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Pinnacle Financial Partners (NASDAQ:PNFP)

Q1 2013 Earnings Call

April 16, 2013 9:30 am ET

Executives

M. Terry Turner - Chief Executive Officer, President, Director, Chairman of Executive Committee, Member of Directors Loan Committee, Chief Executive Officer of Pinnacle National Bank, President of Pinnacle National Bank and Director of Pinnacle National Bank

Harold R. Carpenter - Chief Financial Officer, Principal Accounting Officer, Executive Vice President, Chief Financial Officer of Pinnacle National Bank and Executive Vice President of Pinnacle National Bank

Analysts

Jefferson Harralson - Keefe, Bruyette, & Woods, Inc., Research Division

Kevin Fitzsimmons - Sandler O'Neill + Partners, L.P., Research Division

Matt Olney - Stephens Inc., Research Division

Mac Hodgson - SunTrust Robinson Humphrey, Inc., Research Division

Kevin B. Reynolds - Wunderlich Securities Inc., Research Division

Michael Rose - Raymond James & Associates, Inc., Research Division

Brian Joseph Martin - FIG Partners, LLC, Research Division

William J. Dezellem - Tieton Capital Management, LLC

Operator

Good morning, everyone, and welcome to the Pinnacle Financial Partners First Quarter 2013 Earnings Conference Call. Hosting the call today from Pinnacle Financial Partners is Mr. Terry Turner, Chief Executive Officer. He's joined by Harold Carpenter, Chief Financial Officer. Please note Pinnacle earnings release and this morning's presentation are available on the Investor Relations page of their website at www.pnfp.com. Today's call is being recorded and will be available for replay on Pinnacle’s website for the next 90 days. [Operator Instructions]

Before we begin, Pinnacle does not provide earnings guidance or forecasts. In this presentation, we may make comments which may constitute forward-looking statements. All forward-looking statements are subject to risks, uncertainties and other factors that may cause the actual results, performance or achievements of Pinnacle Financial to differ materially from any results expressed or implied by such forward-looking statements. Many of such factors are beyond Pinnacle Financial's ability to control or predict, and listeners are cautioned not to put undue reliance on such forward-looking statements. A more detailed description of these and other risks is contained in Pinnacle Financial's most recent annual report on Form 10-K.

Pinnacle Financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation, whether as a result of new information, future events or otherwise. In addition, these remarks may include certain non-GAAP financial measures as defined by SEC Regulation G. A presentation of the most directly comparable GAAP financial measures and a reconciliation of the non-GAAP measures to the comparable GAAP measures will be available on Pinnacle Financial's website at www.pnfp.com.

With that, now I'm going to turn the presentation over to Mr. Terry Turner, Pinnacle’s President and CEO.

M. Terry Turner

Good morning.. Today's conference call, similar to previous quarterly calls, I'll briefly review the highlights of our first quarter performance. Harold will review the first quarter in greater detail, and then I'll take some time to give my thoughts on our profitability targets and what we're working on for the remainder of 2013.

I want to start today by revisiting our central messaging over the last few years. Basically, since the first quarter of 2009 in each quarterly conference call, we discussed our 2 primary priorities: number one, to reduce the risk in our loan portfolio; and number two, concurrently rebuild the core earnings capacity of our firm. We dedicated a number of associates to focus on the accelerated disposition of troubled assets, while a much larger group of our associates focused on building our customer base, growing our loan portfolio and growing core deposits.

Credit metrics, such as net charge-off ratios, NPA ratios, classified asset ratios and so forth, have all shown remarkable progress over the last few years, and we anticipate continued gradual improvement going forward. But you'll notice last emphasis in this call on the credit metrics. I hope you won't assume that we're trying to divert your attention away from credit. The truth is we're very proud of our accomplishments in credit, but we're now substantially more focused on the opportunities that we believe are out in front of us. And so we'll focus more time this morning on how we continue building the core earnings capacity of the firm, which we believe is the key to driving shareholder value.

I expect by now, everyone's aware that fully diluted EPS for the first quarter was $0.39. We're now operating at record levels on a good number of financial metrics. Thankfully, we believe there are lots of opportunities still in front of us as we continue to make rapid progress on our longer-term profitability targets, and I'll cover those in greater detail in a few minutes.

I'll make just a few brief comments on continued asset quality improvements. As you can see, we continue to make meaningful progress reducing virtually every important problem asset category this quarter year-over-year and consecutive sequential quarter for roughly 3 years. Net charge-offs were approximately $2.2 million for the quarter. OREO (sic) [ORE] expenses were $721,000, and so when you combine those 2, our total credit losses were down more than 17% in this quarter, almost 65% year-over-year and down for the 11th consecutive quarter. Nonperforming loans shrank by roughly 4.3%. That's the 12th consecutive quarterly reduction there, down nearly 49% from a year ago. Nonperforming assets, and that's defined as NPLs plus OREO (sic) [ORE], were down 6.7% here in the quarter. That's roughly a 50% decline from March last year. And classified loans shrank by roughly 8% during the first quarter, which results in a classified asset Tier 1 capital plus allowance ratio of approximately 26.4%.

A quick snapshot of the quarter also shows mainly continued core earnings momentum over the last 2 years. The most significant leverage for building the core earnings capacity have been accelerating loan volumes and expanding the margin. Despite significant headwind, we still managed to grow NPA loans $60.2 million on a linked-quarter basis or 13% year-over-year. As we mentioned during last quarter's conference call, we anticipated some reduction in noninterest-bearing deposits during the first quarter given the significant pre-year-end run-up in balances, but that said, as you can see, the year-over-year comparison is very strong, up nearly 36%, and Harold will talk a little more about that in just a few minutes.

Our net interest margin expanded to 3.90% this quarter. Noninterest income, exclusive of security gains, was up 21% year-over-year, while total revenues were up 10.8%.

This slide, in many ways, is really a tribute to the hard work of all our associates. In the first quarter, in addition to a record level of core EPS, we achieved record levels for total loans, total revenues, noninterest income and tangible common equity per share, to name a few. In fact, the firm's operating at records or near records on very many metrics. I believe that that accelerated turnaround for this firm is attributable to 3 things. Number one, an incredible engaged number of associates. They've worked their hearts out. Number two, the relative strength and health of our 2 markets, Nashville and Knoxville. And number three, a genuine desire to protect and grow shareholder value. Had we sold shares to accelerate our repayment of TARP, like some many firms did despite the improvements to core revenue and earnings, we'd be far from record levels for core EPS and tangible book value per share.

So in summary, the first quarter was another great quarter in terms of execution against the primary priorities that we've been reviewing and weighting for some time.

And now I'll turn it over to Harold for more in-depth review of the quarter.

Harold R. Carpenter

Thanks, Terry. Let me start with loans and more specifically, loan growth. Obviously, we are very pleased with the blue bars on this chart. In the period, loans were up 13% over last year. Our first quarter growth of $60-plus million exceeded the growth we experienced in the first quarter of last year, which was approximately $46.5 million. We remain optimistic, given our pipeline, that loan growth will continue during the remainder of 2013, and our relationship managers are very much out in our marketplace in pursuit of quality lending opportunities.

Loan yields, which are depicted by the green line, remain a challenge for our industry. We're pleased with the 4.58% yield in the first quarter, but we anticipate continued yield dilution for the remainder of this year. Many banks are discussing line utilization. We began including it in the supplemental information chart on commercial line utilization. This chart reflects that our commercial borrowers line utilization has not fluctuated very much over the last several quarters, but it did decrease 54% this quarter. We now have approximately $941 million in available commercial line, up approximately 8.8% from the amount of the prior quarter and hopefully pointing towards future funding. Our belief would be that if confidence hopefully is restored, some of these commitments will turn into funded borrowings.

As we mentioned in earlier calls, we and many other banks are experiencing unprecedented levels of payoffs. That is a significant headwind to loan growth and was again significant in the first quarter of 2013.

During the first quarter, we recorded payoffs of almost $100 million. As we mentioned in our last quarter conference call, we anticipated the first quarter to be another quarter of significant loan pay-down. We continue to believe that the acceleration in loan payoff is largely tied to 4 phenomena. Number one, the availability of long-term fixed-rate nonrecourse credit for income-producing real estate. That generally comes from non-bank providers like insurance companies and REITs. Number two, the sluggish momentum in the economy at large, which dampens loan demand. Our loan growth, we believe, is tied to market share movement and not so much on business expansion. Number three, even though corporate America is not ready to expand their operations, they do have the confidence to reduce their liquidity and thus, allow them to part with some of their cash that they've been storing up and reduce indebtedness. That's particularly true given the fact that they can earn so little on that cash. It's the most efficient use of the cash to pay down the debt. And then number four, liquidity events for businesses since a lot of owners decided to cash out because of an unwillingness to risk another business downturn or, as was the case last year, take advantage of 2012 tax rates. Nevertheless, because of these factors, it is our expectation that payoffs in the second quarter of 2013 will continue to be higher than we would otherwise like to see.

We've shown this slide for several quarters as it details the quarterly trend of our net interest income and our net interest margin. We're obviously pleased with the continued progress we've made on both these measures. We reported a 3.9% for our net interest margin for this quarter, which was good new to us. We're particularly pleased that our net interest income increased to $42.8 million as top line revenue growth is where our focus remains. The revenue drivers depicted on the slide were the primary influences of our net interest income. Those items plus average balances on our liquidity sources for the quarter, being meaningfully less in the first quarter contributed to the increased margin in first quarter 2013.

This highlights the excellent job our relationship managers had done with respect to deposit pricing. As the green line indicates, we've experienced a meaningful decrease in cost of deposits over the last 8 quarters. We remain optimistic that a further reduction, albeit at a slower pace, to cost of funds will recur in 2013 as we focus on reducing the cost of specific accounts. Although it did not impact our cost of deposits, the prepayment of approximately $35 million in Federal Home Loan Bank borrowings midway through the quarter, which resulted in an $877,000 prepayment charge, did impact our cost of funds. The Federal Home Loan Bank advances had an effective yield of 1.8%, so this should have a positive influence on our margins going forward, as well as free up some capacity for Federal Home Loan Bank for future funding. As a result of this transaction plus the restructuring we executed in the fourth quarter of 2012, rates on Federal Home Loan Bank borrowings decreased to 0.78% in the first quarter from 1.24% in the fourth quarter of last year.

Turning our attention to fees, core noninterest income is up 6.1% linked-quarter and is at the highest level in firm history. The graph at the bottom right depicts our 3 primary fee businesses. We've seen good growth in our deposit service fee and interchange categories this year, which we believe is primarily due to growth in the absolute number of deposit accounts, and we also executed a vendor change in mid-2012, which has also helped on our interchange revenues. Wealth Management, which is brokerage, trust and insurance, has been a steady performer for several quarters, with some increase here in recent quarters. Mortgage origination has been hitting it out of the park for the last several quarters due to an extended mortgage refinance cycle, which we all believe will subside at some point. But we're also seeing some real positive signs in the residential housing markets in our trade areas over the last year and believe home buying in our markets will be even stronger in 2013, which should continue to support mortgage revenues in future periods. That said, we don't anticipate any strategic change in our approach to the residential mortgage market. We like the risk profile of our current model, which is basically selling everything we originate into the secondary market, servicing or leased, with limited repurchase risk.

In conjunction with asset quality improvements, as you can see on the chart on the left, our NPAs are now $41.4 million. That's down from $132.4 million at the start of 2011. More importantly, inflows continued to be well contained at less than $10 million during the first quarter. That's higher than last quarter but still a relatively small amount.

On the right, as to allowance coverage, it's now at 317.9% of nonperforming loans, which we believe will continue to compare favorably to the median of most peer groups at this time. Barring any adverse changes to the broader economic environment that might cause us to think otherwise, we believe that some of the matters on this earnings release will continue at least for the next several quarters, consistent with improving the credit quality of our loan book. Credit quality improvement will continue to impact the absolute level of our loss reserves, which will serve to reduce our credit cost. We believe that the reduced credit cost will be offset in whole or in part by loan growth for the remainder of the year.

The improvement in credit quality continues to translate into reductions in net charge-offs and ORE expense. This bar graph shows the sum of net charge-offs and ORE expense, which have been decreasing and decreasing steadily for the past several quarters. As to charge-offs, we recorded $2.2 million in charge-offs in the first quarter of 2013, which approximated last quarter. Provision expense for the fourth quarter of last year was $2.5 million compared to $2.2 million in the first quarter. Our ORE book stands at $16.8 million at quarter end, the lowest level since the third quarter of 2009. Based on our review of potential second quarter foreclosures, our ORE portfolio should remain fairly constant. We continue to believe that NPAs will trend downward over the next few quarters but not at the same pace as was accomplished in 2012. Given first quarter results, our general belief is that the credit cost should stabilize in 2013, barring any unforeseen economic events which could cause unanticipated stress to our borrowers.

As to expenses, as you can see with this slide, our efficiency ratio is now at 56.4%, excluding ORE expense and the Federal Home Loan bank restructuring charges, as well as the gain on the sale of securities. One of our long-term profitability measures that Terry will discuss in a moment is the ratio of expenses to average asset. That number, again, excluding ORE and Federal Home Loan Bank restructuring charges, was 2.46% for the first quarter, still more than our long-term target of 2.1% to 2.3% but, we believe, a favorable comparison to the median value of most banks in our peer group. That said, we remain focused on eliminating any unnecessary expense as our senior leaders are looking to find appropriate ways to increase the operating leverage of our firm. However, the primary strategy to decrease and to ultimately achieve our long-term expense to average asset ratio will be growing the loan portfolio of this firm with the corresponding increase in operating revenues.

Finally, our adjusted pretax pre-provision increased from $18.2 million in the first quarter of 2012 to $23.8 million in the first quarter of 2013, a year-over-year increase of 30.9%. Our pretax pre-provision should increase during the remainder of 2013, although we don't anticipate significant growth in pretax pre-provision next quarter. We believe we will continue to grow our loan portfolio, but loan yields will continue to contract. We should also experience fee growth, but mortgage origination remains the wild card. Our expense base, we believe, will increase modestly over the remainder of the year as we intend to hire more revenue producers.

In summary, the key to our ability to growing our operating earnings is gathering low-cost deposits and funding quality lending opportunities in an efficient manner, which is what we will, again, focus on this year.

With that, I will turn it back over to Terry.

M. Terry Turner

Okay. Thanks, Harold. As we discussed in last several conference calls, I believe we're substantially done with our balance sheet rehabilitation and are now able to focus more intently on the high-performing profitability and returns and seizing the rapid growth opportunities that we continue to believe exist for us. We believe they exist for 2 reasons. Number one, the lending capacity of our lenders that are currently on our payroll. There are a good number of those that are still relatively early in the consolidation of books of business. And then secondarily, the ongoing vulnerabilities of large regional competitors in our market.

On this slide, we've got key strategic targets we've been discussing with you for several quarters. Harold alluded to them just a minute ago. You can see there at the bottom an ROAA target range of 1.10% to 1.30%. And then going back to the top, the key component parts, a NIM range of 3.70% to 3.90%, net charge-offs in the range of 20 to 35 basis points, noninterest income to total average assets of 70 to 90 basis points and noninterest expenses to total average assets of 2.10% to 2.30%. You can see that we made progress each quarter last year and again in the first quarter of 2013 against all of those targets.

In the interest of time, I won't spend any time on the margin, charge-offs and the fees because, as you can see, we're already operating at the midpoint or better of all those ranges. And so the only item on the chart that's not at the midpoint, or better, of the target range is the noninterest expense, the total average asset number that Harold just reviewed with you.

Maybe to reiterate the point that Harold made on the growth in loans, associated growth in revenue and its impact on that ratio, I want to talk about that. That comes from the loan growth that we have anticipated producing from our existing relationship managers. In other words, we're talking about a lift in loan revenue volumes that we expect to get from the existing expense base. And the point I really want to make sure is clear that in broad general terms, were we to hit the remaining loan growth target of $1.3 billion beginning in 2012 through 2014 and do that on this expense base, that would transform the profitability into noninterest expense to asset ratio substantially.

So in terms of ROAA, if we were to hit just the midpoint for each of the components listed on the chart, that would produce an ROAA at the midpoint of the range, in other words, a 1.20% ROA.

We've not reviewed this slide before, but it's intended to paint a picture, the point I just made relative to the increased production we expect from our existing expense base. Our headcount leverage has been significant and, we believe, compares favorably to most of our peers. I think most of you are familiar with our hiring strategy of hiring the best bankers in the market and asking them to move their books of business to us. We'll talk a little more about the capacity that our existing cadre of lenders have in just a minute, but our strategy is to grow market share by moving business to our balance sheet with only modest increases in costs. So that's really the principal message there.

In late 2011, I highlighted my belief that our existing relationship managers plus some additional 11 or 8 relationship managers that we intended to hire had the capacity to produce approximately $1.3 billion in net loan growth over roughly a 3-year period of time. In this chart, we're plotting the actual production to date against the 3-year target that we've outlined more than a year ago. I always try to caution you, and this is really important, I think. You shouldn't expect that we'll produce the loan growth on a straight-line quarterly basis. During 2012, we had a quarterly low of $46.5 million and a quarterly high of $187 million. But round numbers, we were up $420 million in 2012, and that's an annual growth rate of 12.8%. We added net growth of $60.2 million in the first quarter of 2013. That represented a year-over-year growth rate of 13% and a 5-quarter CAGR of 11.5%. The required CAGR for loans in order to hit the $1.3 billion target by the end of 2014 is 11.5% as well. So to date, we're right on schedule.

Further underscoring the likelihood of our success in moving market share in the most recent Greenwich Research results, to us, Greenwich is the leading market research firm to client satisfaction and market share measurement for banking firms throughout the United States. We've engaged Greenwich for several years now as has substantially all the large regional national franchises in the U.S., including those banks with whom we compete. We won't go through the table shown here in great detail, but the table lists those areas where, according to Greenwich, Pinnacle relationship managers and banking service providers achieve best in class when compared to the other top 4 regional national franchises in Nashville and Knoxville. As you scan the list, you can see that among non-clients that we call on, we're the most likely to be added as a provider, and among our clients, we provide the greatest level of client satisfaction. So the primary takeaway from this slide is that our sales and service reputation enhances the likelihood we'll be a participant whenever there's an opportunity to compete for new business in our markets.

We've shown similar slides to this in the past, but again, this is Greenwich Research that further validates our ability to compete effectively with the large regional and national franchises in Nashville and Knoxville. The vertical axis indicates lead market share based on responses received from commercial businesses with sales from $1 million to $500 million in 2012. The horizontal axis indicates the loyalty index, and that's tracking whether a client is willing to recommend Pinnacle to another company that may have similar needs. As you can see, in the Nashville market, we have amassed more lead bank relationships than all but one of the large regionals with whom we compete. That's a successful 13-year track record for moving market share. But as you can see, we generate much stronger loyalty and willingness to recommend from our clients than any of our competitors, which, again, suggests a significant relative advantage versus competitors in terms of moving market share.

Knoxville, on the right, is a similar story. Of course, there, having only begun in 2007, we're still in the very steep part of the growth curve. But our ability to compete based on client satisfaction is much like that in Nashville, and the relative satisfaction with our competitors in that market appears very weak.

Finally, let me comment on the net interest margin. Harold hit at that earlier. We've made significant progress on our net interest margin from its low of 2.72% in March 2009 to a 3.90% margin this quarter. That's the 10th conservative quarterly expansion. We've tried, quarter after quarter, to discuss the margin opportunities and be as transparent as we can about both the opportunities and the threats that we see. Obviously, we continue to have opportunities to enhance our margin based on the ongoing reductions in our cost of funds, but we anticipate that all of the cost of funds gains will be more than offset by the market trends that we see on loan and bond yields. And so for that reason, we're likely to see our margins decrease for the remainder of this year. It says that we remain within the 3.70% to 3.90% range for the whole of 2013 that we communicated a quarter or 2 ago.

So now down and all the way back to the second quarter of 2013, honestly, the path forward continues to be very simple. The principal profit improvement lever is loan and revenue growth produced by our existing infrastructure or expense base.

So, operator, with that, we'll stop and respond to any questions there might be.

Question-and-Answer Session

Operator

[Operator Instructions] And our first question comes from Jefferson Harralson from KBW.

Jefferson Harralson - Keefe, Bruyette, & Woods, Inc., Research Division

I think you laid it out pretty well. I just want to get a clarification on the margin guidance. Are you -- is it -- is the margin guidance 3.70% to 3.90% or 3.70% to 3.80% for the rest of -- for 2013?

M. Terry Turner

Sorry, Jefferson. It's 3.70% to 3.80% for 2013. The long-term target is 3.70% to 3.90%.

Jefferson Harralson - Keefe, Bruyette, & Woods, Inc., Research Division

All right. Perfect, perfect. The -- you guys are running -- it's a capital-related question. You guys had talked about a dividend in the past, as the earnings power certainly ramped-up gives you more room to consider thinking about paying one. And you have a TCE over 9.5%. Can you talk about where you plan on running this TCE over time? And your thoughts on dividend.

Harold R. Carpenter

I don't think we've changed our position from the fourth quarter conference call on dividends. It was interesting to see the CCAR results come out. So I think we are all anxious to see what Basel III is going to look like, and I understand it may be coming out towards the end of the summer. So I think that's the biggest thing that we're waiting to see to kind of maybe structure any sort of dividend potential for this firm. We've also got a $25 million holding company line that we'd like to see get eliminated over the next few years. I think we're paying about 3.5%, 3.30%, something like that on that line. So we'd like to see that go away as well. So dividends are something that we would like to aspire to get to, but right now, we'd like to see some more cards played with respect to capital -- regulatory capital constraints, so on and so forth.

Operator

And our next question comes from Kevin Fitzsimmons from Sandler O'Neill.

Kevin Fitzsimmons - Sandler O'Neill + Partners, L.P., Research Division

Just a few questions. On the jump, we saw this quarter in other noninterest income, I believe you attributed it to interchange and swap fees. Can you just characterize, is that something that we can expect to be a run rate going forward? Or is that kind of an unusual jump this quarter that you wouldn't expect to repeat next quarter?

Harold R. Carpenter

The swap fee number was less than $500,000, but it was a meaningful increase over last year, which was almost 0. That number will be lumpy, and it's based on how we -- whatever transaction may present itself to us at the time. The interchange number, we're really pleased with our interchanges. We changed vendors last year midstream, which has helped. We've got more volume going through that pipe this year than we had last year. We've got some credit card products that's helping us this year. At the long term, where interchange is going to go, I have no idea. That seems to be a hot button, and so we're hopeful that we can keep it for a very long time.

Kevin Fitzsimmons - Sandler O'Neill + Partners, L.P., Research Division

Okay. Great. And then just 1 quick follow-up. I know you're being pretty clear about the margin guidance, that the margin is going to decrease from this level. Loan growth, it seems you feel that the substantial level of payoffs is going to continue, but you seem pretty upbeat about net loan growth. What does that all spell out for NII? Do you feel your balance sheet growth is going to be enough to offset the margin compression and that you would be able to grow NII throughout 2013?

Harold R. Carpenter

Yes, I think we'll see some measured increase in net interest income for the remainder of the year. We talked a little bit about pretax pre-provision not growing very much in the second quarter. I guess what our messaging is that we're very cautious with respect to these loan yields. And we're seeing, in March, our loan yields were in the low 350 -- low 450s. So we're seeing that happen currently.

Kevin Fitzsimmons - Sandler O'Neill + Partners, L.P., Research Division

And what you're seeing in the loan yields, you would characterize that as just really what everyone else is seeing in the market and not some byproduct of the model of taking market share, right?

M. Terry Turner

I think that's true, Kevin. I guess we, in these kinds of discussions, always try to make this point. If you're market share-taker, as we are, it's nearly inconceivable that you'll move it for a higher rate than they're paying at their competitors. So I think the thesis of your question is basically true. The loan rates are collapsing, I think, at our bank and other banks in this market and in the national market, and that bears on us in that we're not going to be able to move share for rates that are higher than what they're currently paying at their existing bank.

Operator

And our next question comes from Matt Olney from Stephens Inc.

Matt Olney - Stephens Inc., Research Division

On the capital question, I think you already addressed the potential for paying a dividend in the future, but could you also address your appetite for M&A in the future and, if you went down that route, what you'd be looking for in particular?

M. Terry Turner

What was the last thing that you said, Matt? I couldn't understand the last thing.

Matt Olney - Stephens Inc., Research Division

If you went down the M&A route, what kinds of things would you be looking at in particular?

M. Terry Turner

Okay. Yes. I think we have said for quite some time that I view this firm to be primarily built on an organic growth model. We believe we're in a fortunate position to take market share from large regional national competitors. And so that's what we spend the bulk of our time on is building and maintaining that growth engine. While M&A is not the principal mechanism by which we'll grow the firm, it -- I would be surprised, honestly, if you looked at us over a 2-, 3-year period, that we had not made any acquisitions. I believe there will be opportunities. This is perhaps an inflection point in the market where the pricing has an opportunity to align between the bid and the ask, which really hadn't been there for some time. And so I guess that just the long-winded way to say, I think there will be opportunities, and we ought to have an advantaged currency. And so there may be some opportunity there. So then the question is, what type of M&A might we do? The kinds of things that make sense to me, Matt, would be an end market deal in Nashville. And the thesis there is that you ought to get outside synergy since we like our distribution and might find an opportunity to put together an attractive deal in that vein. Similarly, an end market deal in Knoxville would make sense, really, for the opposite reason. The truth is, we've got about, round number, $650 million in loans in Knoxville with only 3 offices. And -- so we probably need some more distribution. Right now, the plan is, we'll just build it out on a de novo basis. But if we found an attractive opportunity that would accelerate our distribution, we would want to see that. And then I think the third category of things that might make sense to us from an M&A perspective would be fee businesses and, particularly, within that, wealth management businesses. You know we're in the trust business, we're in the brokerage business, we're in the insurance business. We make a little money in all of those businesses, but I don't believe we hit a satisfactory return threshold. They're important to us from a strategic standpoint. It's how we compete, it's how we move business from large regional banks. But it's -- we clearly don't have scale. And so if we were able to find opportunities to bolster those fee businesses and improve our scale, that would have appeal as well.

Matt Olney - Stephens Inc., Research Division

Okay. That's helpful, Terry. And then as a follow-up for Harold. Harold, it looks like the end-of-period securities balances increased for the first time in a few years. Is it safe to say that we'll continue to see the securities balance increase for the remainder of 2013? And if so, what types of products are you buying right now?

Harold R. Carpenter

Yes. We're buying the same stuff we've always bought, mid-level mortgage-backs. And -- but basically, where our balances on securities, we're probably at the low point. We mentioned that at the last call that we were, again, towards the bottom on our securities book, primarily due to our pledging requirements. That said, we're looking hard at our securities book right now and trying to figure out what we want it to do for the rest of the year, and that would involve public fund deposits and how we approach that business as well. So I think for now, we're status quo on the level of our securities book and where it's going to go this year, but that's kind of a point of active discussion within our company right now.

Operator

And our next question comes from Mac Hodgson from SunTrust.

Mac Hodgson - SunTrust Robinson Humphrey, Inc., Research Division

Just a couple of follow-ups. Harold, on the margin, I think you gave good detail. I was just curious if there was anything unusual in there related to prepayment fees, any impact from day count, things like that.

Harold R. Carpenter

Yes, the word I get on that, Mac, is that it was a minimal impact this quarter. It's been larger in prior quarters. It might have been 1 to 2 basis points impact this time. The margin was -- the liquidity issue that we mentioned on the call really pumped the margin probably another 2 to 3 basis points. We just held fewer Fed funds and liquidity sources this quarter, which helped. And then the first quarter is usually a quarter where you'll see some uptick in margin.

M. Terry Turner

Based on days.

Harold R. Carpenter

Based just on the number of days.

Mac Hodgson - SunTrust Robinson Humphrey, Inc., Research Division

And on the expense growth guidance you gave for this year, I think 2% to 3% kind of core, is that a reasonable long-term rate of growth for the company?

Harold R. Carpenter

I think -- we believe, yes. This is -- the short answer is yes. We just have a kind of belief that investors are going to require operators to increase operating leverage consistently over the next few years. So we're probably in the mid to high 50s on efficiency ratio. We think that investors are going to require that number to go down a few more points before they get satisfied that you're a good operator.

Mac Hodgson - SunTrust Robinson Humphrey, Inc., Research Division

Okay, great. And just lastly on -- if you could provide a little more color on the loan growth in the quarter. I know a lot of it came from commercial real estate. Could you give detail on how much of that was kind of investor versus owner-occupied, maybe product types and geography, Knoxville versus Middle Tennessee, and also just maybe where most of the paydowns came from, did it mostly come on the C&I side this quarter? Or did you also see a lot on the commercial real estate side?

M. Terry Turner

Well, let's take the paydown question first. We had more paydowns in C&I than any other category. I think Harold sort of walked through the basic for contributors to that volume of paydowns a minute ago. Mac, I will say this, who knows what the future holds. The most recent Greenwich data suggests that -- and let me maybe reiterate this other point. Harold also talked about line utilization and the fact that our line utilization actually contracted during the first quarter. As you know, a healthy economy generally drives line utilization higher as opposed to lower. And so that would give you some caution. Now having made those 2 points about the paydowns in the line utilization, the Greenwich data, and this is national data, not Nashville-based data, that the projections for the remainder of the year is that the fundings ought to increase at -- and they ought to increase and the paydowns ought to decrease in the next 3 quarters. Again, I can't substantiate to that. All I can do is give it to you. And -- so, again, I think that has some bearing on what ought to happen going forward. In other words, you ought to get growth in C&I based on line utilization. You ought to have a decrease in paydown so that your net growth continues to pick up. That's generally consistent with what our current roadmaps look like. The current roadmaps would have something less in terms of projected paydowns than what we had at this point in the first quarter and have something better in terms of loan growth than what we had at this point in the first quarter. So I think in terms of the growth, as you mentioned in the first quarter, a good part of that was commercial real estate. The bulk of that was income-producing properties. And I would say, the largest category in that growth would continue to be what I refer to as build-to-suit projects for credit tenants.

Mac Hodgson - SunTrust Robinson Humphrey, Inc., Research Division

And is it mostly, I imagine, Middle Tennessee versus Knoxville as far as originations?

M. Terry Turner

Yes -- well, yes. During the first quarter, that is true. But I would say, if you were to look at it over a 12- or 15-month period, the percentage growth in that category would probably have been higher in Knoxville than Nashville.

Operator

And our next question comes from Kevin Reynolds from Wunderlich Securities.

Kevin B. Reynolds - Wunderlich Securities Inc., Research Division

The question I have -- I had to hop on a little bit late, so you may have addressed this already. But inside the loan dynamics, there's seasonality and there's economic activity levels. But have you sensed the change in the competitive landscape, I mean, particularly with respect to the -- sort of the larger banks that you've been competing with day in, day out? Do you get the sense that they are less willing to give up their customers, say, in first quarter versus in prior quarters? Or is this -- is the competitive landscape about the same as it has been? Is there any change going on there?

M. Terry Turner

Kevin, that's a good question. I think I'd have to answer that, in the whole, it's about the same. Occasionally, you see on really high-profile marquee accounts. They'll sort of dig their heels in and say, "We're not going to lose it at any price." But I would say, broadly, it's the same.

Kevin B. Reynolds - Wunderlich Securities Inc., Research Division

Okay. Has there been any change with the smalls?

M. Terry Turner

No, I don't think so. I think that -- I think there would be 0 change there.

Operator

And our next question comes from Michael Rose from Raymond James.

Michael Rose - Raymond James & Associates, Inc., Research Division

Just 2 quick follow-up questions. I noticed deposits declined quarter-to-quarter, and your loan-to-deposit ratio is creeping up there. Any impact from the TAG -- the expiration of the TAG and the kind of -- is the goal here to keep that ratio under 100%?

Harold R. Carpenter

Yes, that's a good question, Michael. First of all, from a loan-to-deposit ratio, we don't have any stated objective about that. So there's no goal to keep it below 100%. As for the TAG program, we've tried to research that 9 ways to Sunday to figure out if there was a meaningful and significant impact for the elimination of the TAG program. And we've surveyed account officers. We've done all of that. We've had a couple of hits, but there have been, in no way, any meaningful kind of a reduction because of the TAG program going away. The deposits did fall in the first quarter. We anticipated that with respect to a few depositors that came in at the end of the year. We knew there would be some funds leaving the bank shortly after year-end, and that did happen. But we also had some larger corporate depositors here at the end of the quarter that needed their money for distributions to partners and others. And so we're hopeful and, actually, we believe, will occur, that those funds will replenish over the next several quarters. So as far as accounts -- not losing accounts, we are having some pretty strong heart-to-heart discussions with some depositors who, we believe, still, their rates are outside the market. But not -- we've not, I don't believe, lost any meaningful deposit accounts to a competitor, in recent memory anyway.

Michael Rose - Raymond James & Associates, Inc., Research Division

Okay. And then just switching gears. I noticed that the mortgage loans sold this quarter were down by $11 million or $12 million quarter-to-quarter, but the gain on sale margin appears like it has gone up pretty consistently. Can you kind of explain what's driving that?

Harold R. Carpenter

Well, I think it's just more attentive pricing on our part. I don't know of any specific reason why the spread number went up this quarter.

M. Terry Turner

Michael, I would say candidly that some of it has been influenced by the compensation limitations as a result of regulation, which really effectively prohibit mortgage originators from having an incentive to bid down that yield spread premium. And -- so, again, because of that change, it forces a centralized pricing that's got more discipline and actually has widened our yield spread premium.

Michael Rose - Raymond James & Associates, Inc., Research Division

Okay, that's helpful. And one more, if I could. I noticed that the employee headcount quarter-to-quarter was down about 10 employees, not that great. But kind of what's the outlook for hiring? Do you have anybody in -- particularly on the lender side, in the process now? And I did notice that your associate retention rate did go down a little bit quarter-to-quarter.

M. Terry Turner

Yes, the -- just so you know, on associate retention rate, that's all in. We count everybody. A lot of people give you voluntary turnover and all that kind of stuff. So we give everybody that leaves is included in the turnover. And I would say, I think we've tried to hit at this over the last several years, that what we're trying to do is to optimize the throughput of our people so that if we have folks that are not at their maximum level of production, we've got a plan to get them there. If we don't think they're going to get there, we'll swap them out and add somebody back in that we think can get there. So if you get just a little bit of turn -- churn there on the friction, but again, we actually made a couple of good hires in the first quarter that are revenue producers and have a couple more, I would expect, to make in the second quarter as well that would -- should be pretty large revenue producers. So a lot of it is just optimizing headcount.

Operator

And our next question comes from Brian Martin from FIG Partners.

Brian Joseph Martin - FIG Partners, LLC, Research Division

Guys, most of my questions were answered here, but maybe just 2 things. Terry, was there -- what was -- given that headcount reduction this quarter, what was the net change in lenders in -- from fourth to first quarter, just in that component?

M. Terry Turner

Brian, I can go look for the answer, but I can't recite it off the top of my head.

Brian Joseph Martin - FIG Partners, LLC, Research Division

Okay, that's fine. I thought it was easy. You knew it, that's fine. If not, maybe just one other thing, Terry, and that was, I guess, has there been a change, I mean, in your -- you talked about your M&A outlook or just the possibility that maybe something is out. In the past, it kind of seemed as though you've been more interested in hiring a group of folks like you have and going to a market, whereas now, maybe it seems as though M&A may be more of a possibility, I guess. Is there any change in your outlook with M&A? Or has that just always been the same way?

M. Terry Turner

Yes, I don't -- I guess -- it's an interesting thesis there. I guess as it relates to going to other markets on a de novo basis, my interest in that has not changed in any way. I just view it to be opportunistic. And when and if we find the right group, we would seize it -- so there's no change there. And I don't -- I think the outline that I gave today about the kinds of acquisitions that we would pursue, I hope that's the same outline I've been giving for the last year or more. I do have a belief, and it's -- I hate to use this word, but it may be a little more intuition than fact-based. But I do have a belief that the bids and asks are perhaps in a position where they can get closer than I would have thought a year ago. And so, again, that might mean there would be a little more -- it would increase the likelihood you might do more M&A just because I think bids and asks are getting closer.

Operator

And our next question comes from Bill Dezellem from Tieton Capital Management.

William J. Dezellem - Tieton Capital Management, LLC

Would you please characterize what you view as the growth opportunities for Pinnacle today versus how you were viewing them back in the mid-2000s? And I think you partially answered this question before, but I'm hoping you would be able to encompass all aspects of that question.

M. Terry Turner

Bill, let me get clear, you're looking for a characterization of our growth outlook today versus in the early 2000s?

William J. Dezellem - Tieton Capital Management, LLC

Yes, early to mid-2000s. And not just your growth outlook but your ability to grow because you are larger today than you were then, but you have expanded into Knoxville, whereas you weren't there before, and you're early there. You have made reference to wanting to, at some point, if the opportunity presents itself, not only consider Memphis but consider Chattanooga. And so there are lots of pieces to that question, I think.

M. Terry Turner

Yes. Yes, I think I got it. I'll take a stab at it. And if I'm not dealing with what you want, you can redirect me here. But the -- as you alluded to, when we started this company, we started in 2000. We had a in-house limit of $1.8 million. That's our -- that was our in-house loan limit. And so to that point, an average credit risk in this company would have a $15 million limit, and above average risk would have a $25 million limit. So that's one aspect of growth. We're in a position where we can handle virtually any business in Nashville and Knoxville, whereas when we started in early days, we would have been constrained by our size, by our capital levels and by our lending limit. So that's an aspect of growth that I would characterize as being much better today than in the past. I think in conjunction with that, our position in the marketplace is better. When you start, you got a lot of people that will root for the hometown team, but you got a lot of people that said, "Boy, I need to watch that for a while before I start moving my relationship." And, of course, our credibility and mass in the market with 16% lead share in Nashville, we're -- these would be my words. I believe we are the go-to bank, if you look at the -- some of that Greenwich data I tried to include in the presentation about how people view this company and their likelihood that they would add us as a provider and what our existing customers think about us and their likelihood to recommend. Again, all of that stuff would point to a greater growth potential today than in the early 2000s. The market extensions that you mentioned, we've always talked about those market extensions, but of course, to make those decisions as a smaller company would be a lot more difficult than it would be to do that today, if we had the opportunity. So I think on a -- across a broad set of variables, it would seem to me that most of those things would point toward a better growth profile than that in the past. I think the lenders are, "How much share can you build?" We're at 16% lead share. My recollection is, when we were First American in this market, there were periods that we were north of 30% in terms of lead share. So, again, there's plenty of running room left. But at some point, you would have accumulated all the share that you could get, that would be a lending factor. And then, of course, the truth is, the economic profile is less healthy. Those periods were periods where you had expanding working capital cycles and people growing and leverage increasing. And that's not really the economic cycle that we face. So we're -- I won't say exclusively but largely dependent on our ability to move market share.

Operator

And I'm showing no further questions at this time, gentlemen. This does conclude our conference call. Ladies and gentlemen, thank you for participating, and have a wonderful day.

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