Executives
Amy Urn – Director of Communications
Larry Richman – President, Chief Executive Officer
Kevin Killips – Chief Financial Officer
Kevin Van Solkema – Chief Risk Officer.
Analysts
Steven Alexopoulos – J. P. Morgan
Terry McEvoy – Oppenheimer
Lana Chan – BMO Capital Markets
Anthony Davis – Stifel Nicolaus
Daniel Arnold – Sandler O’Neill & Partners
David Long – William Blair
Daniel Cardenas – Howe Barnes
PrivateBancorp, Inc. (PVTB) Q3 2009 Earnings Call October 26, 2009 8:00 AM ET
Operator
Welcome to PrivateBanCorp third quarter 2009 earnings conference call. (Operator Instructions) I will now turn the call over to Amy Urn – Director of Communications, PrivateBanCorp, Inc.
Amy Urn
Good morning and welcome to our third quarter 2009 earnings conference call. Participating in the call this morning are Larry Richman, PrivateBanCorp President and Chief Executive Officer, Kevin Killips, our Chief Financial Officer and Kevin Van Solkema, our Chief Risk Officer.
Private Bancorp’s’ third quarter 2009 earnings press release was distributed today and is available on our website at www.theprivatebank.com. Before I turn the call over to Larry I’d like to read our safe harbor statement.
Statements made during this conference call that are not historical facts may constitute forward-looking statements within the meaning of Federal Securities Laws. Management’s ability to predict results or the actual effect of future plans or strategies is inherently uncertain. Factors which could have a material adverse affect on our operations and future prospects are disclosed in the filings we make with the SEC including our Form 8-K dated today related to our third quarter 2009 results.
You should consider these risks and uncertainties when evaluating any forward-looking statements and undue reliance should not be placed on such statements. The company assumes no obligation to update publicly any of these statements in light of future events. Now I will turn the call over to Larry Richman.
Larry Richman
Good morning everyone. I’d like to thank you for joining us. We apologize for any inconvenience with the change in our start time. This morning we made several important announcements including our third quarter results and $175 million common stock offering and the appointment of Brant Ahrens as Chief Operating Officer.
We are going to focus our comments this morning on our third quarter results. As indicated in our press release this morning we recorded a significant third quarter loss. The economic conditions continue to weight heavily on many of our commercial real estate borrowers, and the events during the quarter led to a significantly higher provision than we recorded in the second quarter.
We are keenly focused on these credit quality challenges and are taking quick action to continue our remediation of these problems. Unfortunately, the environment has not improved and therefore we believe that stress will continue in the portfolio for the near term. Kevin Killips and Kevin Van Solkema will walk you through the numbers and the actions we took in the credit portfolio in more detail in a moment.
We’re almost exactly two years into the execution of the strategic growth plan, and there has been no shortage of challenges given the economy, credit conditions and the operating environment for banks.
However, I can positively say that we have been deliberate and focused in managing our business through this economic downturn and this has allowed us to build a foundation to drive future revenue, operating profit and shareholder value.
Credit risk and the costs associated with managing credit issues realistically remain the greatest threats to our near term financial performance. The actions we’ve taken in our credit portfolio, the capital raising that we have done, the client base that we have developed and our continued growth in market share position us to drive long term shareholder value.
When you carefully look at the progress in each of the recent quarters, our revenue growth, client deposit growth, margin expansion and disciplined expense control led to continued core operating profits, and that tells me our strategic growth plan remains a powerful engine.
Let me walk you through key positive developments in our third quarter results that lay the foundation for future success. While the pace of loan growth is deliberately slower than what we saw a year ago, we remain an active lender, employing selectivity, and the underwriting standards that have been our practice since the launch of the strategic growth plan.
Our client deposit growth continues to be very strong, bolstered by the Founder’s Bank transaction. We also saw strong gains in Treasury management and in demand deposit growth. This is a real sign of the depth of relationships we’re building with our clients.
In fact, since the launch of the strategic growth plan in November 2007 we have added over 700 new client relationships, all with the potential to use the variety of additional products and services that we have built.
We are extremely pleased with the Founder’s Bank transaction. This transaction was immediately accretive to our earnings and the integration is proceeding according to our expectation, giving us a strong platform for cross sell, new business development and core funding.
We also have a management framework in place that will allow us to execute on similar FDIC assisted transactions in the future.
We said at the beginning of this year our focus was on the execution of our strategic growth plan and creating consistency in our operating results. While we believe we are executing on that plan and achieving many important milestones along the way, we know we have failed to achieve the consistency in our results we have set as a goal this year.
This is due almost entirely to the continued instability in the economy and the challenges in our loan portfolio. We are addressing these issues directly and are aggressively focused on our credit portfolio. Our core business continues to generate positive operating results as reflected by the significant revenue growth and pre-provisions earnings growth.
We remain committed to our plan, committed to our vision of being a leading commercial middle market bank in all of our markets and to be Chicago’s home town commercial bank.
Make no mistake, the company has been transformed. We have a clear vision and a plan to get there. At the core of that plan are strong people who make up our team and the solid infrastructure we have built to support them.
We are confident in the foundation we have built for future performance and believe we will continue to achieve the goal of the strategic growth plan. Now Kevin Killips will walk you through the numbers.
Kevin Killips
Good morning. For the third quarter 2009 we reported a net loss available to common shareholders of $31.2 million or $0.68 per diluted share. This compares to a net loss of $7.8 million or $0.25 per diluted share for the third quarter of 2008.
This result is primarily attributable to the increase in our provision which stood at $90 million for the third quarter. Kevin Van Solkema will discuss asset quality in detail in his update, but as Larry mentioned, we are taking the necessary steps to address credit quality issues.
During my review of the quarter, I will include a few specific items on the impact that the Founder’s transaction had on the quarter. I believe that these will add clarity in this initial quarter after the transaction.
Net revenue, defined as a sum of net interest income on a tax equivalent basis, plus non-interest income, grew 6% to $101.2 million from $95.8 million at the end of the second quarter and grew 55% as compared to a year ago. This quarter’s net revenue included $11.5 million from Founder’s.
Net interest income grew 18% over the second quarter to $87.4 million from $74.1 million and was $52.6 million for the same period a year ago. This quarter’s net interest income included $9.8 million from Founder’s.
The increase over the second quarter was driven by the impact of Founder’s and the continued improvement in net interest margin. Net interest margin increased 10 basis points to 3.09% for the third quarter compared with 2.99% for the second quarter of 2009 and compared to 2.7% for the same period last year.
Founder’s contributed 16 basis points to the improvement in our margin over the second quarter which helped to offset the costs associated with carrying increased non-accruing loans which diluted the margin by approximately six basis points.
Non-interest income dropped 38% from the second quarter to $12.9 million from $27 million and was up 10% from a year ago. Founder’s again contributed $1.6 million to non-interest income this quarter.
On a core basis, excluding the impact of security gains and losses and the early extinguishment of debt, non-interest income decreased by $1.4 million due primarily to the decline in capital markets, products contribution which swung to a negative position this quarter.
As we’ve mentioned in prior quarters, the CVA adjustment has an impact on our capital markets business. This quarter’s capital market activities resulted in a negative revenue position of $322,000 as compared to income of $3.8 million in the second quarter.
The third quarter results were comprised of client fee revenue of $2 million offset by a $2.4 million negative CVA adjustment. Additionally, capital market fees were affected by the rate of loan growth and our clients’ interest rate expectations.
Our Treasury management group saw a strong 45% growth in revenue in the third quarter to $3.1 million from $2.1 million in the second quarter and $600,000 a year ago. We believe that the growth in non-interest bearing deposits during the quarter and over the prior years have shown the increased penetration in our client’s transaction based activities.
Mortgage banking income declined 32% from the second quarter to $1.8 million, but more than doubled over the third quarter 2008. Banking and other service income increased by more than $2 million in the third quarter due to a combined increase in loan and letter of credit fees as well as service charges at Founder’s.
The private wealth group fee revenue increased 17% to $4.1 million in the third quarter from $3.5 million in the second quarter and compared to $4.1 million a year ago. Assets under management grew 26% in the third quarter to $4 billion and were up 19% over a year ago. $455 million of assets under management this quarter related to the Founder’s transaction.
Our operating expenses decreased 11% during the quarter to $56.8 million which includes $8.7 million in Founder’s related expenses. Included in that $8.7 million is $3.1 million which are transaction related.
Expenses decreased over the second quarter due in part to the reduction of salaries and benefits including a reversal of $9.8 million in our incentive compensation accrual and the absence of an FDIC special assessment this quarter.
Offsetting these decreases were increases in net foreclosed property expenses, the aforementioned increased of professional fees relating to the Founder’s transaction and $1.5 million of expenses related to a repositioning effort within our work force. Our efficiency ratio for the quarter was 56.2% as a result of lower operating expense levels. This is comparison to 66.8% last quarter and 72.2% in the third quarter of ’08.
Now if we take a look at deposit and loan growth, deposits in total increased by 15% over the second quarter to $9.6 billion from $8.3 billion and were up 28% from $7.4 billion at the end of the third quarter of 2008. Founder’s contributed $794 million in deposits this quarter. We have seen a modest increase in their deposit base since our acquisition.
Client deposits, an important measure of our relationship with our clients, increased 21% to $8.9 billion up from $7.4 billion in the second quarter and $5 billion in the third quarter last year. Within our portfolio we have certainly seen a shift to a greater percentage of non-interest bearing, interest bearing and money market accounts and a shift away from broker deposits.
We have been stating for a number of quarters, it is our continued goal to decrease our reliance on broker deposits, thereby decreasing our cost of funds. Broker deposits including traditional brokers, plus non client CDR’s now comprise 7% of the portfolio as compared to 11% at the end of the second quarter and 33% at the end of the third quarter of 2008.
If we turn to loans, total loans increased 3% to $9 billion from $8.7 billion last quarter and were up 21% from $7.4 billion a year ago. We continue to be an active lender in all markets we serve and are adding loans that are appropriate for our relationship based portfolio.
Let me make a couple of comments on capital, then Kevin Van Solkema will talk about asset quality. As of September 30, 2009 the company had a total risk to capital ratio of 13.4%, exceeding the 10% threshold to well capitalized. Our tier one based ratio was 11% well above the 6% level required to be well capitalized.
Additionally, our tangible common equity ratio was 6% at the end of the third quarter 2009. Now let me turn it over to Kevin Van Solkema.
Kevin Van Solkema
Our operating results reflect a significant deterioration in our commercial real estate portfolio, and the addition of a handful of commercial loans that became non performing in the quarter.
The weakness in the general economy and in particular with commercial real estate with higher vacancy rates, very limited sales activity, a little financing activity, all together have impacted our portfolio quality to a meaningful level.
We have moved some commercial borrowers to non performing as a result of declining revenue and strained cash flow. We also have two shared national credits that moved to non performing. We are seeing limited liquidity at both the borrower and non core level. In some, we are observing an escalation of negative trends and borrower doubts over and above what we have previously observed.
With that said, non performing loans increased to $360 million, up from $183 million at June 30, or 3.99% of total loans. The concentration of non performing loans including those new to this quarter are commercial real estate and commercial construction loans. In addition, we had $33 million of commercial loans which moved to non performing loan status during the quarter.
Our allowance for loan losses increased this quarter to 2.14% from 1.60% at the end of the second quarter and up meaningfully from 1.37% a year ago. Our third quarter provision for loan losses was $90 million, up from $21.5 million in the second quarter, reflecting our judgment of maintaining a loan loss reserve level appropriate to our loan portfolio position and broader market conditions.
Loans charged off were $40.1 million offset by recoveries of $2.8 million resulting in net charge offs of $37.3 million in the quarter. Charge offs have escalated and reflect real estate collateral values which have fallen appreciably especially land values.
I want to address several important points relative to asset quality this quarter. First, why non performing loans increased at the rate they did in the third quarter, second, shared national credits and their impact on our quarter’s asset quality performance, and third, actions we have taken to appropriately address the portfolio deterioration and finally on reserve adequacy, why we believe the reserve is adequate in relation to the inherent losses in the portfolio.
Let me begin by providing some more background on the large increase in non performing assets during the quarter. During the third quarter continued economic stress was evident across most business sectors with slippage in our portfolio largely driven by weakness in real estate term and construction loans.
In addition, the economic slowdown has caused top line revenue declines for several commercial enterprise borrowers which were entirely identified and downgraded. Lastly, as I mentioned, two shared national credit totaling $37 million were transferred to non performing loan status.
Overall, non performing loans increased meaningfully in the quarter, most of it due to specific transaction events but with common themes. First, borrower defaults after their re-financing options were terminated, borrowers with sale and lease contracts which terminated, borrower bankruptcies, borrowers paying as agreed in spite of negative property cash flow now exhausting their capacity to continue out of pocket.
When I evaluate the population of accounts that migrated to non performing loans in the quarter, here’s what we see. 16 accounts over $2.5 million in outstanding moved to non performing in the quarter. 13 of the 16 accounts were commercial real estate loans that defaulted during the quarter. The other three accounts were related to commercial enterprises.
Those 16 accounts represented $136 million of the total $177 million of non performing loan increase or 77%. The largest account moved to non performing was $21 million followed by three accounts between $10 million and $20 million. And of the $136 million, $103 million related to commercial real estate loans and $32 million to commercial.
Let me next address the second contributing sector, our shared national credit loan population. These loans by definition are larger, over $20 million in which three or more regulated financial institutions participate in a lending relationship.
The PrivateBanc does not generally purchase loan participation unless there is a prior banking relationship with the client, and where we expect to be awarded the deposits or other meaningful banking services. As of September 30, the company held shared national credit exposure with approximately 79 borrowers representing commitments of $1.6 billion.
Of these relationships two were downgraded to a rating which directed non performing loan status totaling $37 million. Overall, it is important to note that the company’s shared national credit ratings were better than the national gradings.
Now let’s turn to the actions taken. During the third quarter we took additional steps to gain better insight into our loan portfolio and to ensure the portfolio is properly risk rated. These actions were in addition to our ongoing and disciplined process to review all loss loans and worse each quarter.
Because of our concern over the pace of deterioration, and due to our concern about the weakening environment, especially for commercial real estate, we embarked upon a targeted portfolio review of our commercial real estate loan exposures much like we did with the residential development portfolio we completed late last year.
We concentrated upon those segments of the portfolio where the weakness was coming from. During the quarter, we reviewed approximately 50% of the entire banks loan portfolio including substantially all commercial real estate loan exposure over $500,000 and most exposures prior to November 2007.
The reason the newer loan originations were not reviewed is our confidence in the underwriting of these credits during the past two years and their relative performance to date. The review allowed us to have better insight into the market place and to take the appropriate actions to mitigate credit quality deterioration.
Our outlook for the fourth quarter is that non performing loans will continue to grow, but not at the same rate as we experienced in the third quarter. Property values may have bottomed, yet market place demand and employment remains anemic and will result in additional defaulted loans.
Turning to the allowance for loan losses, the significant higher provision expense is a result of the market deterioration within our portfolio, our outlook on the broader economy and the related stresses on our clients.
We further strengthened the loan loss reserve coverage to 2.14% from 1.60% at June 30. We are satisfied with this level of coverage given the loss factors used in our methodology and the extensive review of the weaker performing loan portfolios we completed once again during the quarter to validate loan level risk ratings.
In addition, when one considers the increase in the allowance for loan losses driven by a loan by loan impairment analysis, and our historical loss severity, the increase of allowance is proportional and appropriate to the non performing increase. In fact, our total allowance to annualize net charge offs is nearly three times, even with the higher charge offs this quarter of $37.3 million.
To conclude, it is important to recall the company does not hold any troubled debt restructured loans on its balance sheet and does not restructure problem loans to defer or delay problem loan status.
In addition, our policy remains that we do not hold any 90 plus day past due loans in accrual status. Instead, we move them to non performing status once the 90 day mark is breached. Our past dues for the quarter ended September 30, were once again respectable at 77 basis points. All past due loans are closely monitored and the administration of them is rigorous.
Larry, over to you.
Larry Richman
We will open up the call to questions in a moment, but I want to reiterate a few key points. Kevin has given you a very thorough insight into our credit portfolio, and the actions we’ve taken relative to the deterioration we’ve seen.
This should send a strong message that we are determined to continue a disciplined and proactive approach to credit risk management. This approach to credit risk management and the actions we are taking to strengthen our balance sheet will drive future financial performance.
We continue to achieve strong operating performance and I believe that is a good indicator of how we’re positioning our company to take advantage of the opportunities that will emerge when the economy improves.
With that said, we expect weakness to continue into 2010, and that will affect credit quality. But as I said before, we believe our strategic growth plan is a fundamentally sound guide for our business and we believe it still has the muscle needed to generate long term value for our shareholders.
We’re going to move to your questions now. I will ask that you limit your questions only to matters related to our third quarter and year to date performance. We will not be addressing questions related to the common stock offering that we announced this morning. We will now begin the Q&A.
Question-and-Answer Session
Operator
(Operator Instructions) Your first call comes from Steven Alexopoulos – J. P. Morgan.
Steven Alexopoulos – J. P. Morgan
Larry, if we look at the $150 million increase in non performing assets X the share national credits, what portion of the increase is coming from the loans that defaulted in the quarter versus the portion coming from the deep dive into the commercial real estate book?
Larry Richman
I’ll ask Kevin Van Solkema to speak to that.
Kevin Van Solkema
I want to understand your question. Your question is which portion of those that transferred to non performing loan status in the quarter came from the portfolio review that I referenced in my comments?
Steven Alexopoulos – J. P. Morgan
Yes, versus the loans that actually defaulted in the quarter.
Kevin Van Solkema
I would say probably 70% of those transferred to non performing this quarter actually defaulted this quarter from specific events that I cited those common themes around. And then were some others that we identified through the portfolio review process that we felt it was appropriate to move to non performing because of the weak underlying collateral or the stock clause on the horizon for the borrower’s capacity to continue to pay.
Steven Alexopoulos – J. P. Morgan
Given the magnitude of pressure you’re seeing in the commercial real estate book and on the shared national credit, is there any pressure from the regulators to slow loan growth?
Larry Richman
The answer is we have a very good active relationship with our regulators and there is no pressure from them, yet at the same time they understand that our plans are proper and right and they understand. As I had mentioned, we meet with the regulators on a quarterly basis, so they’re up to date on our plans and our business plan. But there are no formal pressures at all.
Steven Alexopoulos – J. P. Morgan
Of the $1.6 billion of shared national credit, how much of those were put in the portfolio after the strategic growth plan was put in place and what percent of those are you actually lead bank on?
Kevin Van Solkema
All of them have been put under the portfolio after November 2007, so there were no shared national credits in the legacy portfolio. As far as our agenting the credits, we’re about slightly under 20% of the dollars is what we lead as agents.
I think this might be a good time to just offer a little bit more color about the shared national credit population that we have. I think the skepticism is that we’re out buying credit, we’re blowing up the balance sheet by just buying small pieces of loan participation opportunities that we do not really know the customer or know the management.
And that’s quite contrary to what we’ve been doing here. These are almost in every case customers that we have previously done business with, and as I said in my remarks, where we expect meaningful deposit or fee income opportunities and in fact we’re getting that.
If I look at the population of shared national credits in which we participate, over half of them to date, we have already realized meaningful deposit or fee income from already and I think another important point is that in every case, we know the CFO and CEO personally, and our line of business leaders have that connection.
So we are not just out buying credit. These are relationship loans that happen to be in the shared national credit population.
Operator
Your next question comes from Terry McEvoy – Oppenheimer.
Terry McEvoy – Oppenheimer
Just looking at the inflow of NPA’s in the third quarter how much of that came from credits that were on the books prior to November ’07 versus those that were originated after that date?
Kevin Van Solkema
Over 60% were from credit originated prior to November 2007 and that’s measured as a percentage of dollars. When I look at the numbers of accounts, we’re about 90% of those accounts that actually moved to non performing status in the quarter was from what I’ll call the legacy book.
Terry McEvoy – Oppenheimer
And the $103 million of increase in CRE NPA’s, how much of that would you define as coming from your national business focus versus maybe your local end market CRE focus?
Kevin Van Solkema
I don’t have an exact percentage but certainly I’d be comfortable to say 90% comes from end market lending activity. These are not loans in California, Florida, markets where we have in my opinion little business to be doing lending there, so these are local credits.
Terry McEvoy – Oppenheimer
If I go back to November of ’07, stock was $0.26 and this was right at the transformation equity awards plan, I believe that was the name announced and two-thirds was performance, one-third stock performance, and the world has changed significantly over the last two years. As you look at that compensation plan two years into it, is there any thoughts at all in changing it? Could you change it, or are you committed to what’s going to happen over the next three years?
Larry Richman
We have no plans at this time to alter these awards. Further, we’re still very committed to the goals of the strategic growth plan. Keeping our people however, is really critical to us and also their success. We’ll continue to review our compensation alternatives to accomplish retention and motivation and we recognize the issue. But at the same time, at the moment we have no plans to alter these awards.
Operator
Your next question comes from Lana Chan – BMO Capital Markets.
Lana Chan – BMO Capital Markets
I wanted to see how much you’ve marked down the non performing assets. Do you have an average discount on how much you’ve taken on the marks and a follow up to that is how comfortable are you with the loan loss reserve coverage ratio as a percent of non performing loans which fell to about 54%>
Kevin Van Solkema
Let’s take the last question. I think that will lead to answering your first. I am very comfortable with the level of allowance to non performing loans even though as it did fall as you say basically to 54%.
The reason I say that is that as part of our reserve process, we really have two components of it. The first would be to specifically evaluate the impairment on each and every one of our non performing loans and where we have a collateral shortfall or a shortfall concerning the net present value of future cash flows against the existing the loan.
We establish a specific reserve against that amount and that’s part of the reserve of course that we have. So when I look at the non performing loan population, I’m comfortable with that level of coverage even though it has fallen.
And then to second part about how much have we marked them down, where we have the need for a mark, and we’ve established a specific reserve on the net population of loans, the loss severity that we’ve experienced and continue to see is about 35%.
Lana Chan – BMO Capital Markets
When you talk about the valuation of the commercial row of the portfolio or most of the portfolio this quarter, what did that entail? Did that entail re-appraisals of the commercial real estate loans that you looked at or what other review process did you take to review the loans?
Kevin Van Solkema
I wouldn’t actually call it an evaluation or a valuation process. It was really a review of all of those exposures with the principal outcome being first of all, do we have it risk rate properly, have we identified the risk and the transactions that are reflective in our risk ratings framework on that loan.
The other thing we did was of course to ask about what is happening with the underlying project and the property and then from that, make a determination if accrual status was still warranted or not.
So we did not go out and time did not permit going out to get all new appraisals on these loans. That would be a lengthy process and quite an expensive one, but we certainly are realistic in our assessment of the underlying property, and importantly the capacity of the sponsor to continue to support it as well, but not just looking at our project depth but looking at their global cash flow, their level of contingent liabilities and their ability to continue to service all their debt, our included.
Operator
Your next question comes from Anthony Davis – Stifel Nicolaus.
Anthony Davis – Stifel Nicolaus
I think last quarter Kevin, the increase in NPL’s were kind of concentrated in Chicago and Milwaukee. I wonder if you could give us a bit more color on where you’re seeing the most stress within your major markets.
Kevin Van Solkema
If I said Milwaukee last quarter, that would have been a mistake because Milwaukee office doesn’t have any non performing loans as it turns out. It has not had. But the increase this quarter is substantially in Chicago. We had a bit of a bump in St. Louis. But Michigan, in spite of its relative high level of non performing, when you look at its proportion to the rest of the portfolio, it had a marginal increase and I hope that’s a function of how much we’ve gone through that portfolio and the fact that that economy has been bad over there for so long that we won’t see a lot more increase.
But to answer your question, the increase was predominantly in Chicago and as I said earlier, mostly in our market.
Anthony Davis – Stifel Nicolaus
Can you give us any color on the size of the potential risk as you describe it today versus where you may have been in June?
Kevin Van Solkema
I don’t understand your question.
Anthony Davis – Stifel Nicolaus
Your writes list either today or the financial problem loan list today, if you could disperse that, how big is the potential that you see out there for stress credits versus June 30?
Kevin Van Solkema
We don’t disclose our internal watch list. I think that’s something that is quite unusual to do and we’re not going to go there and disclose the level of watch loans that we have. I will say that as the guidance indicates for the fourth quarter, we do expect the continued non performing levels to be meaningful and to increase further.
There’s just a lot of uncertainty in the market place. We see values that have fallen meaningfully in the quarter again as we have gotten new appraisals at time of renewal and the capacity of our borrowers to continue to support it has been eroded significantly.
So I appreciate the guidance is broad, and it’s probably not that helpful to you. Listening to my comments myself, but I just can’t give you more specific comments on that.
Operator
Your next question comes from Daniel Arnold – Sandler O’Neill & Partners.
Daniel Arnold – Sandler O’Neill & Partners
I wanted to see first of all how big the national commercial banking business was at this point. I think it was $2.4 billion at the end of the second quarter.
Kevin Van Solkema
It’s a little misleading because that includes our regional offices. When you look at the national and commercial banking which is the larger commercial loans, so that would be predominantly the shared national credits, that is about $700 million to $800 million in commitments, so it’s important to take out the regional offices from the national commercial banking line so you’re left with I’ll call more of the larger credits.
National commercial banking had about $750 million in commitments for the shared national credit population.
Daniel Arnold – Sandler O’Neill & Partners
So some of the shared national credits are outside of that.
Kevin Van Solkema
Right, because you’ve got a few in commercial real estate, like less than a dozen. And then you’ve got almost an equal commitment as far as dollar size in our Illinois commercial banking unit right here in Chicago.
So again, I think it’s important that one doesn’t throw snicks into a broad bucket, but you start to dissect it and hopefully my comments are helpful to you that way that it’s yes, some of it is in national commercial, a little bit with commercial real estate and then a nice share, almost half right here in Chicago from our Illinois commercial banking unit.
The other thing I looked at was how many of these credits that we participate in have what I’ll call five or less banks participating. So I don’t know if this nomenclature means anything to you but what we call sometimes club deals, so they’re local banks participating with us. That meets the definition of a shared national credit when you roll it all out. 40% of all of our shared national credits are part of that club type deal population.
Daniel Arnold – Sandler O’Neill & Partners
I guess I’m kind of looking the other way of things that maybe you aren’t the lead on, but that aren’t classified as shared national credit either because there’s less than three guys or they don’t meet the dollar amount. Do you have any sense of what that is of commercial credits where you aren’t the lead but don’t meet the shared national credit guidelines?
Kevin Van Solkema
You’re talking about credits that would be done where we have one other participant. There’s a handful of those.
Daniel Arnold – Sandler O’Neill & Partners
Or they’re not big enough to meet it.
Kevin Van Solkema
I don’t think that population is meaningful as I think about it.
Daniel Arnold – Sandler O’Neill & Partners
I wanted to ask about the capital markets revenue. Obviously you took a little bit of a loss there. As you look out, what are your expectations for the revenue there and if rates were to go up, what would be the effect of that on that line item?
Kevin Killips
As we said the last couple of calls, and I think most of us all know that the capital market business that we have which is really a rates business whereby our customers buy interest rate deals from us to protect their own balance sheet is choppy.
It’s based on client expectations as we said of their interest rate environment. So if we think about the impact of this, I believe that if we see some level of volatility or some level of discussion in the market place about an increasing rate environment, I believe that we will probably see that volume increase.
But the level of fees and the level of other income that we derive from that is not only based on that volume, but it’s also based on the size of the deals. It’s also based on the length of the deals. So if you get a deal that’s five or six years in length, that could throw up more revenue than if you had a deal three years in length.
So the long answer to a short question is if we see a change in the interest rate environment or we see our clients have an expectation of a change in the interest rate environment, I believe that that business can start to grow. But it is dependant on a lot of factors, duration of the deal, size of the deal and how fast the clients want to kind of recalibrate their own balance sheet.
Larry Richman
Let me just add that this continues to be a very important cross sell product for us, one that our clients continue to need and when rates change, go up or go down, and they won’t go down much, but go up, that creates more interest on their part, and we have the capabilities to provide it.
Daniel Arnold – Sandler O’Neill & Partners
What caused the valuation adjustments this quarter?
Kevin Van Solkema
If you remember what the CVA drives, it’s a combination of the relative credit valuation adjustment or the mark on us versus our clients and also on us versus the street. So as the client’s relative credit valuation changes versus us, or us versus them, there’s some movement there.
And it also relates to how we change relative to our street partners and it is a counter-intuitive move. So if our relationship to our clients changes positive, that ends up with a negative and vice versa. So it’s kind of a little of a lot of things to be honest with you.
Daniel Arnold – Sandler O’Neill & Partners
On the compensation expense, I know there was a reversal in the third quarter. If I’m looking at a run rate, would I be adding that reversal back on or will the incentive comp accruals be less and we should be at a lower level than we were in prior quarters, X Founder’s?
Kevin Killips
What we’ve done, I think it’s pretty straightforward. There was an amount that was accrued based on our understanding and our expectation of performance in the first two quarters. As this quarter developed, and as we printed results for this quarter, the performance was not to say the least, up to par which would require under a number of our performance based compensation plans for us to go in an change those accruals based on the performance of the company, vis a vis the plans.
As to expectations, I think that we kind of are where we are today based on performance and I’ll ask Larry if he wants to add anything to top that comment off in a broader way.
Larry Richman
I guess the way to look at it is, bonuses are based on performance and they will be limited until performance improves. That being said, there will be some modest bonuses paid to high performers and we are very, very concerned and very, very committed to our employees and very committed to keeping the team together motivated and retained. But with that said, bonuses are based on performance.
Daniel Arnold – Sandler O’Neill & Partners
I know there were some one time costs associated with Founder’s and also I think you had some changes in your employment and stuff and I’m sure there were some one time costs in that and I think you might have gone over, but could you give me what those numbers were?
Kevin Killips
Let me go back to my numbers here, but I believe that we talked about as it relates to the third quarter, we had about $3 million in the third quarter related to specific transactional costs related to the Founder’s acquisition, and then we also made a comment that we raised an expense of about $1.5 million relative to the costs of some work force restructuring and those clearly are not repeatable.
Operator
Your next question comes from David Long – William Blair.
David Long – William Blair
Just to follow up on that last question, the $1.5 million cost of work force restructuring, can you be a little bit more specific or were there some layoffs that were done in the quarter?
Larry Richman
We did no a reduction in force in the third quarter and I think what we really did there was we looked at the organization and we continue to resize the organization. We continue to make sure that we have the right people in the right jobs.
As you know we went through a charter conversion for a number of the banks and as we continue to centralize our infrastructure and in fact increase our infrastructure and strengthen our infrastructure, there are some changes that unfortunately need to be made. So that’s the result of that charge.
David Long – William Blair
So it wasn’t any producers, especially since the strategic growth plan had started.
Larry Richman
It is not.
Operator
Your next question comes from Daniel Cardenas – Howe Barnes.
Daniel Cardenas – Howe Barnes
It sounds like the Founder’s transaction is moving well. What’s the appetite and timing for additional FDIC deals? Can you do another one right away or is there still a bit of a waiting period?
Larry Richman
Generally on an overall basis, the Founder’s transaction is going very well both in terms of people in the organization, clients as well as growth in deposits. We have learned a lot from this transaction and feel that we have received the learnings appropriate to do others. We will consider others over time.
There’s always going to be a digestion period necessary, but again I think this is something that is strategically a very important supplement to our ongoing strategic growth plan, so we will consider them. But again, we’ll consider them when strategic, when appropriate and over time.
Operator
I will now turn the call back to Mr. Richman for closing remarks.
Larry Richman
Thank you everyone. This concludes our conference today. I really appreciate all of you participating and also your continued interest in the PrivateBanc Corp.
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