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Macatawa Bank Corporation (NASDAQ:MCBC)

Q2 2008 Earnings Call

July 15, 2008 10:00 am ET

Executives

Benjamin A. Smith III - Founder, Chairman, Chief Executive Officer

Jon W. Swets - Chief Financial Officer, Principal Accounting Officer

Ronald L. Haan – Executive Vice President of Macatawa Bank

Philip J. Koning – President, Chief Executive Officer of Macatawa Bank

Analysts

Terry McEvoy - Oppenheimer & Co.

Michael Cohen – Nova Capital

Stephen Geyen - Stifel Nicolaus & Company, Inc.

Eileen Rooney- Keefe, Bruyette & Woods

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

Jon Arfstrom - RBC Capital Markets

Michael Cohen – Nova Capital

Stephen Geyen - Stifel Nicolaus & Company, Inc.

Operator

Welcome to the Macatawa Bank Corporation second quarter earnings conference call. (Operator Instructions) Mr. Smith, you may begin your conference.

Benjamin A. Smith III

As normal, joining us this morning is Phil Koning, President and CEO of Macatawa Bank; Ron Haan, Executive Vice President, head of lending of Macatawa Bank; and Jon Swets, who is a Senior Vice President and our Chief Financial Officer.

We would like to start the morning with some comments from Jon, and at the end of his comments we will have comments by the other two gentlemen and at the end of that we will open it for general questions.

Jon W. Swets

Our results obviously reflect continued strain from asset quality. However, there are a few trends within our second quarter results that we are very pleased with. To name one, net interest margin; but then a few others and I will talk about those in a minute.

Let me start with our provision for loan losses, just to try to provide a little more background color commentary on the provision. Our net charge offs for the quarter were $3.7 million, our provision for loan losses was about that at $3.5 million, so essentially we replenished the allowance for loan losses for the net charges. Primarily the reason being for replenishing is that we didn’t see any reductions in our level of non-performing loans or in our delinquency levels and so we replenished back up to the level that the allowance for loan losses was at the end of the first quarter.

And if you recall, fourth quarter last year, we did a tremendous amount of allowance building by recording a $10.2 million provision and that brought our allowance up to roughly its current level. As we move forward we are just responding to what we see in our portfolio and allowing our computation to dictate where the allowance for loan losses goes. That depends on what we see in our portfolio in terms of trends, growth in certain portfolios, and also shrinkage in certain portfolios.

Net interest margin, as I mentioned, very good trend there for us on a consecutive-quarter basis. The margin for the quarter was 3.06%. It was down 26 basis points versus the second quarter of the prior year but on a consecutive-quarter basis up 7 basis points. So compared to our first quarter of 2008, just a little more background; our yield and assets did come down, it decreased by 46 basis points from the first quarter to the second quarter due to the rapid Fed Funds rate cuts, however, our cost of funds also came down pretty rapidly, down more rapidly, with a decrease of 57 basis points. So the spread improved by 11 basis points, the margin improved by 7 basis points.

We were able to respond in our cost of funds to the Fed Funds rate cuts with some deposit rate reductions. We also saw our fixed rate deposits and other borrowings continue to reprice downward as we moved through the quarter, compared to the first quarter.

In the last several quarters, when talking about margin, I have also talked about our non-performing assets and the noise that it creates in our net interest margin. Really, on a consecutive-quarter basis, the non-performing assets had very little impact on our margin from first quarter to second quarter. We did see a little increase in average non-performing assets but there were slightly less interest reversals and the net effect was really no impact on margin on a consecutive-quarter basis.

All this is to say that our net interest margin, the underlying net interest margin, is stable despite the rapidly changing rate environment that we have been within over the last nine to twelve months.

Moving on to non-interest income: Total non-interest income was a little over $5 million for the quarter, compared to $4 million for the second quarter of last year, so we did have a $1 million increase there. The press release identifies the fact that we did take some gains on some investment securities sales and we disposed of some repurchase agreements that also produced gains. The two combined amounted to $655,000. So what we did there essentially was received some small opportunities to build capital, and in retrospect, our timing was good.

After factoring these things out, we still had a 9.5% increase in our non-interest income. Healthy increases primarily in investment services revenues, and as well debit card interchange income, were at the heart of the remaining increase in our non-interest income. So we are continuing to see very strong momentum in both of those areas, which is very encouraging.

Non-interest expense, just wanted to mention a couple of things there. Total non-interest expense was also up $1 million when compared to the second quarter of the prior year. $530,000 of that $1 million was in salaries and benefits and the press releases touches on why.

The other non-interest expense line in our income statement shows an increase of $353,000, which is really the bulk of the rest of the increase in total non-interest expense. All of this increase, and then some, was really due to the increase in costs tied to administration and disposition of problem assets. Costs associated with those activities amounted to $662,000 for the second quarter of this year. That is a $431,000 increase over the second quarter of the prior year.

Also, our FDIC insurance costs showed an increase of $85,000 compared to the second quarter of the prior year. Again, having to do with the higher level of non-performing loans in the current quarter versus second quarter last year.

Finally, just a little color commentary on the balance sheet, the total loan portfolio and the trends we’re seeing there in terms of growth. At the end of the quarter total loans finished at about the same level that it started at. We saw growth in the total loan portfolio of $1.4 million. The break down of that is our commercial portfolio actually decreased by a little over $10 million during the quarter. Consumer loans, however, grew by $4 million, and then residential mortgage loans, retail residential mortgages grew by $7 million during the second quarter. A lot of this growth was in our jumbo portfolio, which has been a healthy portfolio for us.

Deposit portfolio grew in the second quarter. It was up $34 million. Now, almost all of that growth was in broker deposits, however, we did see some good activity in core deposits during the quarter. Our non-interest bearing deposits grew by $17 million during the quarter. And we did see some good growth in other categories, important categories of core deposits for us, so a healthy mixed change during the quarter. I know Phil will touch on some of the activity in deposits in his comments.

At this point I will turn it over to Ron to talk a little bit more about our asset quality.

Ronald L. Haan

As Jon mentioned, really on the loan growth side we didn’t see much growth in the second quarter, so holding pretty steady there. And really, on asset quality, which is the area we have been spending a lot of time on, I would say that asset quality measures remained constant during the quarter as well.

You might remember that first quarter we did see some pretty nice improvement in overall loan delinquencies. Delinquencies came down by nearly 50 basis points and while we did see a slight increase now, during the second quarter, our overall delinquencies are still lower than where they were at the end of the year, December 31, 2007. So on delinquencies we continue to really run in that range somewhere between 4.5% and 5% and that’s primarily as a result of our level of non-performing loans.

We have talked about those non-performing loans being primarily land development loans and until we start seeing some reductions in those loans, either through sales of the underlying collateral or restructuring of the credits with borrowers, we probably won’t see much change in our overall loan delinquencies.

Non-performing loans also increases slightly during the quarter but we do not consider these changes to be material. Lot sales continued to occur, albeit at a very slow pace and the vertical construction of home sales, we do see some improvement. We continue to work very hard at reducing our level of non-performing loans but the real estate markets continue to be fairly soft.

Non-performing assets also increased slightly during the quarter, but again, we do not see this at a material change. We are selling properties acquired through foreclosure and expect to see a gradual reduction in both non-performing loans and our non-performing assets as market conditions improve.

So in summary I would say really not much change during the second quarter. There are some occasional bright spots and I think generally the real estate markets are becoming more stable, but increased sales are not coming as quickly as we had hoped. As I said last quarter, the trends suggest that we are seeing the bottom here and as the real estate markets in Western Michigan begin to gain momentum we should see more normal operating performance.

With that, I will turn it over to Phil.

Philip J. Koning

I would like to just make a few comments about our deposit base and our local economy. First, concerning our deposit base, we are pleased with our growth in new business accounts, net new household relationships, and deposit balances since the beginning of the year. Core deposits are up a little over $40 million since year end. Most checking and savings balances are up, however, we have seen some movement from money market accounts to certificates of deposit due to the drop in interest rates. Individuals have been moving some money from liquid deposits paying in the 2% range to longer-term CDs paying closer to 4%.

We also increased our brokerage CD portfolio during the second quarter by almost $35 million. As the brokerage CD market stabilized, we saw an opportunity to lock in extended-term CDs at advantageous rates. We took maturing CDs and new funding out over a one, two, and three-year period at interest rates in the low to mid 3% range. This action helped extend maturities and put the bank into a very neutral asset liability position.

In general we feel good about our liquidity and funding position. We continue to grow our franchise with in-market relationships, seeing a significant surge in new account openings in the last month or so.

Relative to our local economy, it remains flat. There are some new jobs as agriculture and food processing are doing well, and some layoffs as automotive continues to struggle. Our furniture industry is stable with domestic sales down a small amount, but exports growing significantly.

Employment levels and unemployment rates remain largely unchanged from previous quarters. This is also true for population trends. We have seen population growth of under 1% for the last year for most of our markets. And while not growing at the rate we have had historically in West Michigan, we are please to see some stability in population and in jobs.

With that, I will turn it back to Ben.

Benjamin A. Smith III

That pretty much is the summary of what’s happening. This was hopefully a kind of a watershed quarter for us and we are fairly pleased with what was shown to you and now we will open it for questions and try and answer those to the best we can.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Terry McEvoy - Oppenheimer & Co.

Terry McEvoy - Oppenheimer & Co.

Were there any sales in the second quarter of land development loans, and if so, could you talk about current pricing?

Ronald L. Haan

We did not see any bulk sales, Terry. We did see some individual lot sales but I think I mentioned in my comments, at a fairly slow pace. So in answer to your question, no, there were no bulk sales of land development loans.

Terry McEvoy - Oppenheimer & Co.

And I know you report net charge offs. Any sizeable recoveries at all that would influence that net number?

Benjamin A. Smith III

No, that number was quite small for the quarter.

Terry McEvoy - Oppenheimer & Co.

And the increase in your non-performing loans, you say were largely from loans already identified on the company’s internal watch list. Could you comment at all about what that watch list did through the second quarter, both in terms of the land development loans as well as the rest of the portfolio?

Ronald L. Haan

Yes. Actually, Terry, our watch credits are declining. We feel pretty confident that we have identified our problems and we know where they are. And what I call kind of our normal delinquencies, those that we’re able to work through, continue to be at acceptable levels.

So, as we have talked previous quarters, the bulk of that non-performing number are the land development loans. We have not been able to move any of that out on a bulk-sale basis. We have seen kind of sporadic lot sales. But until we start to see some movement in that number, we probably won’t see much of a decline in our overall delinquencies. But the watch credits have come down.

Operator

Your next question comes from Michael Cohen - Nova Capital.

Michael Cohen – Nova Capital

My question relates to the construction and land portfolio. If we look back to the second quarter of 2007, you would have had about roughly, for rounding purposes, $350 million worth of loans and you have about $320 million today. But, what would you assume as kind of a reasonable estimate of kind of cumulative losses on the portfolio, over say, a two-year cycle?

In other words, if you had $350 million of construction development loans as of a year ago, what would you expect the cumulative loss on that portfolio to be, kind of over a three-year period? Say 2007-2009, or a 36-month look-forward, from that time period.

Benjamin A. Smith III

I’m not sure we have a number like that. Obviously, if you look at the loan loss provision that we have historically run those historically have taken care of all those losses so it would be less than 1 or 1 ¼, whatever we keep in our loan loss total.

We have also stated that since about a year ago we have done a pretty fair job, I think, at least we’re comfortable with the job that we’ve done, trying to analyze and identify the losses that are in there and we have got those fairly well identified and contained.

So, the numbers there, the ones that are on non-performing, we have already written those down. I think we are where we are and as Ron has said, it is going to take a while to work out of those situations but we don’t, at this point in time, see anything in there that we hadn’t seen a year ago that concerns us.

Michael Cohen – Nova Capital

What I am trying to gauge is what’s the worst-case scenario that we could look at?

Benjamin A. Smith III

That’s what we’re looking at as well.

Michael Cohen – Nova Capital

Towards that end, if you charged off loans, you have had property sales, what has the typical proceeds been to Macatawa as a percentage of the original principal balance of the loan, in a lot of these transactions?

Benjamin A. Smith III

Michael, as we indicated, we have not seen any big, large bulk sales. Now, on the REO, as it works through the pipeline, which is primarily houses and smaller stuff, we get very close to our appraised value when we book it, and those appraisals, I would say today, are probably coming in 20% off from, so on a house deal if we took a 20% write down of our loan amount, those would probably be the most significant write downs that we have seen to date. Does that help you?

Jon W. Swets

If what he’s asking is what losses are in there, when they get into the non-performing, the losses have already been recognized. That 20% was off the original value, not off the value that we’re carrying them on our books.

Ronald L. Haan

Michael, as Jon pointed out, the non-performing loans, we look at pretty regularly. And most of those, we have gone out and we have obtained current appraisals and if they’re short we either set aside reserves or we have taken the write downs.

Michael Cohen – Nova Capital

So essentially your provision over the last year has provided for approximately 20% right down to the homes that you’ve repossessed. Where would appraisals on land loans be? Have you reappraised a lot of the land portfolio?

Ronald L. Haan

Yes. We go out on those non-performing loans, in nearly all of those projects we have gone out and obtained current appraisals. And, again, if the appraisal is less than what we’re carrying it on our books at, we have either written down the loan or we have set up specific reserves to address that.

Michael Cohen – Nova Capital

And then on the performing land loans, have you had those reappraised as well, just as a precautionary measure?

Ronald L. Haan

Generally we wouldn’t, no.

Operator

Your next question comes from Stephen Geyen - Stifel Nicolaus & Company, Inc.

Stephen Geyen - Stifel Nicolaus & Company, Inc.

So, maybe a raw-land or a developed-land loan that was put on the books say Q3 or Q4 of last year, you haven’t had a reappraisal done on those loans?

Philip J. Koning

First of all, there were probably very few new loans in that category put on in Q3 or Q4 of last year. And yes, as Ron mentioned, if it’s a performing loan and maybe we should be clearer about that, if it’s not on our watch list, which is a list that’s greater than our non-performing list, if it’s not on our watch list, we likely haven’t gotten a new appraisal on it.

Stephen Geyen - Stifel Nicolaus & Company, Inc.

How are you looking at the tangible capital ratio? Assets haven’t really grown as fast as in the past, earnings are covering dividends now. How do you feel about the capital position and have you discussed cutting the dividend?

Benjamin A. Smith III

You can run our capital, and we’re still considered a well-capitalized bank, going forward we expect the earnings to stay at this level or hopefully improve. And as you point out, the deposit side of the bank is starting to show a little growth. The account growth is good; the deposit growth has been a little slow. So we expect our capital to hold in on a relatively good basis.

The dividend, we see no reason to cut that. Our shareholders depend on that. If we don’t feel at risk, why would we go and cut it? The directors feel pretty strongly about that and we would agree with them.

Stephen Geyen - Stifel Nicolaus & Company, Inc.

In the release it sounds like there were additions in the problem asset department. Do you have a dedicated group working on problem assets and could you talk about the experience of the person or persons that were added?

Ronald L. Haan

We do have a dedicated group. The two lead people are very experienced; ten years plus. Really come of those credits, the larger credits today, would also be handled by senior management. Asset quality is something, as I’ve said before, that is getting a lot of attention around here. That’s our challenge and we’re allocating our best resources to address it.

Operator

Your next question comes from Eileen Rooney - Keefe, Bruyette & Woods.

Eileen Rooney- Keefe, Bruyette & Woods

The REO, I thought last quarter you said that a large percentage of those were already in contract to be sold in the second quarter. Are they still in contract or did that fall apart?

Ronald L. Haan

Most of those are just kind of working through the pipeline right now. We are seeing sales. So the homes that we acquire through foreclosure, as it goes into REO, we write them down to what we see is the market, then we are seeing sales.

I think what you are probably looking at is generally just a continuation of stuff kind of coming in the front door, if you will, and within a fairly reasonable time, we seem to be able to move those things through. So every month we are seeing sales out of that group.

Eileen Rooney- Keefe, Bruyette & Woods

If you could just talk a little bit about what was in that net charge off number this quarter.

Benjamin A. Smith III

What kind of background do you want, Eileen?

Eileen Rooney- Keefe, Bruyette & Woods

Just in terms of was it one large loan that was moved onto non-performing that you wrote down, or any detail that you could give. It was just a higher number than I expected.

Benjamin A. Smith III

There was one larger charge off in that number, to the tune of $1.3 million, I believe. And there was a roughly $400,000 charge off; that was our next biggest. And then the rest were less than that.

Eileen Rooney- Keefe, Bruyette & Woods

And that $1.3 million charge off, what was that related to?

Benjamin A. Smith III

It’s a land development loan and also that charge off came on a credit for which we had a specific reserve allocation previously set up. Actually, we had done that charge off against a reserve allocation we set up in the fourth quarter of last year.

Eileen Rooney- Keefe, Bruyette & Woods

So was that loan already on non-performing status?

Benjamin A. Smith III

Yes.

Eileen Rooney- Keefe, Bruyette & Woods

So you just wrote it down further?

Benjamin A. Smith III

Yes.

Eileen Rooney- Keefe, Bruyette & Woods

And what was the original amount of that loan?

Benjamin A. Smith III

That was a $16.7 million loan. That was one of our largest credits.

Operator

Your next question comes from Jason Werner - Howe Barnes.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

I have a follow-up question on the reserve levels. Obviously, as you said in the call, you made a big effort in the fourth quarter to build reserves and I think have been fairly constant. I was curious about the ratio of reserves and [inaudible] loans. That’s pretty low. And can you give us any comfort about that level being where it’s at and how much of that stuff would you say is already kind of charged down to what you think is a carrying value?

Jon W. Swets

The reserve computation, Ron has touched on it before. What we go through on those larger, non-performing credits is a pretty thorough analysis using current appraisal information, we heavily discount for time value of money as we project out, collateral disposition, and in that process we are establishing, as Ron indicated, either specific reserve allocation or definitive charge offs that we’re taking in the process. And so we feel like, in that allowance for loan losses we have captured the extent of our problems based upon what we know at the time.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

You’re saying you feel it’s pretty adequate even though it’s 40% of non-performing at this point?

Benjamin A. Smith III

We’ve had this question five times. We’re doing the best that we can. We take the honest write down that we do as soon as we can and that’s what we’re reporting, and the numbers that we’ve had for the last year, relative primarily to the land development, where the biggest problem has been, have really been fairly consistent. So it kind of makes us a little more comfortable that the numbers that we have in there are the right numbers. We took the large charge off in the fourth quarter to put it up to the levels that we felt were necessary to support that.

So you can argue, and you all have to have a tough time estimating what everyone is going to do. All we can do is tell you we’re doing our honest best. That’s what we’ve identified, that’s what’s in there, and if you ask me to bet big money on it today, I would. But that doesn’t mean tomorrow things don’t change. So you’re either comfortable or you aren’t. But I can assure you it is the very best deal that we could do in identifying those.

And the only reason we haven’t gone through every loan in the book is because we don’t think it’s necessary to go through it. We’re spending time on the places that we know there are problems.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

I was wondering if you could quantify, out of the $80 million in non-performers what of that had already been charged off as opposed as to having a specific reserve set aside for it.

Benjamin A. Smith III

I don’t know if we have that number.

Jon W. Swets

Jason, I don’t have that number off the top of my head. It’s going to be a combination. Some of it has been specifically charged off, some of it has specific reserve allocations, but I wouldn’t want to hazard a guess right now.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

Can you tell me what the level of specific reserves are right now, out of the total reserves? Out of the $32 million in reserves, how much of that is specific.

Jon W. Swets

Total specific reserves right now are $13 million.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

Looking at the rest of the portfolio, as you have said, clearly the problems are in land and land development. I was just curious what the trends were with other commercial loans, other commercial real estate and C&I. Obviously, they aren’t showing in non-performing but are you seeing any adverse trends. Is there any strain in those portfolios, given what the economy is doing?

Ronald L. Haan

I think I mentioned earlier, Jason, really if you extract the non-performing group, that’s the bulk of our delinquencies. Absent the non-performing group, really our delinquencies continue to be at what I would consider to be at acceptable levels, mortgage, and consumer running right around 1%. I think first quarter they were a little lower; they might be a smidge above that right now. And the other credits on our books really continue to perform what I would say more normally. It’s the land development group.

And, again, generally I think the challenge we face today, and you’re wrestling with this, too, is what are the valuations? And until we start to see more traction in terms of more sales, it’s difficult. Again, we do the best we can. We’ve gotten appraisals so we’re soliciting the advice really of people that are in tune with the market out there to tell us what valuations are and we’re responding to that, but you’re just not seeing a lot of activity on which to base these valuations.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

Bottom line, you’re not seeing any signs of deterioration outside of land development so you feel pretty good about that stuff right now?

Ronald L. Haan

Yes, I would say that’s true.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

With the category, residential development, in the press release you had stipulated three kick points of that: vacant land, developed land, and spec for properties. I had noticed on a [inaudible] quarter basis that vacant land had gone up about $9 million. I was just wondering if you could give us some color as to what was driving that, who is borrowing to buy land at this point?

Jon W. Swets

One of the things that happened in that category, and this really explains the bulk of it, Jason, what we’ve done during the quarter is on certain credits we have taken more collateral in from our borrowers to strengthen our position. And what that has done is it has moved some loans into this category of raw land. And so essentially, it doesn’t necessarily mean that we’re doing more lending in that category. What it does mean is that we have really strengthened collateral positions on some of our already existing credits.

Jason Werner - Howe Barnes Hoefer & Arnett Inc.

So the collateral you’re getting is raw land, so it has increased that component?

Jon W. Swets

Yes.

Operator

Your next question comes from Jon Arfstrom - RBC Capital Markets.

Jon Arfstrom - RBC Capital Markets

Can you talk a little bit about the competitive environment? In one of the lines in your press release you talk about local, national, and regional banks reporting losses and maybe capital and the local part is what I would like to focus on. I know you compete a lot with some of the smaller, privately held companies and I’m just wondering what their behavior has been like and whether you are still seeing the intense competition that perhaps you saw a year or two ago?

Benjamin A. Smith III

Really, there is competition on the lending side and the deposit side. First on the lending side, we are beginning to see some rationalization in pricing and some of the bigger banks, and even some of the smaller banks, I think are trying to increase their margin in the lending side. So I would say competition is still there but probably more rational and more reasonable.

On the deposit side, really the same thing; all of the banks have tried to lower their deposit rates. We see some competition primarily in the certificate of deposit area. Some of the larger regional banks are quite aggressive in what they’re paying for extended-term CDs. I would say in the 4.25%-4.5% range for anywhere from 18-30 months. We try and remain under that by, we have to compete, but we probably stay 25 basis points to 30 basis points under them.

Jon Arfstrom - RBC Capital Markets

Ron, you talked about how you expect non-performers to potentially come down when conditions improve and I’m curious what the mood is like in Western Michigan, the mood of the general population, and what you think it takes for conditions to improve in your market.

Ronald L. Haan

I think Michigan generally, unemployment here is still higher than some of the national numbers. I think the mood generally, Phil has talked about this a lot, but Western Michigan continues to be a great place to live and work. So, if you’re working, probably the mood is okay; if you’re not working, it’s probably not so great right now.

I think as it relates to housing, it’s not that housing is on its back here. We are seeing activity, on our single-family mortgage lending during the month. Actually, we had a pretty good month. Houses are selling; the way I would describe it is it continues to be kind of spotty. There are bright spots out there but what would really help us a great deal is to see some activity in the area of new construction, where the builders start constructing new homes again and absorbing some of this inventory of lots that has built up. And that, as we’ve talked about, is really where we have gotten some heart burn over the last few quarters.

Jon Arfstrom - RBC Capital Markets

Obviously Michigan does a lot of advertising as a state, for people to bring businesses to the state. And I’m curious if you’re seeing, not as a result necessarily of the advertising, but are you seeing business creation in your market. Do you feel like the number of businesses is stable, contracting?

Ronald L. Haan

Jon, West Michigan has always been a rather entrepreneurial area and we do see new businesses starting up all the time. We also see existing businesses which are expanding and adding employees. There are those times when we do see companies laying off as well. We used to have ten good things for every one kind of negative thing; now it’s probably we’re treading water is how I would describe it.

There are good things happening, there’s a lot of new business start ups. The state has really emphasized things like alternative energy, life sciences, and agriculture, food processing, those areas that are not dependent upon the automotive industry as much. And those businesses are actually starting and beginning to grow.

Operator

Your next question is a follow-up from Michael Cohen - Nova Capital.

Michael Cohen – Nova Capital

How have you thought about the economic impact to your region from $145 oil? We’ve tried to ask this question of a lot of our banks to kind of see how they’re thinking about it and how their customers are thinking about it?

Ronald L. Haan

From out standpoint, $145 oil has affected the automotive industry the most and we’ve seen some of that. We do have automotive suppliers in West Michigan but it has probably affected the retail customer more. But on the other hand, we grow a lot of agriculture products, corn and so on, and our agricultural customers are doing very well in this environment.

Michael Cohen – Nova Capital

And then on the capital you had kind of talked about continuing to pay the dividend. How are you thinking about that in the context of the following: if indeed, you might need capital in the future, capital is becoming so expensive to bank, why wouldn’t you think of it as a precautionary step, that it’s kind of better to give the shareholder insurance than to give him or her $0.13 in dividend this quarter or next? How do you think about that thought?

Benjamin A. Smith III

I think that’s interesting because one of the things that we have always believed and probably erroneously, of value, is that if you have a dividend it creates some value for the shareholder. Well, at the current price I’m not sure there is any value priced into at all. Either that or everyone believes for some reason they know more than we do and they think that it’s not possible to continue that. I don’t know what the thought is.

But our belief is that we work for the shareholders, the shareholders own the bank. We’ve increased those things over the years to levels that we felt were sustainable. We have always run a conservative shop, we’ve always had loan loss provisions higher than normal in order to work through any unforeseen situations. No one foresaw the type of situations we’re in today.

We believe that the earning power of Macatawa is very, very strong. We should be able to earn $20 million fairly easily. So if we can do that, then I’m not so sure that when you go out and cut your dividend is really an indication that you are a player, you are strong, your capital ratios are there, and you’re going to continue to be a viable entity in your market.

Would be like it would be going back and asking all the employees to take a salary cut, we could do that for a precaution, too. I just don’t understand the logic of it.

Operator

You have a follow-up questions from Stephen Geyen - Stifel Nicolaus.

Stephen Geyen - Stifel Nicolaus & Company, Inc.

The date from the sale of securities and termination of borrowings, how should we think about this in our models going forward?

Benjamin A. Smith III

In what way? Are you wondering will there be more?

Stephen Geyen - Stifel Nicolaus & Company, Inc.

Exactly.

Benjamin A. Smith III

That’s hard to say. We don’t necessarily plan for that kind of thing. We’re opportunistic. We saw a really good opportunity and those circumstances, but my gut is telling me you probably won’t see much more of that.

Stephen Geyen - Stifel Nicolaus & Company, Inc.

And in the investment portfolio, do you have agency preferreds, Fannie Maes or Freddie Macs?

Benjamin A. Smith III

No.

Stephen Geyen - Stifel Nicolaus & Company, Inc.

You increased broker CDs this quarter. What are the prices like compared to the local CD prices?

Ronald L. Haan

Right now the specials in the market are pretty close to what brokered rates are.

Operator

At this time there are no further questions.

Benjamin A. Smith III

We appreciate all the interest and questions that we had and look forward to talking to you, hopefully with better results, at the end of the next quarter. Thank you.

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Source: Macatawa Bank Corporation Q2 2008 Earnings Call Transcript
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