First Merchants Corporation

Thank you for standing by and welcome to the First Merchants Corporation third quarter 2024 earnings conference call. Before we begin, management would like to remind you that today's call contains forward-looking statements with respect to the future performance and financial condition of First Merchants Corporation that involves risks and uncertainties.

Further information is contained within the press release.

which we encourage you to review. Additionally, management may refer to non-GAAP measures, which are intended to supplement but not substitute for the most directly comparable GAAP measures. The press release available on the website contains financial and other quantitative information to be discussed today, as well as a reconciliation of GAAP to non-GAAP measures. As a reminder, today's call is being recorded. I will now turn the conference over to Mr. Mark Hardwick, CEO. Mr. Hardwick, you may begin.

Good morning, and welcome to First Merchant's third quarter 2024 conference call. Thanks for the introductions and for covering the forward-looking statement on page two. We released our earnings today at approximately 8 a.m. Eastern Time, and you can access the slides by following the link on the third page of our earnings release. On page three of our slides, you will see today's presenters and our bios, including President Mike Stewart, Chief Credit Officer John Martin, and Chief Financial Officer Michelle Kevieski. We are pleased with our third quarter results and the focused momentum that we are building. The pending sale of five non-core Illinois branches, restructuring of the securities portfolio, and successful completion of our four major technology initiatives provide us with the opportunity to reprioritize our core markets and introduce innovative customer acquisition strategies. We are well positioned for organic growth in 2025 and any well-priced inorganic growth opportunity that may be available in the future. On page four, we have a few financial highlights for the quarter, including $18.3 billion of total assets, $12.7 billion of total loans, 14.4 billion of total deposits, and 5.6 billion of assets under advisement. Our map also highlights the five Chicago area branches we announced we were selling in August. We expect that transaction to close in December of this year, and we now have regulatory approval. On slide five, you can see earnings per share for the quarter totaled 84 cents or 95 cents per share after adjusting for a $9.1 million loss we recorded from a third quarter sale of securities. We are anticipating a $20 to $25 million gain on the sale of our Chicagoland branches in the fourth quarter, and we took advantage of favorable market conditions to restructure a small portion of the securities portfolio. We plan to use the remainder of the gain in the fourth quarter to support additional balance sheet restructuring that we believe will position us for higher earnings in the future. Our tangible common equity ratio has continued to build and is now 8.76%. Third quarter tangible book value per share, which is reported on slide 11, was $26.64 per share and has increased by $4.21 per share, or 19% over the last 12 months. and $7.38 per share, or 38% over the last two years. Adjusted net interest margin also improved by seven basis points, Q3 over Q2, and helped drive PPNR growth, which supported a sub-55% efficiency ratio for the quarter. Earnings per share for the nine months ended September 30, 2024, totaled $2.31 per share, or $2.48 per share, when adjusted for the loss from the sales securities. Now, Mike Stewart will discuss our line of business momentum. Mike?

Yeah, thank you, Mark, and good morning to all. Our business strategy summarized on slide six remains unchanged. We are a commercially focused organization across all these business segments and our primary markets of Indiana, Michigan, and Ohio. Throughout 2024, we have remained focused on building earnings momentum by executing our strategic imperatives of organic loan, deposit, fee income growth, and increasing market share by engaging, rewarding, and retaining our teammates and investing in the technology platforms of our delivery channel. And as Mark noted on the prior slide, we have now completed all four of our major technology initiatives. We have upgraded our digital channels in our consumer, commercial, and private wealth segments, which is essentially touching our entire client base. Therefore, we have improved client experiences and enhanced tools for our sales teams to leverage as we grow the fee-based businesses and compete for a larger share of wallets. So let's turn to slide seven. The third quarter continues the choppy trend of loan growth we have experienced the past year. Total loans grew 0.5% on an annualized basis during the quarter, which followed last quarter's 6% growth. Year-to-date, total loans have grown at an annualized rate of 1.9%. The $9.6 billion commercial segment was essentially flat during the third quarter. But within this segment, the CNI portfolio continues to be the primary driver of our growth, growing 1%. Last quarter, the CNI portfolio grew at nearly 13%. And year-to-date, CNI has grown over 250 million, or nearly 4.5% annualized. The CNI growth has been shared across all the regions, with Indiana, Michigan, and our sponsor teams driving the bulk of the increase. The strong CNI growth has been offset by the contraction within the investment real estate portfolio. The stabilization of construction projects has continued, and our clients have chosen to either sell their projects, which has taken advantage of attractive cap rates, or they've refinanced their projects into the permanent market, they can take advantage of the low long-term interest rates. The investment real estate portfolio has declined over 11% throughout 2024, which is nearly $150 million. During the third quarter, the decline slowed to just over $20 million, and as I highlighted last quarter, I believe the investment real estate portfolio is close to or at its bottom of footings. Why? Because new project financings are at healthy levels. The investment real estate team continues to win mandates for future multifamily, industrial, and warehouse construction projects, and our clients continue to appreciate our consistent approach to underwriting through cycles and our record of successful syndications. Our commercial focus has always been the primary driver of our balance sheet growth, and the commercial and industrial sector is our largest portfolio. CNI comprises 50% of our total loan portfolio and two-thirds of our commercial portfolio. The business owners within our markets continue to execute their operating plans with growing working capital, equipment, or acquisition needs. and our commercial bankers continue to support these companies not only with capital solutions, but also with treasury solutions. Overall, we continue to gain market share with existing and new clients. Those two attributes, organic growth and market share growth, are the primary drivers of our balance sheet. Continued growth expectations are supported by the fourth bullet point, strong pipelines for both CNI and investment real estate ending at very strong levels. The consumer portfolio is comprised of residential, mortgage, HELOC, installment, and private banking relationships. During the third quarter, the consumer portfolio grew more than 1.5% with the private banking and HELOC portfolios as the primary drivers of that increase. As noted, the consumer loan pipeline remains strong heading into the fourth quarter with mortgage up over 15% at the end of June and more than double from the beginning of the year. Let's turn to slide eight and a few comments on deposits. The story of this slide is mix and managing deposit costs. Michelle will be reviewing the improvement of our net interest margin And this slide represents the work our teams have accomplished in managing and building core deposit relationships while reducing deposit costs on public funds and time deposit categories. For the quarter, total deposits grew at a 2.3% annualized rate, while for the full year, our total deposits have declined by only 1.5%. The commercial segment grew deposits during the quarter after a reduction of over $170 million of public fund balances. Public funds are one of our highest cost depository categories and have been a focus of our efforts to both balance relationship strategy with our pricing tiers. Overall, I am pleased with the growth of the non-public fund balances within the commercial segment, which is approximately $255 million. We also continued our pricing discipline within our consumer segment, specifically time deposits. We began to reduce our money markets and CD specials while reducing the tenors of new CDs earlier this year. The consumer deposit decline during the quarter was primarily within the time deposit category. And as noted by the last bullet point, we expect 50% of the time deposits that will reprice in the fourth quarter to be at lower rates than the current weighted average rate. So for the year, total consumer deposit balances are essentially flat. Overall, I am pleased with the active management our teams are having with their clients. Stable loan yields and reducing deposit costs should continue to build the earnings momentum of our balance sheet. I will turn the call over to you, Michelle, and you can review more in detail the composition of our balance sheet and the drivers of our income statement.

Thanks, Mike. Slide 9 covers our third quarter performance. Net interest income on line 11 has grown for the second straight quarter with an increase of $2.5 million sequentially. Non-interest income on line 13 was reduced by the $9.1 million loss on bond sales that Mark mentioned earlier, and when normalized for that loss, totaled $34 million, also reflecting an increase for the second straight quarter. As a result, pre-tax pre-provision earnings grew linked quarter by nearly $2 million, totaling $70.5 million, reflecting strong core franchise performance. Slide 10 shows year-to-date results with pre-tax pre-provision earnings totaling $199.3 million. Tangible book value per share of $26.64 benefited from strong earnings and AOCI recapture, resulting in an increase of $4.21, or 19% compared to the same period of prior year, and an increase of $7.38 over the same period of 2022. Slide 11 shows details of our investment portfolio. The available for sale securities we sold had a book value of $158.9 million and were sold for a loss of $9.1 million. The bonds had a weighted average yield of 2.85% and an average life of 5.6 years. We took the opportunity to reposition the securities portfolio in anticipation of the gain expected in the fourth quarter from the sale of our Illinois branches expected to close in December. Expected cash flows from scheduled principal, interest payments, and bond maturities in the next 12 months totals $298 million with a roll-off yield of approximately 2.28%, which will have a positive impact on our overall portfolio yield along with the sale of lower-yielding securities. Slide 12 shows some details of our loan portfolio. The loan portfolio yield increased meaningfully by 14 basis points to 6.86%. New and renewed loans, albeit a little lower than last quarter, were still at a respectable 7.7% yield. The bottom right shows that two-thirds of our loan portfolio is variable rate. As the Fed cuts rates, the repricing of our variable rate portfolio is certainly a headwind, but the new loan yield, along with the fixed rate loan repricing, should help offset the impact in the near term. The allowance for credit losses is shown on slide 13. This quarter, we recorded net charge-offs of 6.7 million, which was offset by provision for credit losses on loans of 5 million, resulting in a reserve at quarter end of $187.8 million with a coverage ratio of 1.48%. In addition to the ACL, we have $18.8 million of remaining fair value marks on acquired loans. When including those marks, our coverage ratio is 1.63%. Overall, we are still more than adequately reserved for our allowance, and it remains well above peer levels. Slide 14 shows details of our deposit portfolio. The total cost of deposits was relatively flat, increasing by just three basis points to 2.69% this quarter. Deposits included in the sale of the Illinois branches of $287.7 million were reclassed to held for sale, causing the decline in total deposits, given they are not reflected in the total deposit balance at quarter end. When normalizing for the reclass, deposits grew organically 83.7 million or 2.3% annualized linked quarter. Slide 15, net interest income on a fully taxed equivalent basis of 137 million increased 2.6 million from prior quarter. This was driven by earning asset yields shown on line four, which increased 13 basis points linked quarter, outpacing funding costs on line five, which increased six basis points. The result was a meaningful expansion of stated net interest margin of seven basis points and an increase of 13 basis points from the first quarter. Next, slide 16 shows the details of non-interest income. Non-interest income totaled $24.9 million, and when normalized for the realized loss on securities, was $34 million, an increase of $2.6 million, or 8.4% over prior quarter. Customer-related fees increased $2 million, primarily reflecting higher gains on sales of mortgage loans. Mortgage production was slightly lower than last quarter, but produced more saleable loans, driving the increase in mortgage gains. We expect mortgage gains to be lower in Q4 due to seasonality, given activity tends to slow a bit around the holidays. Included in non-customer related income was a $1.5 million bully claim. Even when excluding that bully gain, our non-interest income results were slightly above the guidance we provided last quarter. Moving to slide 17, non-interest expense for the quarter totaled $94.6 million, an increase of $3.2 million over prior quarter. Workforce cost increase driven by higher incentive accruals due to better quarterly performance. Slide 18 shows our capital ratios. We continue to have a strong capital position with common equity tier one climbing to 11.25% this quarter. The tangible common equity ratio increased 49 basis points due to strong earnings and improvement in the valuation of the available-for-sale securities portfolio reflected in AOCI. That concludes my remarks, and I will now turn it over to our Chief Credit Officer, John Martin, to discuss asset quality.

Thanks, Michelle, and good morning. My remarks start on slide 19. I'll begin by highlighting loan portfolio growth, touch on the updated insight slides, review asset quality and the non-performing asset roll forward, before turning the call back over to Mark. Turning to slide 19, we had continued strong commercial and industrial loan growth. shown on lines 1 and 2 that was offset by the continued decline in construction and CRE, not owner-occupied, or investment real estate on lines 4 and 5. Our C&I growth came primarily from new loans rather than increased line utilization. This quarter, we saw some leveling of the construction portfolio on line 4 with the mini-perm and permanent portfolio on line 5 down $70 million. As mentioned in prior calls, our investment real estate strategy is to provide construction finance through stabilization with many perm financing options. This can lead to changes between the two categories. We continue to remain well below the regulatory CRE concentration levels and remain active in new originations, despite softer demand resulting from elevated interest rates. Our loan portfolio insights on slides 20 and 21 are intended to provide transparency into the portfolio. As mentioned on prior calls, the CNI classification shown on slide 20 includes sponsor finance as well as owner-occupied CRE. 21% of our CNI loans support manufacturing businesses, Our current line utilization decreased for the quarter after three consecutive quarters of increase from 45.3 to 45%, although balance has still increased roughly $15 million on higher commitments of roughly $65 million. We participate in roughly $887 million of shared national credits across various industries. These are generally relationships where we have access to management and revenue opportunities that go beyond the credit exposure. In the sponsor finance portfolio, I've highlighted key credit portfolio metrics. There are 89 platform companies with 51 active sponsors and assortment of industries. 66% have a fixed charge coverage ratio of greater than 1.5 times on Q2 borrower information. This portfolio generally consists of single bank deals for platform companies of private equity firms as opposed to large widely syndicated leverage loans from money center bank trading desks. We review the individual relationships quarterly for changes in borrower condition, including leverage and cash flow. On slide 21, we break out the investment or non owner occupied commercial real estate portfolio. Our office loans are detailed on the bottom half of the slide and represent only 2.1% of total loans with the highest concentration outside of general office in the medical office space. The wheel chart on the bottom right details office portfolio maturities. Loans maturing in less than a year represent 14.4% of the portfolio or $37.5 million. The office portfolio is well diversified by tenant type and geographic mix. We continue to periodically review our larger office borrowers and view the exposure as reasonably mitigated through a combination of loan to value, guarantees, tenant mix, and other considerations. On slide 22, I highlight this quarter's asset quality trends and position. Non-accrual loans were down $2.8 million, while 90 days past due loans saw a significant increase, resulting from a $13 million matured relationship. The relationship was renewed shortly after quarter end, bringing $13 million of the $14.1 million in 90 days past due current. Net charge-offs were $6.7 million for the quarter, resulting largely from a $5.6 million charge-off related to the second quarter trucking company loss. We continue to liquidate the remaining exposure and expect to have the relationship largely resolved by the end of the fourth quarter. Then moving to slide 23, I've again rolled forward the mitigate or migration of non-performing loans. charge-offs, ORE, and 90 days past due. For the quarter, we added non-accrual loans on line two of $13.2 million, a reduction from payoffs or changes in accrual status of $7.9 million on line three, and a reduction from gross charge-offs of $7.6 million. Dropping down to line 11, 90-day delinquent loans increased $12.4 million due to the matured and renewed relationship resulting in NPAs and 90-day delinquent loans ending the quarter at $78.4 million. So to summarize, C&I growth was good for the quarter. Commercial real estate continues to refinance and pay off with construction lending balances leveling and asset quality stabilizing after further digesting last quarter's loss. I appreciate your attention. I'll turn the call back over to Mark Hardwick.

Thanks, John.

Turning to slide 24, the 10-year compounded annual growth rate of our earnings per share totals 10.2%, and it's helped support the 8.7% growth rate that we've seen in tangible book value per share. Slide 25 shows our total asset CAGR of 12% during the last 10 years and highlights meaningful acquisitions that have materially added to our footprint and fuel our growth. There are no changes in slide 26 as we continue to live out both our vision and strategic imperative. So, in summary, we're very pleased with the growth that we've seen in capital and tangible book value per share, which has resumed to its historical trajectory of up and to the right. We're also optimistic about the momentum we're seeing in our performance, thanks in part to active deposit and interest rate management. Our net interest margin is expanding. and we feel we have the opportunity to outperform expectations into the foreseeable future. Thanks for your attention and your investment in First Merchants, and at this point, we're happy to take questions.

Certainly. At this time, if you would like to ask a question, please press star 1-1 on your telephone and wait for your name to be announced. To withdraw your question, please press star 1-1 again. One moment, please, for our first question. And our first question comes from the line of Terry McEvoy with Stevens.

Hi. Good morning, everybody. Maybe if I could start with a question for Michelle. When you think about 2025 and net interest income, do you think the positive impact from the security sales, both that just occurred and the one you talked about in the fourth quarter, will that offset the impact of lower interest rates in terms of keeping net interest income flat to possibly higher next year?

Well, you know, we're still doing our budgeting for 2025, and so I'll be able to give you some better guidance on the January call for 2025. But, you know, even though aside from the restructuring, the portfolio restructuring, you know, as we've talked about in a declining rate environment, we historically do see a few basis points of margin compression for each quarter point reduction that the Fed is from the Fed, given that we're asset sensitive. But, you know, In the down rate environment, we stay focused on growing net interest income and keeping that momentum going even if net interest margin declines. Our loan yields have always demonstrated, I think, some good pricing discipline. And regardless of the environment, we think we'll be able to continue to deliver on that performance. The bond restructuring, it certainly does help margin, although we're selling some deposits that have a lower rate. The bonds that we've sold had a yield of 285, and so that certainly will have a positive impact on margin. It does put a bit of pressure on net interest income, but when you look at the sale as a whole, we also have some cost savings from it. And so I think overall, financially, it's really pretty – the sale is pretty neutral. I think from looking at line to line, there's some puts and takes, but – Really, when we decided to sell those branches, that wasn't really just a short-term financial play. It was really more a long-term strategic decision.

Michelle, I'd love to just add, Terry, that the bond sale that we actually did was really late in the quarter. I was proud of the margin enhancement that we saw this quarter that came from actions that we really have been taking inside the existing book. And so I'm just pleased that all the effort that we're putting into deposit pricing and loan yields has resulted two quarters in a row in an increasing margin. And then just the longer-term strategy of being out of Illinois, I feel like you have to have significant share to make a difference. And it was a market where we felt like we were just subscale. And we had to kind of go one direction or the other. And so really pleased that we found a great partner and were able to liquidate those locations and deposits in a way that I think will be good for them and good for first merchants.

Agreed. And maybe, Mark, could you just expand on the comment in the release? And you mentioned it earlier on the completion of the technology initiatives, reprioritization of core markets, and new kind of customer acquisition strategies. What area of the banks are you talking about? And maybe as an outsider, what type of metrics can we look at over the next several years to kind of see that progression and growth that you're hinting at there?

Yeah, thanks for asking. Mike touched on some of it because it's already happening. in his comments, but if you think about the rollout of Terafino, which was an in-branch account opening platform where we reduced our time to open an account from, you know, call it 45 minutes to about 10 minutes or less, and the deployment of Q2 where we have better online and mobile technology for our customers, we're just reprioritizing and refocusing primacy and and making sure that we're growing core deposit accounts. And when you think about core accounts, they're typically less expensive because it's more of their operating account than excess funds where people are trying to get the best yield possible. And so we're kind of deprioritizing and reprioritizing the focus on our lesser expensive deposit categories. Seems kind of logical. But not spending as much time in the public fund space or on CDs and specials around money markets. What we're really trying to drive this business towards and forward with are real core primacy deposit accounts. So those are three of the four digital technologies that we rolled out. Q2 for both consumer and commercial. So we're calling that two. Terafina for in-branch. And the last item is the SS&C platform that we purchased, which is called InnoTrust and Black Diamond for a private wealth business. And we just think our private wealth business still has significant upside growth potential where we can look for parity across all markets. And we have a really significant presence in our Indiana marketplace with our private wealth business. Not as much in Detroit. In the Detroit MSA, Level One didn't have a private wealth business. Monroe Bank did, which we're trying to leverage into the entire Michigan market. And then Columbus, Ohio as well. So we feel like we now have a tech platform. that really customers are demanding in 2024. And so we're excited about the ability to continue to grow that fee income and reprioritizing the business in a way that's a little bit different because we have something better to sell.

Great. Thanks for all that, Mark. And John, just a real quick one for you. The liquidation of the trucking relationship in the fourth quarter, any sense for what that charge off could look like just to kind of frame up expectations when we're all talking three months from now.

Yeah, you know, we've got less than $4 million still outstanding related to the relationship and You know, we've got a specific reserve assigned to that relationship at the end of the quarter of roughly a million dollars. You know, we continue to work through auctions and, you know, the sale process. It will be somewhere probably between that $1 million and $2 million mark.

And I would just add, because I know we've had separate conversations with investors that, and last quarter, we really felt like we had the loss behind us. And as we were working through the liquidation process, We just have not been able to achieve the valuations that we were originally expecting.

Understood. Thanks, everyone.

Thanks, Terry. Thank you. And our next question comes from the line of Nathan Race with Piper Sandler.

Hi, everyone. Good morning. Thanks for taking the questions.

Hi, Nathan.

Question for Mike or John, perhaps. Just curious how you guys are thinking about loan growth in the fourth quarter. Mike, I think you mentioned the CNI and investor commercial real estate pipelines are strong heading into 4Q, but just curious how you think all that's going to translate into kind of loan growth into 4Q and just any maybe initial thoughts on loan growth expectations in 2025. Sure. Yeah, to Mike.

Yeah, I think when I'm looking at the pipeline reports, and as a matter of fact, I'm looking at results through October already, it continues to see the positive side of my comment around choppiness. So growth is in the CNI. So I think that's going to be in the fourth quarter in the solid outcome, that mid single digits. Investment real estate, our production is still really strong today. But the production are on new projects, right? New projects are typically construction, and the equity goes in first, so the draws come in later. So that's what I'm trying to forecast or really get my hand on is when is the footing is really going to be at its bottom as payoffs from really good projects hit the secondary market that we originated two, two and a half years ago. So I think that we're going to continue to see a little bit more decline in our outstandings of real estate offset by growth. within the commercial CNI segment continuing in the fourth. And then in 2025, I really feel like the ad outlook still should be in that mid digits. Is that helpful? I mean, the mortgage portfolio probably stays pretty flat growing because of the activity that goes on there because we do use our balance sheet on construction and construction

purchases when they make sense with our private wealth groups. Nate, we have historically said mid to high single digits and over the last quarter or two have been talking about more mid single digits like 5% or 6%. Mostly, as Mike mentioned, because of some of the investment real estate paydowns, it has made it a little more difficult for us to be as bullish when you start thinking about trying to get to a 7%, 8%, or 9% level.

Got it. That's helpful and understandable. Michelle, maybe just think about the margin outlook for the fourth quarter. Obviously, a number of dynamics at play with the securities portfolio repositioning. And perhaps maybe we get two more 25 basis point Fed cuts. So just curious how you're thinking about the margin trajectory in the 4Q, particularly just given that you guys really managed deposit costs well in the third quarter. Excuse me.

Yeah, we do plan to continue to be proactive in managing our deposit costs as the Fed cuts rates with the intention of really driving stability in the NIM. So, you know, a stable NIM is internally what we're expecting, and I think that bond sale will be supportive of that as well.

And some of those CD pricing, that's a big part of our portfolio.

Yeah, and perhaps assuming we get maybe more of a gradual Fed cutting cycle into next year, Do you think some of the kind of static impacts to your balance sheet from a margin perspective can be offset by just continued growth as we discussed previously just now?

I do. Yeah, and I'm really hopeful that the Fed takes a more measured approach. You know, the more measured or – I guess, time they put in between rate cuts certainly helps us manage margin. The more aggressive they are, kind of one back-to-back-to-back, it makes it a little more difficult to manage the deposit costs. But if things settle in where we do have rate cuts, but they're not quite as aggressive as we were thinking a couple of months ago, it does help us.

Okay, perfect. And then maybe a question for John. I'm just curious if you can shed any more light on the increase in classified loans.

Yeah, sure. Nate, you know, I did an analysis. Obviously, it was up for the quarter. And, you know, we were at a historical, you know, low point for us anyway. When you look at, you know, some of the results we've had kind of leading into the run up in interest rates. The areas that it really came into was the investment real estate area. We've got a couple of larger projects, $10, $15 million that have been impacted by the higher rates. And honestly, it's distributed between that and some pressure in the CNI portfolio as well with higher rates. You know, we've got a number of names that have come in for the quarter, and then it's just, you know, a lot of smaller names that are being affected. So, you know, from my perspective, I look at it and I feel good about, you know, where that level is at this point. It's just, you know, higher rates have slowed things down.

Got it. Maybe one last one from me. I was a little surprised to see the shared national credit balances up about 7% compared to last quarter. I'm curious if those are deals that you guys are agenting or just any other color on that growth in 3Q.

Yeah, we don't agent many shared national credits. Those are generally the relationships that we're picking up in our footprint that have locations that we participate with a lead bank and are trying to get at other ancillary revenue.

I might add into that, Nathan, we really formalized a dedicated team we called Upper Middle Markets. that's focusing on that segment in Ohio, Indiana, and Michigan. So we have direct calling efforts on companies of size where we can have access to the management and then look at their capital structure and then what John said, then backfill with other relationship strategies. So it's direct calling and active in our markets.

Okay, great. Very helpful. Thank you for all the color. I'll step back.

Thanks, Nate.

Thank you. And our next question comes from the line of Damon Del Monte with KBW.

Hey, good morning, everyone. Hope you're all doing well today. Just want to start off with, good morning, Mark. Start off for a question probably for Michelle on expenses and kind of the outlook here going into the fourth quarter and kind of how 25 is shaping up. Any guidance here, what to expect there in the fourth quarter?

I think for the fourth quarter, I would expect this quarter's expense level probably to be a good rate to use. You know, for 2025, like I mentioned to Terry, we're in our planning right now, and so we'll probably be able to give you a little bit more guidance on what to expect for 2025 in our January call.

Gotcha. Okay. And then similarly on the fee income side, you know, if you back out the securities loss and the BOLI gain, I think you're kind of close to $32.5 million. on an operating basis. Obviously, you commented mortgage banking will probably come down a little bit for seasonality. But outside of that, do you feel comfortable with the other trends?

Yeah, I do. I think the different pieces that you've highlighted to back off of are the right ones. And so I think in the last quarter, the guidance that I gave for the back half of 2024 was that it would be somewhere between that 30 to 32 range. And I think that's still probably a reasonable expectation, and that sounds like that's where you're landing.

Okay, great. And then just lastly, just to circle back on the credit and the trucking relationship, so it sounds like you'll need to provide a little bit more for the remaining charge-offs there. Is that what I should take away from that, John?

I don't know about, I'm not going to speak to the provision expense because it'll depend on what happens within the portfolio and other relationships, other names. I'm just simply saying that we've got a specific reserve at a million dollars and depending on where we end the quarter, we'll drive whether we need to replace that or not.

And that specific assumes that we're going to cover whatever loss we have and it's already provided for. So we'll We'll learn more, but we think we're in a good spot. And, Damon, I wanted to jump in just a minute about the expense level as well. You know, it's just on my mind how focused we are on delivering high-performance growth, you know, growth and high performance in 2025. And I look at our company post-VRIP. We had a voluntary early retirement that we did in the fourth quarter of last year. that's got about a year's worth of age on it. And we've done some restructuring of the company because of it that has all settled in. We've completed these four major tech initiatives. And the focus of our executive management team is about driving results from here. You know, we had a handful of items we wanted to do that we thought were worth the investment that would make First Merchants a better company. And they have been incredibly distracting. They require a ton of time and energy, but our customers deserve it and the future of the bank deserves it. But as we're putting together our plan for next year, Michelle talks about sharing more information later and expectations that this quarter is a good run rate to think about. And our focus is on maintaining this expense level and driving results into 2025. Got it.

Appreciate that, Culler. That's all that I had. Thank you.

Thanks, Damon.

Our next question comes from the line of Daniel Tomeo with Raymond James.

Thank you for the questions. Good afternoon, everyone. Maybe just a question on capital. Obviously, you have the impact from the restructuring in the third quarter and then potentially in the fourth quarter as well, but I think you were considering a sub-debt redemption in January. Just curious kind of how you're thinking about any potential deployment here in the near term of capital.

Our sub-debt has been fully redeemed.

Sorry about that. Yeah, no, we do have a piece of sub-debt that we got from level one, from a level one acquisition. Yeah, that is still outstanding. All right.

Yeah, our view is to, we're not in a capital building mode. Our view is to make sure we're optimizing our capital. Really glad to see that it's increased from the kind of mid-7s to over 8%. And we want to deploy the capital and growth in our balance sheet, and ideally some cash that may be involved in M&A if the right transaction comes our way. And if not, then I'd like to be active in buybacks and make sure that we're putting the capital to work versus sitting on it into the future.

Is there a line in terms of, from a buyback perspective, in terms of valuation that you wouldn't go over or you'd rather run at a reasonable capital level?

No, I just think about historical trading levels. I mean, it's interesting today, and I'll show a little frustration, that we're a growing business. We've produced a return on assets that adjusted for the one-time sale of bonds. We're at a 123, and we're trading at less than 10 times, slightly less than 10 times forward earnings and 135 a book. And those levels are materially below our historical averages. And if that's the case, then I want to be active in supporting the purchase of our shares. It isn't our highest priority. I'd rather use the capital to grow our balance sheet and to add customers to our company. And I'd love to think about cash in an acquisition that we would be excited about that was appropriately priced. But if it isn't, we're going to be active in supporting the stock when we're trading at these kind of levels. Just, and being above 8% TC is the number that I'm the most focused on.

Okay. Well, thanks for all that color. All my other questions have been answered. Thanks, Danny.

And our next question comes from the line of Brendan Nozzle with Havde Group.

Hey, good morning, folks. Hope you're doing well.

Thanks, Brendan.

Just one for me here. Most of us have been asked and answered. Just on the M&A question, it clearly sounds like there's an appetite and an ability to do deals with capital. I'm just kind of curious what your read of the environment is today, the pace of conversations, and then just refresh us on what you're seeking in a potential partner, whether it's geography, size, range, financial metrics, things like that. Thank you.

Yeah, I've said this multiple times, so it's probably going to sound like a repeat. I'm interested in banks that are in Indiana, Ohio, and Michigan that are less than 25% of our assets. Most of the time, they're challenged as it relates to growth and efficiency, and they may have an executive that is looking forward or looking towards retirement. And and I'm interested if we're trading at a level that allows us to win that transaction and to solve all three of those challenges where post consolidation, we have enough cost takeout that it becomes highly efficient that I feel like it's a market. We can add resources to start growing the bank, mostly on the commercial and private wealth side and where we think we have the leadership to, to, to, either leverage the existing leadership in the bank, number two or number three, or we feel like we have someone inside our company that can step in and help provide the leadership in that marketplace. So that tends to be our focus. I'm very aware that with our stock at the levels I just mentioned, it makes M&A more challenging. And so today's comments about M&A and capital use isn't as if we have something already lined up. That is not the case. But we are positioned for our next acquisition. We have all of our tech projects behind us. We have a really capable, talented team. And we have a number of banks that we're interested in. And we'll see if those happen or not. If they don't, we're going to stay focused on performing organically.

All right. Well, that's great color, Mark. Thanks for taking the question.

Thank you, Brendan. Thank you. And our next question comes from the line of Nathan Race with Piper Sandler.

Yeah. Thank you for taking the follow-ups. Just a couple of housekeeping questions. Michelle, can you help us with the impact intangibles with the grand sale planned in the fourth quarter?

If you're referring to any impact on goodwill, we don't have any impact.

Okay. Great. And then just any thoughts on the tax rate going forward?

Yeah, in fact, this quarter's tax rate, I think, I would expect it to be between 13-14% on a go-forward basis.

Perfect. Thank you for taking the follow-ups.

All right, you're welcome.

Thank you. And our next question comes from the line of Brian Martin with Danny.

Hey, good afternoon, everyone. Hi, Brian. Maybe just a question for Mike. Maybe you mentioned this earlier, Mike, but in terms of with the rate, just the rate down move here, in talking about the real estate, have you seen any pickup in the pipeline on that because of the rates going down and the outlook that there's more rate cuts coming here? And if you said that, I apologize.

Well, I didn't associate it with rate cuts. Our If you will, our production of new real estate opportunities are typically in the construction. And what's been happening through the course of the year, this is a very high level of production for us. So when we work with our tier one developers, and they're primarily focused on multifamily, affordable housing, warehouse, et cetera, they've built out their capital stacks at the prevailing rates with understanding their cost structure. So those are moving through. And therefore, a rate reduction that just happened might put projects that weren't penciling out, so to speak, back into play, and we might continue to see good activity if it makes sense. A rate reduction also probably helps some real estate and or CNI, where John talked about some assets that might be struggling with some rate increases. A rate reduction would help those assets perform through a cycle. So it's both. Is that helpful?

Yeah, no, that's perfect. So, I guess, see if there's any, you know, I guess, green shoots if you're seeing, you know, a couple banks that kind of mentioned that, that were seeing that. So, okay. And then, secondly, maybe just, Michelle, you mentioned on the margin or, you know, dollars of NII. Did you mention, I guess, what was your expectation that NII is up in 25 versus 24, or did you not say that? Maybe I missed what you were saying there.

Yeah, we're expecting to grow net interest income on a go-forward basis.

In 25. Okay, that's what I thought. Thank you. And then maybe just one last one for John. John, I know you mentioned the substandard or the classified levels. Any indication of what you're seeing in special mention in terms of directionally in the quarter? Was that consistent with a decline, an increase?

Yeah, so it was, you know, the criticized and classifieds, they have a tendency to move somewhat in tandem. It did move up, but at a slower rate.

Gotcha. Okay. All right, and then maybe just the last one. Mark, you alluded to the fact, I mean, it's the first time I've heard you talk about M&A in a long time on the, you know, I guess in your opening remarks, but just in terms of, you know, the dialogue today, I guess, I understand your comments about the, you know, the stock price and, you know, where the benefits are in terms of buying back stock. But I guess is it, would you characterize this year as being more likely, you know, that you're given all the technology projects, the building capital that, you know, it's more likely, you know, you know, the next 12 to 18 months that we'd see first merchants be able to execute on, on something based on the conversations, or is that unfair read based on, you know, uh, what we're hearing today?

Yeah, I don't know. It takes a willing seller. And, um, We are in a great position internally to tackle an acquisition like I described. Sellers, it seems like the conversations are healthy and active, but my take is that most feel they're better off waiting until the Fed has completed their rate reduction cycle. And I think some of that is they'd love to get whatever accretion back into their capital numbers that will just naturally come out of rate reductions. And so I would anticipate there's a little more activity post-fed rate reductions. Gotcha.

Okay. Well, it's good to see you guys in a great position, and congrats on the nice quarter, guys. Thanks.

Thank you, Brian.

Thank you. Thank you. And I'm showing no further questions. So with that, I'll hand the call back over to CEO Mark Hardwick for any closing remarks.

Well, thank you. I enjoyed the Q&A today. You guys ask great questions, and it gives us a chance to share our passion for the business beyond just our written comments. So thank you for your investment. We're excited about the future, and we've got a team, 2,100 people strong that are actively working getting after our vision statement of enhancing the financial wellness of the diverse communities we serve and our tagline of helping you prosper. And we're making a difference in our communities. We're excited about it. So thank you for your investment.

This concludes today's conference. Thank you for your participation and have a great day. You may now disconnect.