean for you. But the thing I'm pleased about when we're talking to bankers to join our company, it's typically known individuals that our story has appealed to them over some longer period of time, and they finally get the courage to come work with us.

This concludes our question-and-answer session. I would like to turn the conference back over to Mr. Rechin for any closing comments.

Amy, thank you very much. I really have no closing comments. I appreciate the quality of the questions and the attention. Look forward to talking to you late January regarding the closure of our 2012 results. Thank you.

The conference has now concluded. Thank you for attending today's presentation. Please disconnect your lines.