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TCF Financial Corporation (NYSE:TCB)

Q4 2012 Earnings Call

January 30, 2013, 9:00 a.m. ET

Executives

Jason Korstange - Director, Corporate Communications

William A. Cooper - Chairman and CEO

Craig R. Dahl - Vice Chairman and EVP, Lending

Michael Scott Jones - EVP and CFO

Thomas F. Jasper - Vice Chairman and EVP, Funding, Operations & Finance

Barry N. Winslow - Vice Chairman, Corporate Development

Earl D. Stratton - EVP and COO

Analysts

Jon Arfstrom - RBC Capital Markets

Emlen Harmon - Jefferies & Company, Inc.

Stephen Scinicariello - UBS Securities

Paul Miller – FBR

Nick Karzon – Credit Suisse

Ken Zurbe – Morgan Stanley

Chris McGratty – KBW, Inc.

Kevin Barker – Compass Point

Andrew Marquardt - Evercore Partners Inc

Stephen Geyen - Stifel Nicolaus & Co.

Operator

Good morning, and welcome to TCF’s 2012 Year-End and Fourth Quarter Earnings Call. My name is Faron, I’ll be your conference operator today. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. (Operator Instructions).

At this time, I’d like to introduce Mr. Jason Korstange, Director of TCF Corporate Communications to begin the conference call. Please go ahead sir.

Jason Korstange 

Good morning. William Cooper, Chairman and CEO will host this conference. Joining Mr. Cooper will be Mr. Barry Winslow, Vice Chairman of Corporate Development; Tom Jasper, Vice Chairman of Funding, Operations and Finance; Mr. Craig Dahl, Vice Chairman of Lending; Mr. Mike Jones, Chief Financial Officer; and Mr. Earl Stratton, Chief Operations Officer.

During this presentation, we may make projections and other forward-looking statements regarding future events towards the future financial performance of the Company. We caution you that such statements are predictions, and that actual events or results may differ materially.

Please see the forward-looking statement disclosure contained in our 2012 year-end and fourth quarter earnings release for more information about risks and uncertainties which may affect us. The information we will provide today is accurate as of December 31, 2012, and we undertake no duty to update the information.

During our remarks today we will be referencing a slide presentation that is available on the Investor Relations section of TCF's website ir.tcfbank.com. On today’s call Mr. Cooper will give begin with 2012 and fourth quarter highlights, Craig Dahl will then provide an overview of lending, Mike Jones will discuss credit and expense, Mr. Tom Jasper will review deposits, fee regeneration and capital. Mr. Cooper will wrap up with a summary and then we will open up for questions.

I will now turn the conference call over to TCF Chairman and CEO, William Cooper.

William A. Cooper 

Thank you, Jason. TCF had a pretty good fourth quarter and an eventful year. The net income recorded was 23.6 million, or $0.15 per share. That $0.15 per share is after a $0.06 per-share charge associated with a civil money penalty in connection with BSA.

Net interest margin remained strong at 4.79%, that’s one of the highest in our peers. That’s up 87 basis points from the fourth quarter last year. Our pre-provision profit of 87.2 million, was up 3.5% from the fourth quarter of 2011.

Deposits increased 1.7 million or 13.7% from a year ago. We had net growth in checking accounts for the second consecutive quarter, which is ratifying our strategy of pricing in our new checking products.

We had gains – core gains on sale of auto loans and commercial and consumer real estate, 6.9 million, and almost a million in the quarter and we completed $100 million stock offering in the quarter.

Credit quality continued to improve. We continue to be opportunistic of what’s happening with credit. Non-performing assets were 476 million, that’s down 65.8 million from the third quarter. Our provision expense was 48.5 million, and that’s down 47.8 million from the third quarter, which contained at bankruptcy adjustment, which was a change from prior quarters on consumer loans.

Net charge-offs were 45.5 million, that’s down 58.9 million with the same situation there. We recognized that civil money penalty that I mentioned of $10 million, which had a $0.06 per share impact on the quarter. We had previously disclosed we were going to have that penalty and we were able to book that up and put it behind us in the fourth quarter.

Something other of note that occurred in the quarter is Supervalu where we have supermarket branches in announced a definitive agreement to sell five of its retail grocery chain, including the Jewel-Osco. That has no impact on our grocery stores, and Cub, and we’re opportunistic that it won’t really have a significant impact on – we’ll maintain our good relationship that we have with Supervalu in connection with our Jewel operations.

For 2012, overall, we – of course, early in the year had our big restructuring where we canceled long-term high-cost debt and shrank our investment portfolio at a gain. That has become clearer and clearer a good trade as interest rates have stayed low, and TCF has endured a significantly improved net interest margin over that time.

For the year, our net interest margin is 465, that’s up 66 basis points from 2011. Total loans and leases, 15.4 billion, that’s a 9% increase. For prior year deposits, 13.2 billion, an increase of 10% from a year ago. The consumer real estate over 60 day delinquencies are now down 19% from a year ago, which is very good news. Total regulatory classified assets are down $198 million, almost 40% from a year ago; again, very good news.

Real estate owned is down 38 million, or down 28% from a year ago. We did three successful capital issuances, which has significantly improved our capital position and we stand with very strong capital at the end of the year.

We’ve had good strong revenue growth, which is impacted by that restructuring we did in the beginning of the year, which is significantly improved our net interest margin. We’ve also had – we’ve had some negative impact because of continuing lower interest rates, which has put compression on rates of dual-loans originated. But even with that, we’ve been able to maintain one of the highest, and steady high on net interest margins in the banking business.

Service charge income has improved considerably, and has shown real opportunistic signs going into the future, and we’ve developed a revenue of sources on the sale of our new auto loan portfolio and our consumer loan origination of home equity loans of taking gains on the sale of those portfolios.

TCF’s – when you compare us to our peers, the thing that really breaks out clearly is that we have a much higher, stronger net interest income. If you look at it as a percentage of total assets, we’re at 432 as compared to 323 for the nine months of our peers. We have strong key income at 215 as compared to 125 of our peers, and adjusted revenue of almost 650 as compared to 450 for our peers.

So TCF continues to be a revenue generator, a strong revenue generator. Our pre-tax, pre-provision profit of almost 2% far exceeds our peers at 1.62%. The reasons for those strong numbers is our stronger net interest margin. We have a higher yield on our loans, a higher yield in our securities, and a lower cost in our deposits. And we have a higher percentage of our assets in loans, and lower in securities, which tend to have a lower yield.

Basically, TCF is a more traditional bank in connection with – it funds its loans with deposits, and doesn’t have particularly large securities portfolio. We maintain securities for liquidity purposes, largely.

With that I’ll turn it over to Craig, to talk about loans.

Craig Dahl

Thank you, Bill. Here’s the lending portfolio at December of 2012 compared to December of 2011. I think there’s two accomplishments here to note. We have 9% growth year-over-year, even with 800 million of loan sales during the year. And we’ve continued to lessen our reliance on our consumer real estate, which ended the year at 43% of our portfolio mix, down from 49% at year-end 2011.

Also, with the $30 million of gains, you can see the benefit of our sales strategy. Now our sales strategy is primarily centered around three things, managing credit risk, managing credit and geographic concentrations, and creating fee income to assist in the ramp-up of the infrastructure of our growth businesses.

Turning to page 9. As far as originations, this is another good story. This is the significant increase in originations. And while it’s led by inventory finance and auto finance, all of our lending businesses are up year-over-year. And the benefit of our new programs at inventory finance, and the new categories in auto finance, means that we remain disciplined in our legacy businesses. We did not push for growth in those other businesses. And as you can see, we ended the year at 15.4 billion with 10.6 billion of new originations.

Turning to page 10, which is sort of our yield tracking, going back for each quarter, back from fourth quarter ’11 through fourth quarter ’12. Now there is the reality of the low interest rate environment, but you can see that we had only a five basis point decline in lending yields in the last two quarters of the year. And we do not feel that we have to fight it out only in our core markets due to our diversification of asset classes, and our good geographic mix.

And with that I’ll turn it over to Mike Jones.

Michael Jones

Thanks, Craig. Turning to slide 11 on credit quality. We’re seeing some encouraging signs around credit quality with some of the macroeconomic factors in our markets getting better, specifically on the consumer residential side.

From the [inaudible] data, all of our major markets, home prices were positive year-over-year for the month of November and all of our markets showed improvements over the three-month period, except Chicago, which was down about 3.5%.

Turning to our specific portfolio, the leading indicator for our consumer portfolio, delinquency continues to improve, decreasing 4.4 million or 4.7% on a lending-quarter basis. Net charge-offs were down 40.8 million from the third quarter, mainly due to the impact of the adoption of the bankruptcy-related guidance in the third quarter.

If you exclude the bankruptcy-related guidance, net charge-offs have actually decreased in the last five quarters.

Non-performing assets also decreased in the consumer portfolio as the velocity of sales activity increased greatly in the quarter.

We believe that we have our problem loans and our commercial fence post in, and in the fourth quarter we continue to make progress on that portfolio with both net charge-offs and non-performing assets down from the third quarter 59% and 24% respectively.

Our national lending businesses continued their credit performance within the fourth quarter and year-to-date with net charge-offs at 18 and 26 basis points respectively. TCF has and will continue to benefit from this strong credit performance.

With that, turning to core operating expenses on slide 12. Expenses within the quarter were impacted by several one-time items including the previously-disclosed civil money penalty, as well as several other much smaller items, including an adjustment to benefit expense related to pension accounting.

As many of you are aware, last year we adopted the preferred accounting method for pension accounting, where we account for changes and pension assumptions within the year that they occurred, and that negatively impacted the quarter. Additionally, in the other one-time expenses includes previously-disclosed severance expense.

Backing out these one-time expenses, total core expenses increased about 6 million for the quarter, mainly due to growth in our revenue-producing national lending businesses, as well as commission expense related to our strong origination quarter, as well as our strong leasing revenue within the quarter.

We would expect to grow revenue in to this expense base during 2013.

And with that, I’ll turn it over to Tom Jasper, to talk about the funding side of the business.

Tom Jasper

Thanks, Mike. If you turn to page 13, this is a view of our fee generation, net of our marketing expenses. So what we’re listing here is the combined quarterly totals for fee and service charges, card revenue and ATM revenue.

And you can see from third quarter to fourth quarter, that number was flat, which we view as a positive due to the traditional seasonal decreases that we see around fee revenue and related to activity. That’s generally a decrease from third quarter to fourth quarter. So we’re able to keep that number flat, and the marketing, you can see that our marketing is kind of flat lined in to about a $5 million number. And that’s down from previous quarters.

As we talked about, when we went back to Free Checking, we reintroduced Free Checking to focus on quality relationships, not just the volume of sales. And those sales in the past were impacted by our offering of a premium between $100 and $150 to open the account.

So I would say for the second half of 2012 that we’re very satisfied with our checking results. And also, just create the expectation that on a go-forward basis, we expect to build this net fee income in future quarters in consideration of seasonal changes through quality account net growth, and new product initiatives.

In the fourth quarter we see a decrease related to third quarter, and generally in the first quarter we see a decrease related from the fourth quarter. So we expect some seasonal down-swings from fourth quarter to first quarter, and then we expect that to increase in second quarter and third quarter of 2013.

Turning to page 14. Talking about deposit generation as previously discussed by Bill, we did see strong deposit growth in the year, almost 1.6 or $1.7 billion in growth, while the average cost of our deposits remained flat at 32 basis points from quarter end 2011 to quarter end 2012.

From a checking perspective, we saw great production in the second half of the year. We grew the same number of net accounts in the fourth quarter as we did in the third quarter, and that’s generally a positive because of the impact of a slow December where checking account growth is generally difficult to come by.

We’ve seen positive impact from our CD initiatives throughout the year. In the fourth quarter, that was particularly true, and we saw a good portion of the balances, about 50% of the new CD balances were coming from new relationships, which gives us an opportunity to expand those relationships in to other products, and 50% of the balances coming from existing relationships with our current customers.

We’re going to continue to focus on new product initiatives, focusing on our channel initiatives around various aspects of how we have relationships with our customers through our contact center, the call center, as well as our online and mobile platforms.

Turning to page 15. We did have activity as it relates to capital during the quarter. Earlier in the year, we raised $172 million and preferred it 7.5%. In the fourth quarter, we had a preferred issuance of $100 million, with almost 100 basis point difference between our issuance from earlier in the year. And you can see the impact that that had in the bottom three numbers listed on page 15, around our capital and the increases that we’ve seen, or that you see from quarter-to-quarter in our capital of ratios.

We continue – we expect to continue to build capital through retained earnings on a go-forward basis. And as the Basel III Notice of Proposed Rulemaking becomes more clear, we’ll take action accordingly if needed.

With that, I’ll turn the call back off to Bill Cooper.

William Cooper

All in all, 2012, I believe, pretty much achieved all of our goals. We reorganized the bank in to a functional structure, which I think has paid excellent dividends. Credit quality has continually improve. We have – virtually we’ve had almost no significant charge-offs on loans made after January of 2010. Our credit quality continues to improve.

If you look at TCF’s core operations, our pre-provision, pre-tax profitability is among the strongest in the industry. What’s been holding back our numbers is provision for loan losses, primarily in the consumer home equity side, which is a big portfolio with TCF. That has continued to improve and we’re seeing real good signs that it’s going to continue to improve through the balance of the year.

The acquisition of Gateway has proceeded exactly on plan. We’ve seen strong originations, we’ve been able to continue to sell off the lower credit quality portfolio at gains. The credit is tracking exactly on plan as we had expected. It turned profitable in the – during the year, and was profitable for the year, which is better than planned. And we expect to see good strong origination, control origination, with the same kind of structure going into next year.

Our investment in inventory finance has really paid off, where we’ve had significant growth in that portfolio. And that business has turned considerably profitable. Our [inaudible] finance business has stayed – credit quality has stayed very good. We’ve had very strong increases and profitability there.

Commercial, we’ve largely cleaned up residue associated with depreciation and asset values there and it is increasing in its profitability. We had a strong improvement in what’s going on on our deposit side of the bank, particularly as it revolves around fee income, and the impacts of the Durbin Amendment, et cetera, during the year.

So I’m really opportunistic going in to next year, and I think we have accomplished most of our goals and are ready to start to reap the benefit of an improving home values and an improving economy going in to 2013.

With that, I would open it up to questions.

Question-and-Answer Session

Operator

(Operator instructions). Your first question comes from the line of Jon Arfstrom with RBC Capital Markets.

Jon Arfstrom - RBC Capital Markets

Good morning, guys.

William A. Cooper

Good morning.

Jon Arfstrom - RBC Capital Markets

Bill, just following up on your comments on consumer charge-offs and how it relates to the provision – what do you think is driving the consumer improvement? Is it Chicago? Is it the TDRs address? Is it less impact from the older vintages? So that’s the first part of it.

And the second part of it is how material do you think this could be to the provision over the next, you know, year or so?

William A. Cooper

Well, the biggest impact is, number one, home values have stopped falling and started increasing. When home values increase, people are more motivated to stay in their homes and tough it through. And when you do have an incident, the loss is smaller as a result of the home value increasing. We’re seeing houses sell very quickly in this market where they use to hang around for a long time. And all of the markets have improved over the last year. Chicago, you know, a bit of a laggard, but it has improved year-to-year as well. And the general economy, and on top of that, the loans that – the categories of loans subject to that kind of an issue for us, those vintages where you have depreciation of home values continue to shrink, where the loans in our ROU unit and so forth, which have virtually no delinquency and no charge-offs, continue to grow, and so the parameters of the portfolio as a whole, continue to improve.

So a good economy, increasing home values, shrinking portfolio that is apt to have a prompt all contribute to improvements going forward. That’s offset somewhat by the accounting changes associated with bankruptcy, which accelerate the losses and in many cases accelerates losses and credits that I don’t believe would ever have resulted in a loss, but that has pushed forward losses, and to some degree at least, masks a more general improvement in the portfolio as a whole.

Jon Arfstrom - RBC Capital Markets

Just in terms of what’s possible from mortgage term charge-off levels in that book?

William A. Cooper

What’s possible?

Jon Arfstrom - RBC Capital Markets

Yes.

William A. Cooper

Anything is possible, Jon. I think the data indicates continuing improvement over the balance of the year – that’s what the data is indicating. The key indicator in consumer lending is delinquency and delinquencies are improving.

Jon Arfstrom - RBC Capital Markets

Okay, okay. And then, Mike, just one question for you on expenses. The adjusted core-operating number; what exactly are you saying there? Are you saying that that is a good run rate for expenses or is there any other type of expense pressure that you see out there that might, you know, take the company up above that number?

Michael Scott Jones

Yes, I think it’s a good baseline. Clearly, our national lending business, we continue to grow and add incremental folks for that, and I think you’ll see that throughout 2013 in auto finance. You’ll also have kind of the seasonality that we have in the first quarter, you know, with the payroll taxes, and those things that will impact that kind of – that number as we move forward. But I think it’s a good baseline as we enter into 2013.

Jon Arfstrom - RBC Capital Markets

And just one little thing – to be a safe, that’s non-deductible, is that correct?

Michael Scott Jones

That’s correct.

Jon Arfstrom - RBC Capital Markets

Okay, thanks.

Operator

Your next question comes from the line of Emlen Harmon with Jefferies.

Emlen Harmon - Jefferies & Company, Inc.

Good morning. I guess to kick it off, just hoping to understand a little better auto originations in the quarter. You know, you kind of – you put better than a 100 million in growth the past couple quarters on the balance sheet. I’m just trying to get a sense of what kind of overall originations are and how your outlook has changed, if at all, for that business in terms of just kind of what you are able to generate on a quarterly basis.

William A. Cooper

Craig, do you want to handle this?

Craig R. Dahl

Sure, Bill. We originated 336 million in the third quarter and 362 million in the fourth quarter; so above 10% increase quarter-over-quarter. We would expect that to continue into 2013. As far as our outlook goes, I would say that the pricing of competition is probably a little more intense than what we would have anticipated the like of a year ago. However, as you know, car sales continue to increase, and so the market is pretty much as we expected, and the Gateway integration has gone very well, and their work has gone very well. So I think we’re just as bullish right now on that business as we were a year ago.

Emlen Harmon - Jefferies & Company, Inc.

Okay, and then, if I could turn it back to Mike just really quickly. I did – Mike, I guess you noted some of the investment in – some of the investment in national businesses in terms of driving the overall expense growth – or core expense growth quarter-over-quarter. It did look like there was a jump in the other fee line. Is there anything kind of unique going on there? Could you help me understand that a little bit better?

Michael Scott Jones

Help me understand what you’re referring to in the other fee line?

Emlen Harmon - Jefferies & Company, Inc.

I’m sorry, other – apologies – I mean, other expense line.

Michael Scott Jones

Yes, from that stand point, we – I mentioned two of the items that make up the significant portion of that increase. You know, basically, we have, you know, from a one-time standpoint, the severance that was previously disclosed is the main item, and then you have the CMP that’s included in that number as well.

Emlen Harmon - Jefferies & Company, Inc.

Okay, got you. So, the severance is in the other line as opposed to the salaries and benefits. Got it, okay. Okay, thanks, I appreciate it.

Operator

Your next question comes from the line of Steve Scinicariello with UBS.

Stephen Scinicariello - UBS Securities

Good morning, everyone.

William A. Cooper

Good morning.

Stephen Scinicariello - UBS Securities

Just a quick one for you. If I look at page nine of the slide deck, you know, where you highlight and detail all of the origination volumes. I’m just curious, as we look ahead, you know, given the strength and the inventory finance, auto finance, and you know, the national business lines – you know, what kind of, you know, growth, origination volume, and that loan growth do you think you could put up for ’13 just kind of given the strong, you know, start you’ve had in terms of these platforms?

Craig R. Dahl

This is Craig Dahl, well, the – we would see an increase with our change in volume year over year. However, the mix will be adjusted somewhat because we would not expect the inventory finance volume to increase as much as it did in 2012. The real key, however, to your net gain question, though, is the level of prepayments that we’re going to continue to see, both, in the consumer and commercial book. The leasing book is fairly stable and predictable, and obviously, the auto finance business will continue to grow based on the pace of originations that we have expected for 2013.

Stephen Scinicariello - UBS Securities

Got you, but just given the trend that you’re seeing, you still expect, you know, pretty good net, you know, loan growth when you factor in, you know, some of the payoffs, and just originations. Is that a fair way to characterize it?

Craig R. Dahl

That’s very fair, but we don’t really give guidance on annual asset growth, so – but, you’re statement is correct.

Stephen Scinicariello - UBS Securities

Got you, got you. And then, just in terms of, you know, the margin, and you know, kind of when you factor in some of these prepayments, where do you think you can kind of, you know, hold pricing, or where are the soft spots, and then overall, kind of, you know, in conjunction with the first part of the question, do you still feel good about your ability to grow through kind of some of their pricing pressure?

Craig R. Dahl

I mean, to answer your last question first, yes, we do feel good about it – you know, one of the things that are national lending businesses, we’ve had a significant amount of acquired portfolios, which were at fundamentally higher rates than our core origination we’re at, and those have blended through, and have very little impact. So, part of our compression was really the reduction of those acquired portfolios, and we’ve out stripped that now with our increase in core originations. So, we feel pretty good about, you know, the fact that our yields declined only five basis points in the second half of the year. Our mix is still good, and like I said earlier, we don’t believe that we have to be – we have to fight it out so much in only our core markets because of that diversification of our asset classes and our geographic mix.

William A. Cooper

This is Bill Cooper, it is fair to say when you look at our numbers, we have very low interest expense, and as does the industry as a whole, and there isn’t much opportunity to reduce interest expense anywhere in the bank. The – and there is continuing pressure on pricing simply because of the higher yielding loans continue to come off, and the loans that are coming on have somewhat lower yields, and it wouldn’t be surprising to see some moderate compression in margins after you [inaudible] in the industry as a whole if rates stay as low as they are.

Stephen Scinicariello - UBS Securities

Got it, thanks so much.

Operator

Your next question comes from the line of Paul Miller with FBR.

Paul Miller – FBR

Yes, thank you very much. Can you go over a little bit on the [inaudible] service charges line item again? You talked a little bit about how you're I guess paying for some depositors to come in. That will fall off. Can you go through that how that's going to impact that line item in 2013?

Thomas F. Jasper

Sure, this is Tom Jasper.

Just in terms of what we were talking about, up until through the first quarter of 2012, our checking account production strategies centered around a premium to open the account. So to the extent that the customer we in, we had a no-strengths premium where the customer could receive $100 premium to open an account. And we went away from that strategy in the second quarter. And then in the third quarter, we introduced free checking. And so as part of the free checking strategy, we're no longer offering a premium to open the account. And that's what's accounting for the decrease in the line item on slide 13 on the marketing and deposit account premium expense.

Virtually the only premium expense that we offer today is through a referral program that we have where customers refer other customers to the bank and receive a $25 premium for doing so.

So that's the change in the marketing approach where we're selling the value of the account, which our team really enjoys doing versus the premium to open it. Does that make sense?

Paul Miller – FBR

Yes, it does. So really, the premium flow through of another part of the income statement, it didn’t flow through the fees and service charge line item of $44 million?

Thomas F. Jasper

No, that's correct. And in terms of how we look at it from a business perspective where we present it at net on page 13, that's the way that we view it from a business perspective. The only other cost to open these accounts are within the compensation line as it relates to incentives that we pay the team.

Paul Miller – FBR

Okay, and what do you think? Is that $44 million, is that something – you know, it's down over time and we know that it's down over time because of the changes that have come down on a regulatory front. But looking forward trying to estimate this, is that a good run rate? Or do you think given where we are, that can grow or go down?

Thomas F. Jasper

I would expect that over the pull that that number will increase. The difficulty in predicting it though kind of centers around the seasonality as it relates to incidence around the account. So generally speaking, from third quarter to fourth quarter, that number can decrease around a 5% basis quarter-to-quarter.

From fourth quarter to first quarter, we see an additional 5% decrease or about 10% off the run rate. Then that number bounces back for stronger second quarter and third quarter from a revenue perspective as those are higher earning quarters.

But of course, absent the seasonality, we expect that number to grow over time as accounts continue to grow.

Paul Miller – FBR

So year-over-year, you do expect some growth. Would it be based on GDP? Or what should we base that growth on?

Thomas F. Jasper

That growth is centered on the number of accounts that we retained in the portfolio. So it's a combination of our production, which has been strong and our attrition, which our attrition is approved in four consecutive quarters and continue to come down, so the more that we retain from an account perspective, the higher the revenue. And I would expect from an annualized basis looking at that line that our 2013 fee and service charges will exceed our 2012 number in total.

And you have to take into account that we were still charging the monthly maintenance fee for the first half of 2012. So we'll be able to overcome the loss of that fee in the second half of this year with increased account production and decreased account attrition in 2013.

William A. Cooper

A good way to look at it by the way is that TCF has an extraordinarily large base of checking accounts, over a million accounts. Much more than typical banks our size. That account base was built through totally free checking. And was initiated when almost all of our competitors had service charges on accounts and we introduced totally free checking.

Over time, most of our competitors copied the account. And the product was no longer unique. Because of the Durbin amendment and other changes occurred, most banks have gone back to a service charge, $1,500 minimum balance, service charges, et cetera. And TCF went back to totally free. And we have returned to the situation where in most of our markets with most of our competitors, we now have a superior pricing product. That has reversed our account growth. We're now growing accounts again for the first time in several years. And there is a basic revenue per account. And as we grow the accounts, the revenue will grow. That's the strategy.

Paul Miller – FBR

Okay, guys, thank you very much.

Operator

Our next question comes from the line of Craig Sigenthaler with Credit Suisse.

Nick Karzon – Credit Suisse

Good morning, guys. This is actually Nick Karzon standing in for Craig this morning.

William A. Cooper

All right.

Nick Karzon – Credit Suisse

I guess the first question is just if you could give us a little bit more color in terms of the seasonality that you expect in the inventory finance segment. I know you've had a lot of great relationship growth this year. But just kind of looking forward into 2012, if some of the relationship growth slows and we start to see some more of that seasonality, what should we be expecting?

Craig Dahl

This is Craig Dahl. The seasonality as we talked about in prior presentations, our peak out standings are really in the March, April timeframe where you have the carryover of the winter product and the introduction of the spring product. So that, we always look at loan growth in the first quarter.

Then it moderates over the summer. And then returns because we have strong shipments in our winter product in the fourth quarter. So that's kind of how our core portfolio is expected to evolve through 2013.

Nick Karzon – Credit Suisse

Thanks and I guess just a quick question on the tax rate. With the $10 million charge being kind of non-tax deductible, the tax rate came in a bit lighter than we were expecting. I was just kind of wondering if there was a tax offset somewhere? Or kind of rates we should think about going forward should be?

Michael Scott Jones

Yes, this is Mike Jones. I'll take that.

Within the core, there was an adjustment kind of to our deferred taxes primarily related to anticipated changes in the company's state tax filings as the business continues to evolve to this more national platform. So what that means is based on that, these deferred tax balances are anticipated to turn at a lower rate than previously thought. So that impact was a favorable impact within the quarter.

The effective tax rate going forward should be in kind of the 37% to 38% range.

Nick Karzon – Credit Suisse

Thanks so much. Thanks for taking my questions this morning.

Operator

Your next question comes from the line of Ken Zurbe with Morgan Stanley.

Ken Zurbe – Morgan Stanley

Great, thanks. Sorry, just really quick on the taxes that you mentioned. What was the dollar amount of the favorable tax impact?

William A. Cooper

It was approximately $0.025 on the quarter impact on the quarter, favorable impact on the quarter.

Ken Zurbe – Morgan Stanley

Got it, and then in terms of I guess the fees of the deposit service charges, are you guys – how do you feel right now about the structure of your product or your fees that you're charging on your accounts? I know you've gone through so much change over the last several years in terms of charging fees, not charging fees. Now we're free checking. Are we done with the product changes at this point? I mean do you feel really good about that? Or is there still the likelihood of additional modifications over the year?

William A. Cooper

Right now, we're pretty happy with the product structure and as I mentioned earlier, where we sit in the market competitively. We continue to investigate other product ties that we can offer in terms that it ties to that checking account product and how other deposit accounts tie to that checking account product as well.

But at this point, we kind of like where we are in the market. We're back to having a particular niche that really built the bank in lots of ways. And I think absent some another big change in the world like the Durbin Amendment, I feel pretty good about where we are from a product structure.

Tom, do you have anything to add on that?

Thomas F. Jasper

Yes, I would just add that I agree with everything that you just said. And that our focus in 2013 is to focus on other types of products.

An example would be we rolled in the first quarter a savings reward product that is a no fee, no minimum balance savings product that we can originate as a companion product to our new checking production. And the goal of that product as Phil said is having that savings account with a new checking account makes the entire relationship stronger. And the stronger the relationship, the longer the retention period on that checking account. And the longer the retention period on the checking account, the more revenue that we can drive from it.

So you're going to see examples of that, examples of making investments in the channels and the delivery systems around the product in terms of how it's delivered, how we relate to our customers. Those are the kind of things that we'll continue to make investments on that just improve the overall experience as it relates to free checking. But that's our commitment right now is to keep that account structure the same, but improve the relationship through other aspects.

Ken Zurbe – Morgan Stanley

All right, great, thanks a lot.

Operator

Our next question comes from the line of Chris McGratty with KBW.

Chris McGratty – KBW, Inc.

Bill, obviously with all the excitement this year being with the balance sheet structure and the credit noise, can you maybe speak longer-term, both aspirational and profit targets? I think in the past you’ve talked about [inaudible] hurdle, and then strategically, I know in the past you’ve always talked about doing the right thing for shareholders in terms of independence, but can you help us out on those two items?

William A. Cooper

Well, the – as I mentioned earlier, what TCF continues to have is a very strong core profitability. We have a high – very strong revenue base and a very strong pre-provision, pre-tax return on assets. When we get our provision for loan losses back to more normalized levels, it’s – over a period of time, you can see on the dashboard where we can have a 1.2% return on assets. The – and that would be an intermediate goal, that’s not a goal for next year or whatever, but we can see that on the dashboard and our base profitability can, in today’s world, in today’s interest rate levels, approach that.

In terms of independence, did you mean a question about whether we’re going to sell the bank?

Chris McGratty – KBW, Inc.

Yeah.

William A. Cooper

TCF has always had the position that we would listen to anybody in terms of from a shareholder’s perspective that wanted to have a discussion. And over the years, we’ve had many discussions with people. If somebody offered a prospect that gave, in our opinion, the shareholders a better deal than they might have running the bank in the way that we have in the past we would seriously entertain that.

So we’re somewhat agnostic in connection with which way we prove the shareholder value; either do it by hopefully improving the profitability of the bank. If somebody comes along and offers a great deal though we would be happy to sell the bank, that’s always been our philosophy and continues to be.

Chris McGratty – KBW, Inc.

Great. Thanks. And one for you, Mike. Given the issues in the quarter, the industry issues on QM, can you remind us the amount of interest-only mortgages in your consumer book and then maybe the percent of originations this year that may have been IO and whether the strategy makes sense going forward?

Michael Scott Jones

Can you repeat the question? Go through that question one more time?

Chris McGratty – KBW, Inc.

I’m sorry. The amount of interest-only mortgages on your book and then maybe what percent of originations in the year came from interest-only and whether this is a viable strategy going forward?

Michael Scott Jones

Yes. I mean, we historically haven’t disclosed the amount of interest-only loans that we talked about on this call, so we’ll have to follow up with you around that question.

William A. Cooper

If by interest-only, are you referring to second mortgages?

Chris McGratty – KBW, Inc.

Yeah, first or second, right.

William A. Cooper

Well, we don’t have much in the way of interest-only first mortgages at all. The lines of credit associated with second mortgages, we do have second mortgages that amortize and some that don’t and we do have an origination strategy, continuing origination strategy in the second mortgage business and we continue to originate those loans. And as a matter of fact, they have maintained much better credit quality and net profit quality than the first mortgage portfolio and are overwhelmingly variable rate and therefore don’t contain the same kind of interest rate risks that our first mortgage portfolio has.

Chris McGratty – KBW, Inc.

Okay. Thanks a lot.

Operator

Your next question comes from the line of Kevin Barker with Compass Point.

Kevin Barker – Compass Point

Could you help us understand the increase in leasing equipment finance fees going into yearend given the talks around the fiscal cliff and how that may have affected that line item and what it may look like on a go-forward basis? Thank you.

Craig R. Dahl

This is Craig Dahl. That line item, we’ve always reflected as subject to customer-driven events and we typically do have an uptick in the fourth quarter. I don’t believe there was any impact in the fourth quarter due to fiscal cliff and so we would – it’s just one of the quarters as we handle customer needs through our existing portfolio.

Kevin Barker – Compass Point

But how is that different from the fourth quarter of last year when it was a decline? Is there a difference in seasonality, you know, or is there some different dynamic going on with those fees?

Craig R. Dahl

It’s really not – it’s not really a trick question. I mean, there is – the customers, as they look at their existing – it’s primarily coming out of our Winthrop portfolio, which is high tech and information securities stuff. So as the companies take a look at their own asset portfolios and want to either extend or add to their existing transactions, that’s what drives this number. So there isn’t any – there isn’t really anything we can do to accelerate it or to hold it back.

William A. Cooper

It’s lumpy and customer driven is the best answer. And there is some seasonality in connection with it. It tends to more in the fourth quarter than any other part of the year.

Kevin Barker – Compass Point

Thank you.

Operator

Your next question comes from the line of Andrew Marquardt with Evercore Partners.

Andrew Marquardt - Evercore Partners Inc

Good morning, guys. I want to ask first on the margin. You’ve previously talked about net interest margin normalizing or getting back to kind of a 460 range. Is that still something you guys consider or should it be better or worse given the environment and the [inaudible] you guys have been seeing?

William A. Cooper

Probably that’s probably still a – on the horizon, assuming that interest rates don’t change and the world pretty much stays the way it is. Do you agree with that, Mike?

Michael Scott Jones

Yes. I think that’s right.

Andrew Marquardt - Evercore Partners Inc

And the timing of that, is that something that we should expect to see this year or is that kind of a multi-year thing that…

William A. Cooper

It’s a little hard to say.

Unidentified Company Representative

I think it’s hard to say. I mean, we’ll clearly be trending closer towards that number in 2013 and then, you know, completing that depending on what the interest rate environment is and the makeup of our mix of portfolio going into 2014.

Andrew Marquardt - Evercore Partners Inc

Thanks. And then on capital, you talked about building capital and noted the Basel III hurdles out there in the horizon. What is your current capital [inaudible] under Basel III?

William A. Cooper

Yeah, I think we have not disclosed that. What we’ve talked about from kind of a guidance standpoint is about a 150 basis point impact, estimated kind of to a Tier 1 common capital ratio associated with the current MPR. But you know, we anticipate that changing through the comment period and we’ll react accordingly.

Additionally, we have looked at the current notice of proposed rulemaking and have come up with mitigating strategies if it was implemented to help mitigate that 150 basis point impact. And we would institute those mitigating strategies if it was adopted as proposed.

We think it will not be adopted as proposed. It’s kind of a – it’s definitely worth following the direction it’s happening, but there – we believe that there will be significant modifications as it goes forward.

I want to mention something else on the margin. The – TCF’s current origination, if you look at the asset bases that we’re growing, the auto business turns in about 27 months. The equipment finance business turns in about three years. Almost all of our origination in the mortgage business is variable rate today. The fixed-rate portfolio of residential loans continues to shrink and so on the asset side of the bank, TCF is becoming much more asset sensitive in preparation for what we believe eventually will happen in connection with the rising rates.

When you do that, there is a margin compression associated with it. You’re, in effect, buying insurance for rising rates. And we don’t know when rates are going to rise, you know, the current projection is not for quite a while, but who knows, and the economy is improving. So part of the compression in our margin is the result of just low interest rates and part of it is the strategy for us to generate assets that have a lot more interest flexibility when indeed rates rise.

Andrew Marquardt - Evercore Partners Inc

Got it. That’s helpful. And just the last question. On the BSA penalty and maybe that being now behind you guys, where does the OCC consent order stand today? Is that now behind you? Is that fair to say?

William A. Cooper

It is not behind us yet. The OCC has some more work to do in connection with that. It is a, certainly a mild post in connection with getting out from underneath that consent order, but it is not been lifted yet, but we are optimistic that that is in our not-too-distant future. We believe that we have accomplished everything that we need to accomplish in connection with the lifting of that consent order and we recognize that we’re going to have to continue to do a lot of other things to keep up with the evolving nature of what’s going on with that.

The good news for us, I think, in that connection is we were among the early recipients of that BSA pressure and there’s – it’s likely that it’s going to result – we’re going to see similar happening in other banks as this pressure on that issue continues.

Andrew Marquardt - Evercore Partners Inc

Got it. Thanks. And then this is maybe somewhat related. Can you just remind us your level of interest for those opportunities that come up in terms of you said in the past, you know, being opportunistic or interested in doing additional asset-based deals, branch deals or maybe whole deals but one of the things may be the OCC. Can you just remind us the level of interest and maybe are there other – more opportunities coming up for you to consider that as well strategically?

William A. Cooper

The opportunities on the asset side would more like to be, as we’ve done in the past, if we could find another leasing portfolio or leasing business, those kinds of things. It’s unlikely that there will be entering a new asset class if you will in 2013 and I guess it’s unlikely and unnecessary for us to be doing anything on the depository side. My personal preference would be, in 2013, would be to make the bank make more money with what we have in the investments that we’ve made.

Andrew Marquardt - Evercore Partners Inc

Got it. Thank you.

Operator

Your last question comes from the line of Steve Geyen with Stifel Nicolaus.

Stephen Geyen - Stifel Nicolaus & Co.

Hey, good morning. Bill, you might have touched on this a little bit in the last comments, but I’m just curious, the BSA costs, there was a civil penalty, which is one-time and then I was just curious if there are any system upgrade costs in the fourth quarter that might trail off as we head into 2013?

William A. Cooper

System reduction?

Stephen Geyen - Stifel Nicolaus & Co.

Upgrades, any upgrades …

William A. Cooper

Steve, the BSA – one of the things is that we can continue to automate that function and make it more efficient and we will continue to move down that path. I think there will be some operating expense reductions in that area, both in terms of special work that we had to do to get BSA up to snuff, but right now, I think we did a pretty significant upgrade just recently and there’s going to continue to be improvements, but I don’t see anything big happening. Is that far to say?

Unidentified Company Representative

Yeah, I would agree with that. I don’t see any major changes. We’ll continue to focus on productivity, but I don’t see any major changes.

Stephen Geyen - Stifel Nicolaus & Co.

Anything meaningful as far as the savings?

William A. Cooper

They’re all meaningful, but I couldn’t give you a number on it. We have a significant number of people in the BSA department and we’ve done a lot of consulting work, et cetera that hopefully we won’t have in the future. So it will be an expense savings but I don’t think it will be a line item in the P&L if that’s what you mean.

Stephen Geyen - Stifel Nicolaus & Co.

Got it. Okay. And last question for Tom. How long does it take to ramp up fee income on new accounts versus vintage accounts, you know, getting cards in the hands of new customers, various products?

Thomas F. Jasper

In terms of the length of time, you know, what we generally are looking at in terms of the production is we get a strong gage as to the quality of the production about six months after it occurs. And so that’s our best view in terms as how good is the quality. In terms of the ability to accelerate the quantity, you have multiple factors that go into that. In our various regions we have campus banking programs and other things that drives some seasonality around that ,but we’d expect that we’re going to continue to grow those accounts throughout the course of the year. It’s not – you know, we have two consecutive quarters of account growth and we’d expect to increase the rate of account growth from this point going forward.

Stephen Geyen - Stifel Nicolaus & Co.

Okay. Thank you.

Operator

This concludes today’s call. You may disconnect your lines.

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