Apr 20, 2010
Executives
List Underwood – Director, IR Grayson Hall – President and CEO David Turner – CFO and Senior EVP Bill Wells – Chief Risk Officer and Senior EVP, Risk Management Group Barb Godin – EVP and Consumer Credit Executive
Analysts
Matthew O'Connor – Deutsche Bank Craig Siegenthaler – Credit Suisse Brian Foran – Goldman Sachs Chris Mutascio – Stifel Nicolaus Ken Usdin – Bank of America Betsy Graseck – Morgan Stanley Kevin St. Pierre – Bernstein Scott Valentin – FBR Capital Markets Christopher Marinac – FIG Partners
Operator
Good morning, and welcome to the Regions Financial Corporation's quarterly earnings call. My name is Christine and I will be your operator for today's call.
I would like to remind everyone that all participant phone lines have been placed on listen-only. At the end of the call, there will be a question-and-answer session.
(Operator instructions) I will now turn the call over to Mr. List Underwood to begin the conference call.
List Underwood
Thank you, operator, and good morning, everyone. We very much appreciate your participation in our call today.
Our presenters this morning are our President and Chief Executive Officer, Grayson Hall; our Chief Financial Officer, David Turner; and Bill Wells, our Chief Risk Officer. Accompanying Bill is Tom Neely, our Director of Risk Analytics; and, Barb Godin, our Head of Consumer Credit.
Also here with us this morning, our heads of our lines of business, Tim Laney who heads our business services line of business; John Owen, who heads our consumer credit line of business; and, John Carson, who heads Morgan Keegan. Let me quickly touch on our presentation format.
We have prepared a short slide presentation to accompany David and Bill's comments. It's available under the Investor Relations section of regions.com.
For those of you in the investment community that dialed in by phone, once you're on the Investor Relations section of our Web site, just click on live phone player and the slides will automatically advance in sync with the audio of the presentation. A copy of the slides will be available on our Web site shortly after the call.
Our presentation this morning will discuss Regions' business outlook and includes forward-looking statements. These statements may include description of management's plans, objectives, or goals for future operations; products or services; forecasts of financial or other performance measures; statements about the expected quality, performance, or collectability of loans; and, statements about Regions' general outlook for economic and business conditions.
We also may make other forward-looking statements in the question-and-answer period following the discussion. These forward-looking statements are subject to a number of risks and uncertainties, and actual results may differ materially.
Information on the risk factors that could cause actual results to differ is available from today's earnings press release, in today's Form 8-K, in our Form 10-K for the year ended December 31, 2009. As a reminder, forward-looking statements are effective only as of the date they are made, and we assume no obligation to update information concerning our expectations.
Let me also mention that our discussions may include the use of non-GAAP financial measures. A reconciliation of these to the same measures on a GAAP basis can be found in our earnings release and related supplemental financial schedules.
Now, we'll turn it over to Grayson.
Grayson Hall
Good morning, and thanks everyone for your time and attention today. Earlier, Regions reported a first quarter loss of $0.21 per share.
This loss is in line with our internal expectations and is a notable improvement from the $0.51 per share loss we reported in the first – or fourth quarter of 2009. We are encouraged by the continual – continued financial progress.
But clearly, no one at Regions is satisfied with this performance. And we're focused on our efforts to return to a – and sustainable profitability.
We did clearly see credit and recession related expenses, improved (inaudible). They do remain elevated and continued to more than offset our strong underlying core earnings.
I can assure you that my primary focus is returning the company to a level of sustained profitability. Getting back to profitability may not happen as promptly as any of us would desire, and we've got a lot of work yet to do.
But I tell you today that I am convinced that we have the right team and we're taking the right actions to not only restore Regions' profitability, but more importantly, to build a stronger business model and a stronger franchise that will produce competitive long term financial performance. We have strategic priorities that we are confident will return our company to profitability.
We're keeping our business focused on the customer. We're building for our future.
We're restoring our financial performance. And we're committed to executing with excellence.
We are absolutely keeping our team focused on the customer by historically and expanding our customer relationships with valued products and excellent service, and retaining more customer relationships than ever before. These priorities are our business guidelines for how we operate.
We're building for our future by de-risking the balance sheet, aggressively addressing credit issues, and making sure our capital liquidity levels remain strong. And we will restore our financial performance by growing and diversifying our revenue base as well as improving our operating efficiency.
The key factor to returning profitability is strong execution across the organization. And we have solid business plans for paying attention to the bills and driving for results with clear goals and accountability to prop results.
Looking beyond first quarter's bottom line, there's significant evidence that our priorities are being achieved. But keep in mind it may take some time to fully realize the benefit of these initiatives in a slow growth, higher unemployment operating environment.
But more importantly, during the first quarter, we continued to de-risk our balance sheet by appropriately charging off and providing for problem threats, proactively liquidating foreclosed assets, and reducing exposure to higher risk loan portfolio segments. As a result, loan loss provision and OREO costs, including a $70 million net addition to our loan loss reserve totaled $812 million, impacting earnings on a per share basis of $0.42.
We continue to see a credit related costs elevated, but stabilizing and moderate. Assuming modest economic growth, we estimate that these costs may have peaked.
In addition, we continue to forecast the absolute levels of non-performing assets will peak at mid-year. As anticipated and forecasted, gross in-flows and non-performing loans were down for the third consecutive quarter, an important factor in the continued trend of slowing net non-performing asset formation.
Of particular note is that internally risk-graded problem assets, a leading indicator of future non-performing assets, are showing much improvement. In fact, they have declined for the first time this quarter since 2006, an important milestone.
As Bill Wells will discuss in a few moments, non-performing asset levels are benefiting from our consistent charge-off policy as well as an active problem asset disposition program. First quarter problem asset dispositions were $689 million, including non-performing assets, exceeding fourth quarter $643 million in discounts have continued to improved as it clearly appears that investor demand for problem assets is improving, another encouraging sign for our future non-performing asset formation.
Additionally, we are disciplined in managing balance sheet risk with our pro-active approach to reducing high-risk portfolios. In the first quarter, we reduced investor real estate loans by $1.3 billion or 6% through sales charge offs and pay downs.
Our ultimate target is to lower this portfolio to 15% of total loan portfolio. We fully acknowledge that our exposure to this lending segment has been elevated, but we were encouraged by the progress we achieved at aggressively reducing this exposure by $3.1 billion over the last five quarters.
We fully expect our efforts to demonstrate strong improvement in the upcoming quarters. Of course, reducing investor real estate, combined with the general act of loan demand, has pressured overall loan balances, which is frankly one of our company's and our industry's most significant term – near term challenge.
While we are disappointed in this quarter's contraction in our loans, let me assure you that we have an all out effort to grow balance where it's prudent to do so. As a foundation and goal, we've made right progress in growing our customer base.
In fact, we've increased market share in both small business and commercial lending. Further, recent consumer application volume has risen substantially.
There's little doubt that once we get help from the economy, we are opposed – poised to grow our loans outstanding to customer. This focus on growing and retaining customer relationships is critical to our long term success.
The first quarter deposit metrics validate we remain on the right path. In fact, during the quarter, we opened 248,000 new business checking accounts.
This puts us on track to exceed 2009's record-breaking phase. Customer retention continues to form well above industry norm.
(inaudible) sales have improved up to 4% during the last year. And recent customer service surveys give us a high mark relative to our competitors, with customer loyalty metrics now surpassing the 90th percentile of competitors.
Excellent service continuous to drive strong costumer private roads, which results in an average 2% for the first quarter. But more importantly, average low cost deposit increased over 6% in the first quarter, driving an ongoing positive shift in our funding mix, away from higher priced consumer CDs, and giving us confidence in future improvements in the net interest margin.
As expected, the core revenue was down slightly towards the first quarter, primarily due to seasonal factors, but also continued to reflect the slowing – slowly improving economy with weak loan demand and reduced customer transaction activity. But our net interest margin, as expected and as forecasted, grows five basis points late quarter.
And we still remain confident in our ability to execute and to achieve a 3% percent margin by year 2010. We have substantial improved in our deposit mix and that combined with better loan pricing has benefited our margin and will have strong re-impact in future orders.
Throughout the first quarter, about eight-day analysis for higher rate CDs matured. With the bulk of these in these forms migrating in the lower cost instrument such as money market, RCDs, with an average ongoing rate of approximately 180 basis points, lower than the CDs you replacing.
I will pointed out that the full impact of the shift will not be realized until next quarter as these instruments mature over the full duration of the first quarter. Another $10 billion of higher cost CDs are scheduled to mature over the balance of this year.
We continue to have clear focus on executing our plans to achieve a better interest margin for the future. David Turner will provide more details on revenues and loan finances a few moments.
But I will note that line utilization levels appear to have stabilized both for commercial and small business customers, which is a first day afterwards ultimate growth and outstandings. And with the initiatives we have underway, I feel confident of our ability to take advantage, not only of the increased lending opportunities, but opportunities to leverage customer relationships to incremental sales across our franchise and our business units including brokerage, mortgage, cash management, insurance, and other lines of businesses.
I'm particularly encouraged our progress in control of operating expenses which on a quarter basis declined about 3% late quarter. As expected, the seasonal jump in payroll and benefits cost was more than offset by lower professional fees and reduced OREO expense.
Credit and environmental expenses, such as professional fees can be volatile quarter-to-quarter, but we're nonetheless encouraged by first quarter reduced level. Additionally as we had earlier indicated, we successfully completed the consolidation of the 120 branches in late first quarter.
We should provide on a net basis $21 millions in cost savings, starting and fully anticipated in the second quarter. We continue to aggressively control day-to-day operating expenses and seek opportunities to further improve our efficiency.
As an example, we have reduced headcount to 2,400 positions since this time last year, benefits of our cost control efforts should become increasingly evident over time the recession-related calls return to more normal levels. Before I close, I just wanted to briefly touch with Morgan Keegan, which has been receiving a tremendous amount of media attention as of late.
We have the right business plan in the place of Morgan Keegan. And I'm very pleased with our performance.
Despite pressure on fix income revenues this quarter, they come in warranty and rose $7 million or 39% as compared to prior quarter. This result is largely driven by solid private clients, solid equity capital markets, and consistent trust revenues as well as overall reduced operating costs.
Net new brokerage account openings increased 5% on a late quarter basis, reflecting of outstanding inter-company referrals, which are in the highest level in our history. Total investment assets under administration now stand $149 billion, having grown 19.7% year-over-year, and 2.4% late quarter.
That said, we are fully aware of the right to foreign legal challenges related to certain Regions Morgan Keegan select funds, which is a business we exited in 2008. Recently, as previously announced, the SEC and other regulatory state authorities have brought administrative proceedings against Morgan Keegan related to these fines.
These actions at this point were of no surprise to us. We have been cooperating with the investigations for over two years now.
We will continue to work to file these charges and any knowledge as raised by these irregularities as expeditiously and as prudently as possible. Our commitment is to work cooperatively with our customers, with our regulators, and with our states to achieve a prompt and fair resolution.
Most importantly, we're not letting this become a distraction or get in the way of our primary goal, which is building and retaining long term customer relationships. In summary, the challenges aren't behind us, but I'm more convinced than ever that we got the right team and the right strategy to successfully execute Regions return to profitability and build a stronger franchise for the future.
As we emerge from the economic recession now operating in a much different business model, regions are working hard to be part of the solution and rebuilding customers' trust and confidence in the financial services industry and in Regions' financial. As I said earlier, we understand that the growth of the business can be critical to stay focused on the customer, and as such, we've made this our top priority.
I'll now hand the call over to David Turner, our recent promoted Chief Financial Officer, to provide additional details about first quarter results. But before I do, I will make a quick introduction for those of you who aren't familiar with David and his background.
David has been with us since 2005. Before coming to us, he was an audit partner with KPMG, working primarily on financial institutions.
We are very fortunate to have someone on board with such extensive industry experience combined with in-depth knowledge of regions to this important position in our company. David?
David Tuner
Thank you, Grayson, and good morning, everyone. Let's begin with the summary of results for the quarter on slide one.
Although our first quarter results reflect the loss per the diluted share of $0.21, our core business showed further strengthening. We continued to improve the risk profile of our balance sheet.
And importantly, our credit metrics are at or are closing in on thick levels. Net interest income, after adjusting for mortgage servicing rights hedge activity, was stable late quarter and was higher by $22 million or 2.8%, compared to the same period in the prior year.
We continued to achieve strong deposit growth, with average low cost deposits of $4.2 billion or 6.5%, helping drop total deposit costs down 15 basis points to 1%. The net interest margin increased to 2.77% as a result of the increase in net interest income as well as 2% decline in average earning assets.
Our targeted reduction in higher risk credits, such as investor real estate along with soft loan demand, caused a reduction in earning assets. First quarter non-interest income included a $59 million gain on sales plus CMO securities, compared to a $96 million loss in the fourth quarter.
Additionally, non-interest income includes a $19 million gain related to leverage lease terminations, compared to a $71 million gain in the fourth quarter. Average lease gains – leveraged lease gains were essentially offset by income taxes in the respective quarters.
After securities transaction and leverage lease gains non-interest income declined approximately 1% late quarter, largely due to a $21 million decline in brokerage revenue and a 4% decline in service charges reflecting lower transaction activity as is typical during the first quarter of the year. Non-interest expenses declined 3% late quarter, after excluding a $53 million loss on early extinguishment of debt as well as branch consolidation cost of$8 million in the first quarter and $12 million in the fourth quarter.
Lower professional and legal fees drove the improvement by the economy approximately $42 million. From a credit perspective, we reported $770million loan loss provision, which exceeded a net charge offs by $70 million dollar.
As a result, our allowance for loan losses increased 18 basis point late quarters to 3.61% of loans at March 31st. Net charge offs were essentially flat rising only to $8 million.
The net charge off ratio grows to annualized 3.16% of average loans, compared to fourth quarter's 2.99 % primarily resulting from a decrease in average loans. Our charge offs continued to reflect our aggressive efforts to de-risk our balance sheet and dispose of problem assets.
Our modest provision over charges the slowing of the increase in performing loans. Now on performing assets, excluding loans held for sale, increased $221 million dollars or 5% late quarter.
This marks the third consecutive quarterly decline in the level of in-flows to non-performing status. Our loan loss allowance coverage of the non-performing loans stood at 0.86 times at quarter-end compared to the year-end level of 0.89 times.
Lastly, our capital position remains strong, with a Tier 1 capital at an estimated 11.7% and a Tier 1 common at an estimated 7.1%. Let's take a deeper look into the quarterly results.
In terms of first quarter balance sheet changes, slide two shows that loans declined $2.5 billion. As you can see, the main driver of this decrease was the investor real estate category, which as previously mentioned, is by design the result of our focused portfolio reduction efforts.
The $1.1 billion late quarter decline in average outstandings reflects the fact that we haven't originated many new loans of this type for some time, coupled with continued pay downs and charge offs. Looking closer at commercial lending, slide three illustrates that commitment levels remained solid.
And for the first time in several quarters, utilization rates have begun to level off, although at a substantially lower level than in a normal environment. Despite the challenging environment, we continue to search for and extend loans to credit worthy customers.
In fact, there in the first quarter, we originated an $11.6 billion of new and renewed loan commitments, including $2.2 billion to consumers, $1.5 billion to small businesses, and $7.9 billion to other commercial customers. There is no doubt that our customer base is strong and getting stronger.
We are positioned to as grow balances as the economy improves and customers begin to refill the inventories, make new capital investments, and begin expanding their business. On the liability side, we're especially pleased with the ongoing rapid growth in low cost deposits as shown on slide four, which is having a significant positive effect on our funding mix and cost.
This growth allowed us to reduce higher cost certificates of deposit by $2.3 billion on average in the first quarter. Of note, liquidity is very strong with a ratio of loans to deposit of 90% at March 31st, down significantly from 102% one year ago.
Moving to slide five, there is no doubt that the environment has played a role in driving deposit balances as both businesses and consumers are holding on to more cash these days. But beyond that, we have grown our (inaudible) base with innovative products and retained existing customers with service and satisfaction levels that are higher today than at any point in our history.
To reiterate Grayson's earlier comment, we opened over 1 million new checking accounts for consumers and small businesses in 2009, and then validated that after with an additional 248,000 new accounts in the first quarter of this year. These accounts are yielding substantial amounts of low cost funding.
We are continuing to take advantage of disruptions in the marketplace to win new customers and expand the relationships with existing customers. As noted on slide six, quarter pre-tax pre-provision net revenue, PTNR, was up this quarter, and the (inaudible) outlook is improving.
The last few quarters' negative PTNR trend has been driven mainly by net income pressure largely a result of our assets and stiff interest rate position and rising non-interest expenses, primarily a result of increasing recession-related expenses. First quarter results indicate that these items impacting PTNR will improve going forward.
First quarter recession-related expenses, while still elevated, declined to 15% of core non-interest expense from fourth quarter 2009 18%. It is unlikely that it will return to 2007's pre-recession level of 6% anytime soon since costs such as elevated FDIC expenses are not likely to abate.
However, we believe that they will continue to decline this year as non-performing assets decline and the economy continues to recover. Moreover, net interest expense – net interest income, the largest driver of PTNR, is also on track to substantially improve.
Let's look at the details of that front. As noted on slide seven, fully tax full equivalent net interest income of $839 million was essentially flat late quarter after adjusting for the impact of MSR hedge activity.
As I previously noticed, this was achieved despite a lower earning asset base and is a result of our continuing efforts to change the mix and cost of our deposit base. Our resulting net interest margin expanded five basis points to 2.77%.
Solid look at – low cost deposit growth and resulting improved deposit mix are positively impacting our net interest income and margin, and should continue to do so throughout 2010, particularly in the second half. As Grayson mentioned, we re-priced over $8 billion of CDs, having an average rate of 3.26% in the first quarter, whereas the average going on rates new CDs was approximately 1.42%.
We have approximately $10 billion of CDs maturing over the remainder of this year, which will be subjected to market rates as they mature. From a loan yield standpoint, we have been successful on our efforts to raise our going-on loan rates.
Although these efforts have yet to be fully realized, our loan yields increased three basis points from 4.27% in the fourth quarter to 4.30% in the first quarter of this year. We expect that further deposit mix, costs, and loan spread improvements will lift our net interest margin to 3% by year-end.
This forecast does not assume any meaningful help from rising interest rates. In fact, as can be seen on slide eight, our current forecast doesn't call for rates to rise meaningfully until early next year.
As a result, we put short term hedges in place that has temporarily reduced our asset sensitivity. However, as you can see in the slide, the substantial benefit of higher rates to net interest income in 2011 and beyond is not effective.
On slide nine, reported non-interest income was 13% higher than in the fourth quarter. However, excluding leverage lease termination gains and securities transactions, non-interest income declined 1%.
The main driver was a $21 million decline in brokerage revenues owing largely to the pressure six-income revenues mentioned earlier. Non-interest income was also impacted by a 4% decrease in service charges, reflecting a seasonal drop off in transaction activity.
Note that announced NSFOD policy changes related to the dollar limit and daily occurrence caps began to take effect on April 1st. In addition, policy changes associated with regulation E expected to take place in the third quarter will also impact service charge revenues.
These changes, along with other customer fees or reduced service charge revenue by approximately $70 million annually based on preliminary estimates. Mortgage income was essentially unchanged late quarter, excluding the effects of MSR hedging activity.
Origination volume of $1.4 billion was still historically strong, but was down versus the prior quarters $2.0 billion with 45% representing new purchases in the first quarter, compared to 17% a year ago. As I mentioned, we sold securities during the quarter, recording a $59 million gain in sales of $1.4 billion of shorter duration, collateralized mortgage obligations.
Proceeds were reinvested into newer issue CMOs with a slightly longer duration. Turning to non-interest expenses, slide 10 reflects a core non-interest expenses dropped approximately 3% late quarter due largely to lower legal and professional fees.
Although overall levels continue to be inflated by recession-cost, we fully expect a substantial amount of these costs to subside as the economy recovers. In the meantime, we continue to closely monitor and control discretionary spending, specifically, legal and professional fees decline $42 million late quarter driven by lower Morgan Keegan, and credit related costs.
Additionally, other real estate expense declined $22 million late quarter. Other items of note include salaries and benefit expense, which increased only 2% for the first quarter as we remained focused on fine tuning staffing models and improving personnel efficiency.
As Grayson touched on, we have reduced headcount by 2,400 or 8% in the last year alone. In addition, we have reduced discretionary expenditures, such as marketing and travel, by approximately $29 million or 46% relative to the fourth quarter of 2008.
We also prepaid about $1.5 billion of FATLP advances, realizing a $53 million loss reflected in other non-interest expense. With the expectation of this will be slightly accredited to the margin in 2010.
Slide 11 shows that capital ratios remained strong at quarter end. With the Tier 1 capital ratio that now stands at an estimated 11.7% and a Tier 1 common ratio estimated at a very solid 7.1%.
Touching on capital planning, we have strengthened our capital planning process, which includes various scenario analyses, including stress testing under adverse conditions. This robust process includes the development of macroeconomic forecast, significantly improved credit modeling, and financial and capital or forecasting using various scenarios.
These scenarios consider all types of risk that could affect the company over a given period of time. We believe this improved process has allowed us to better determine our capital requirement in a timely manner.
Wrapping up, we're clearly not satisfied with first quarter's bottom line results, but we are making substantial progress in our efforts to return Regions to profitability. And we are firmly committed to successfully executing our strategy.
Now I'll turn it over to Bill for a run through of credit.
Bill Wells
Thanks, David. Starting with slide 12, let's begin on revealing non-performing asset migrations.
We expect non-performing assets to peak in the second quarter and decline thereafter. In fact, internally risk rated problem loans have declined late quarter, which is the first time that has happened since the end of 2006.
This decline comes after considerable effort over the past year to improve the discipline and consistency of our risk rating across the franchise. This foundational component is how we manage our portfolio strategy as well as the loan loss reserve.
Based on sharp and continued recent declines of internally risk rated problem asset migration, which is the source of future non-performing loan formation, we feel confident that absolute levels of non-performing assets will peak in the second quarter. The land, condos, single-family grouping, which we have traditionally called homebuilder and condo, is still a driver of in-flows, but continues to decline.
The performance of income-producing property loans has remained relativity stable as compared to last quarter. Results of our pro-active disposition program, detailed on slide 13, helped drive down the NPA migration.
During the first quarter we recorded problem asset dispositions totaling $689 million, which included $87 million of non-performing loans moved to held for sale. Continuing the trend, discount on problem loan sales and loans that were mark-to-market improved this quarter to 23% on average as compared to 29% last quarter.
This reflects a combination of an improved market for loan sales as well as that focused on strategic bars, rather than bulk sales. As illustrated in the chart, over the last six quarters, we have disposed of $3.4 billion of problem assets.
Now, turning to charge offs. Our risk management strategy has been to confront issues early and accelerate the disposition of problem assets, primarily those secured by investor real estate and take losses as soon as possible.
Partially, as a result of this strategy, charge offs have remained relativity stable as seen on slide 14 to the last three quarters and should begin to moderate as of second half of 2010. Within total charge offs, business service losses were driven by lower valuation charges of $198 million in the first quarter versus $215 million in the fourth.
Despite continued unemployment, consumer losses remained relativity stable, increasing just $5 million late quarter. Finally, the cost of non-performing loans sales in March dropped $5 million from the last quarter.
We sold more for less. Let me put net charge offs in terms of progress against the stress test, which is you might remember I said $9.2 million in combined losses for 2009 and 2010.
Through bank quarters of the eight quarter stress test term, our losses represent 51% of the $5.75 billion projected in the supervisory capital assessment program. Said in different way, we're about two-thirds for the stress test period and only experienced a third of the losses.
We continue to believe the guidance we gave quite a while ago in our investor day in July of 2009 still holds that we will be somewhat here at the midpoint of our $3.4 billion to $5.9 billion two-year loss range. The primary reason for the difference is that investor commercial real estate, while very stressed has not deposit as rapidly or with the long severity originally projected in the stress test.
On slide 15 as an update on our troubles at restructurings, these balances declined $302 million from the fourth quarter. As you may know, if TDRs performed as a new term for a six-month period crossover at year-end and yield the market right, they can be removed from the TDR classification.
This was the driver of our late quarter decline. An important point to note is that 92% of rated TDRs are consumer real estate loan.
In addition, 96% of all consumer TDRs are accruing interest. Nearly all of our consumer TDRs are a function of our pro-active customer assistance program, which has been beneficial to Regions and our customers alike.
Of note, Regions' (inaudible) right is very low. And our foreclosure rate is less than half the national average.
Slide 16 points toward further improvement for 2010. A de-risking of the portfolio has occurred and evidenced by the reduction of our land, homebuilder, condominium, and overall real – investor real estate portfolios.
Additionally, the construction loan portfolio has been reduced from $9 billion at the beginning of 2009 to currently at $4.7 billion. All of this de-risking has resulted in the decline of problem loans based on our internal risk rating.
Given what we know today, we reaffirm our investor day, July 2009 guidance, and expect NPAs and charge offs to peak by the end of the second quarter and decline thereafter. Based on all of the above, we expect no further reserve bill on the second half of the year.
With that, I'll now turn the call back to Grayson for closing comments.
Grayson Hall
Thank you, Bill. And to wrap up, let me say here clearly that we're not satisfied with first quarter bottom line.
While we are encouraged and we do believe the company is headed in the right direction, and the right steps are being taken to restore profitability. I have high expectation for Regions.
And I'm committed to delivering for our customers, employees, and shareholders. We have a strong franchise, with a good online businesses, set of fundamentals as evidenced by this quarter's results.
To reiterate, we continue to see record account deposit growth. Our net interest margin is expanding.
Operating costs are declining, all leading to higher pre-tax, pre-provision net revenue. My focus, along with the entire management team, remains on realizing Regions' long-term earnings potential.
I thank you for your time. And with that, operator, we'll now open the floor for questions.
Operator
Thank you. (Operator instructions) Your first question comes from the line of Matthew O'Connor with Deutsche Bank.
Matthew O'Connor – Deutsche Bank
Hi, guys.
Grayson Hall
Hi, Matthew.
Matthew O'Connor – Deutsche Bank
A couple of current lay questions, the NPA sales of almost $400 million, I think, were the highest they've been this downturn. I just wanted to give a little more color in terms of any additional marks you need to take on those to dispose of them and what the outlook is for additional sales?
Bill Wells
First, we had a record sale of disposing of problem assets – it was about $600 million, compared to about $500 million last quarter. One of the things that we have seen is that there's more liquidity coming back to the market.
In fact, because of – we have a very centralized, disciplined process – buyers are actually coming to us because they know that they can get a quick decision. As far as additional marks, we think that when we go through the selling process, we identify what those marks would be.
It's very positive this quarter where we've moved from last quarter with 29% discount to 23% discount. And so you start to see the marks getting better.
Sales continue to be strong. We had a good pipeline.
Going over quarter-end, we continue to sell. And we think that it's going to be another good quarter for us.
Matthew O'Connor – Deutsche Bank
Okay. And then, I guess this is a little bit of a follow-on to that.
Considering additional sales and the fact that you expect the charge-offs and NPAs to peak and kick in, just any thoughts on how quickly charge-offs and NPAs come down the back half of the year? I know there's a lot of moving pieces here, but what's your best guess on the pace of decline?
Bill Wells
What we've gone from last year talking about the rise and the problems, we're talking about pace and depth of decline, which to me is pretty positive. And for us at risk, we want to pause there and understand that we're talking about that.
I'll tell you – what we've seen is it's going to be a continuous part of our ability to dispose of problem assets. But also, where we think we'll have a tremendous opportunity is ability to restructure credit (inaudible) too.
So with a combination of sales and restructuring and what we've seen coming through our pipeline, we think that we're going to continue to see positive results before we see where our problem assets are.
Grayson Hall
Yes, Matthew. We're spending a lot of time talking about the trajectory of that improvement.
I mean, clearly we're starting to see the metrics turn and that improvement is forthcoming. I think your question is an excellent question – is what is the pace of that improvement?
I think a lot of that is going to depend on the amount of economic clarity we get in the economy over the next few months.
Matthew O'Connor – Deutsche Bank
Okay. Great.
Thank you.
Operator
Thank you. Your next question comes from the line of Craig Siegenthaler with Credit Suisse.
Craig Siegenthaler – Credit Suisse
Thanks, and good morning, everyone.
Grayson Hall
Good morning, Craig.
Craig Siegenthaler – Credit Suisse
First question on the overall, kind of positive PTNR trends we saw this quarter. When you factor in some of the items which really aren't usual but benefited PTNR, like the MSR hedge gain, and declining legal fees, and lower OREO expenses, do you continue to expect that PTNR can improve from here?
Because there are also some headwinds coming up like NSFTs in the third quarter and potentially lower earning assets. So maybe you could help us think about how, really, your underlying earnings power can trend here.
Grayson Hall
I think the question that you're asking is one that I think is a good question because when you look at our earning asset growth, we've made a very strategic decision to reduce our investor commercial real estate portfolio, which is used as it stands today at a lower $20 billion at quarter-end. The pace at which we've been able to reduce that portfolio has exceeded our internal expectations.
We're very encouraged by how we've been able to execute on that strategy. It is declining a little faster than we had anticipated.
All of that is good news. The second part is that it was our full intention to grow other lending product types at a pace that would offset that contraction in investor commercial real estate.
I do think that what you see when you look at our lending activities that we have been able to keep commitments to our costumers very high. They've been very stable.
Our commitments continue to expand and will continue to add costumers to each and every week. Unfortunately, utilization rates have continued to fall through all of last year.
The good news is they have stabilized or appear to have stabilized at this juncture. And we got an opportunity to grow on earning assets going forward.
I do think, when you look at non-interest expense, the non-interest expense growth has been – has been largely due to credit-related, recession-related expenses. Our core expenses in terms of expenses that are being spent in our business units with our producers on the frontline, we've continued to manage those expenses down and feel very good about the lower operating efficiency that we'll be able to demonstrate once this credit starts to moderates.
But this quarter, we saw some moderation in those expenses. The more of these problem assets we can move off the books, the less carrying costs we have with them.
And so, we think once this trend line starts to improve, you are going to see our expenses really start to demonstrate what we've done to the company.
David Turner
Craig, this is David. I'll add a couple of things to that.
We continue to look at our deposit mix and costs. As I mentioned, we have $10 billion dollars worth of CDs that will be maturing this year.
For the remainder of the year, were those are going to be subject to market rates at that time. You can see the industry tidying up and producing funding costs given the lack of loan demand.
On the loan side, we've had some very good early indicators of some potential growth on our consumer side as we mentioned from a – from loan growth there. So those two things and a continued focus on expense management will be the case to us continuing with our improvement in DPNR.
Craig Siegenthaler – Credit Suisse
And David, just a follow-up to your comments though. We see a very good improvement in your deposit cost.
But in terms of the loan yields, as you re-price some of those loans of the last year, especially the Beverly [ph] ones, why haven't the higher spreads – especially over the last two quarters and interest rates have been more flat, why haven't they helped lifted your loan yields in some cases, because we've seen actually some of your competitors have higher loan yields?
David Turner
If you look at the loan yield, a lot of our competitors – if you were to compare our loan portfolio in theirs, a lot of competitors went into this cycle with more fix rate loans than we did. We had a higher percentage of variable rate lending.
We did show this quarter, I think, three basis points improvement in our loan yields. Yes, we're re-pricing the consumer books in about a fifth a year, and the commercial books at about a third a year.
It's a slower process. We had relatively few flowers on our accounts and we do have a number of stress credits that limit our ability to up-price that particular credit at renewal time.
But we are seeing progress, and we do believe that while the improvement in yield on loans will be slower and the improvement in the reduction of cost of deposits that you will continue to see steady, but incremental progress there, but a number of headwinds on loan yields.
Craig Siegenthaler – Credit Suisse
Great. Thanks for taking my question.
Operator
Thank you. Your next question comes from the line of Brian Foran with Goldman Sachs.
Brian Foran – Goldman Sachs
Good morning.
Grayson Hall
Hi, Brian.
Brian Foran – Goldman Sachs
How are you? I guess from a credit perspective historically, charge offs for both you and the industry are seasonal and come down on the first quarter relative to the fourth.
So I know this cycle is overwhelmed with normal seasonality. And you guys went through all the chart – aggressive charge downs you are taking at loans to get them to net realize whole value.
But how should we think about charge offs being flat on a seasonally-adjusted basis. Is there any supply in the construction book for anything like that normally will get better seasonally that didn't–?
Grayson Hall
Yes, I'll speak first. I'll let Bill follow-up.
But I think a lot of the surprises behind us. When we look at seasonality, typically, you see that in the first quarter.
I do believe that we were at our disposition program, and where we're working on trying to reduce and de-risk our portfolio, you will see that seasonality muted somewhat our numbers. And from a seasonal judgment standpoint, I think that we're tracking – you were tracking to our internal forecast in a way that encourages us through the remainder of the year.
And Bill, if you want to add?
Bill Wells
When it comes to the consumer, you always have a little bit of the seasonality in the first quarter, so what I would say is our projections are pretty much as we outlined back in July of last year. It's holding very, very true.
And each month, each quarter we get more and more confident about where we are in that projection. And so, as Grayson mentioned, it is tracking just as we thought it would be.
We factored seasonality, if there were some, in those numbers.
Brian Foran – Goldman Sachs
And then there's a follow-up on the net interest margin discussion. I mean, historically, in the decade prior to the crisis, you averaged at 3.75% NIM.
Most points in the cycle, you tend to be an average or maybe even a little bit above average net interest margin bank. So if you think about this recent disconnect between you and the industry, is there anything structurally that's changing or would you, on a normalized basis, expect to be back in that high threes range?
David Turner
Brian, this is David. If you had to be seeing what the new normal's going to be, given all the changes, we certainly can be higher than the 3% that we're projecting at the end of the year.
And I think, from what we see right now, we think we can be in that 3.35% to 3.50% range. But that's our best estimate based on what we know today and as we get more clarity in what the industry looks like after coming out of this past year – two years of issues we've faced, we'll have more clarity on what we think we might be able to achieve.
Brian Foran – Goldman Sachs
Great. Thanks.
Operator
Thank you. Our next question comes from the line of Chris Mutascio with Stifel Nicolaus.
Chris Mutascio – Stifel Nicolaus
Thanks for taking my question. I don't know if it's for Grayson or for Bill.
But going through the slides, the gross NPA inflows this quarter on a gross basis were $1.31 billion. Last quarter they were $1.4 billion, so not a whole lot of improvement there.
And in fact, the rate of deceleration of the gross inflows is actually much slower than what we've seen with some other banks have experienced, some of the type of credit problems that Regions has. What would you attribute the difference is?
Why is your rate of gross NPAs not falling – not decelerating more so?
Bill Wells
Yes, I'll speak to that. What you have to do is also go back as you mentioned that, we peaked and grossed non-performing asset migration at $1.8 billion in the second quarter of 2009.
And you've seen it come down quarter after quarter. A couple of things, again as David has mentioned, it's moving in the right direction.
I think you have to always say, look at when you combine two large banks located in the south, you had a large real estate exposure. So with that, it's taken us time to work through.
That's why we've been very aggressive in our disposition program. But what I'd also say, truth is when you look at our – we look at our internal pipeline, non-performing assets migration, we start to see that come down even more.
The other thing I would say is, when you keep these two things in mind when you look at it, look at our payments that we've had on non-accrual loans that went up quarter-over-quarter based from about $88 million to about $128 million. So you're still handling a good (inaudible) of payments coming in, so I think you're still wrestling around with a little bit of this performing, non-performing issue, which we think we'll continue to resolve.
And then the upside, which we continue to say for our company, is the ability to restructure credit. You'll start to see that formation, I believe, come down at a more rapid rate.
Chris Mutascio – Stifel Nicolaus
Thank you. One follow-up question if I could.
On slide 15, you look at the TDRs, it looks like there's a pretty substantial reduction in the residential first mortgage TDRs between fourth quarter and the first quarter. What attributes the actual dollar reduction quarter-to-quarter in the TDRs?
Are stuff going back into accrual status? Have you sold those TDRs?
How do you account for that fall?
Barb Godin
Grayson Hall
And also, those accounts have not been sold. They’ve been moved back into an accruing status because they have been current for six months.
They did cross at fiscal year-end.
Chris Mutascio – Stifel Nicolaus
All right. Thank you very much for the clarification.
Operator
Thank you. Your next question comes from line of Ken Usdin with Bank of America.
Ken Usdin – Bank of America
All right, thanks. Just one quick clarification on NIM, can you tell as the amount of NPA drag that there is right now in the margin?
Bill Wells
We have not – I could calculate that real quick. I don't have that particular number.
We'll work on that and get that back to you, Ken.
Ken Usdin – Bank of America
Okay. I’m just probably wondering how much of that might be the improvement that you expect in the margin over time versus the improvement in rates.
Grayson Hall
I’ll have David validate this, just to make sure you have absolutely the right answer out there. But it’s approximately four basis points this quarter, a quarter.
And as they did, it is absolutely has accredited to our margin improvement. When credit improves, then obviously that’s going to be a favorable movement on the part of our loan yields and our margin.
Ken Usdin – Bank of America
Okay. Great.
And then the second question is just can you just give us an update with all things surroundings capital and TARP, and your just thought process. I know obviously there’s a lot to be settled as far as where rate – where we have to sit on ratios and such.
But can you just give us an update on your thought process there, please. Thanks.
Grayson Hall
And I will reiterate our position on park repayment really has not changed at all. We continue to say this, not a former capital.
And we’d like to rebate. That being said, we want to do it in a patient and prudent manner, and repay in a shareholder friendly manner as possible.
We can continue to work cooperatively with our regulators and continue to look at our internal loss projections. And we want to repay when it makes sense and when both we and our regulators have confidence in that plan.
And so we haven’t changed that, that has been our story for the past couple of quarters. I’ll let David state more specifically to our capital ratios and our thought process there.
David Turner
Yes, we feel good about our capital ratios. We think they're very strong.
Yes, where the capital ratios need to ultimately end up from a TARP repayment continues to be a little bit of uncertainty there. But I think that based on our projections, as Grayson mentioned, we have scenarios that we’re planning for eventual property payment when it becomes prudent to do so and in concert with our regulators.
Grayson Hall
And every quarter that goes by that clarity improves.
Ken Usdin – Bank of America
Great. Thanks very much.
Operator
Thank you. Your next question comes from the line of Betsy Graseck with Morgan Stanley.
Betsy Graseck – Morgan Stanley
Thanks. Good morning.
Grayson Hall
Good morning.
Betsy Graseck – Morgan Stanley
Hi, good morning. Question on the new normal we talked about a little bit on the NIM, potentially $335 million, $350 million.
Could you talk about what you would think your new normal would be for especially your ROA or ROE type of numbers?
David Turner
Yes, this is David. Those two are subject to what that new normal looks like.
In round terms, we would expect to have an ROA at least in the $120 million range or better, with the return in the 15% to 16% range. At least that's what we're targeting right now.
This is dependent on how the industry continues to turn just like I mentioned in the margin discussion.
Betsy Graseck – Morgan Stanley
And does the ROA, I suppose, the current level of the capital ratio?
David Turner
We take the ultimate return. It should be on the capital base employed at that time.
Betsy Graseck – Morgan Stanley
All right. Okay.
And then you were indicating earlier that you feel like you have the ability to grow the balance sheet at this stage, so would you – decided that you would bring down a common Tier 1 ratio at this stage.
David Turner
Well, I think in terms of our growth, what we talked about from the balance sheet is, obviously, we're de-risking from a loan portfolio and getting our investor’s real estate loans down to 15 % range of our total loan book, offsetting that with the growth in other loan areas like consumer that we mentioned.
Betsy Graseck- Morgan Stanley
Okay, got it. So more of a mix shift than a total growth.
Grayson Hall
Yes, absolutely. We're seeing strong loan growth in places like asset base lending, in consumer auto.
We are trying to expand our growth in the vulnerable like health care, transportation, technology. But we’re going to have to work very diligently to grow other categories of loan that passionate phase to offset the reduction of investment commercial real estate.
Betsy Graseck – Stanley Morgan
Got it. I appreciate it, thanks.
Operator
Thank you. Your next question comes from Kevin St.
Pierre with Bernstein.
Kevin St. Pierre – Bernstein
Good afternoon, just to follow-up on the capital issues. Could you tell me in your conversations around eventual TARP repayment, what kind of consideration that the current levels of reserves and potential reserve release as well the disallowed DTA are coming in as potential sources of capital?
David Turner
I’ll take the DTA. The DTA, we have a little more than $900 million disallowed for capital.
And in round terms, that’s about 90 basis points of Tier 1 common. There are very specific regulatory rules that exist today as to when that could come back in to the capital calculation.
And when we can start showing that return to profitability, it will start coming back to us. It will not come back in all at once.
But as profitability returns, we'll get the – start getting that 90 basis points back. Linking our reserve release directly to TARP repayment, we haven’t had those kinds of direct discussions.
I think really excludes – mutually exclusive, I mean our reserve that we established for our allowance is subject to a very great risk and recurring methodology that we have employ. And whatever our credit metrics indicate in that reserve, indicate then that’s our reserve is.
And whether we can under provide for charge-offs, which is where I think where you’re going, is going to be dependent on what those credit metrics look like.
Grayson Hall
This is Grayson. Absolutely, a few moments goes.
Someone asked the question about the pace of improvement in our credit metrics. And that's going to drive that question.
We've got a very disciplined, very robust process around loss projections and our allowance methodology to support those loss projections. We don’t say this when around that.
As the credit metrics improve, clarity around when you stop matching charge-offs on quarterly basis will be self-evident. And we are working closely as a team to make sure we do that the right way.
Obviously, that's going to be driven entirely by the pace of improvement and in the credit metrics.
Kevin St. Pierre – Bernstein
Do you sense – is there an underlying concession on the part of the regulators that charge-offs will eventually decline and the company will eventually return to profitability so that what is perhaps latent capital in the reserves, in the disallowed DTA, will eventually re-flow back?
Grayson Hall
Absolutely, we build up a fairly substantial allowance today at 3.61% of total loans. We continue to reserve over and above charge-offs this quarter slightly.
We think that we have a very substantial and appropriate reserve today. In our last bill, if you'll sort of speak as to how that’s viewed.
David Turner
Yes, what I – I think we've talked about that. It's great when you look at a reserve of $3.2 billion that had 3.61%.
If you go back and look historically, in fact, there were other credits strong – in fact, that's a very strong reserve. The other thing you have to really keep in mind is what they David and Grayson both just said, our best experience have been you find and that very sound and methodical methodology, there are good times and tough times.
And that serves you well. And you’ll always get into a reflection point that in a cycle, are we getting close?
We'll see if the credit metrics will do. We'll point it out.
But there're a couple of things that we look at. One is the continued de-risking with investor real estate portfolio, especially the construction book as I mentioned earlier.
What you're seeing under construction book moved from about $9 billion at the first of 2009 to a little under $5 million. That's starting to rake risk of one part out of the portfolio.
Our valuation charges continue to moderate, which is another positive trend. And as we really talk about our potential problems that we see coming to the pipeline, it's really the driver of what we see our reserve methodology should be.
If and always, the discussion that you have internally, we're very focused on it. But we bill a lot.
We have a very solid reserve and continue to feel that way.
Kevin St. Pierre – Bernstein
Thanks very much.
Operator
Thank you. Your next question comes from the line of Scott Valentin with FBR Capital Markets.
Scott Valentin – FBR Capital Markets
Good morning, everyone. Thanks for taking my question.
Are you trying to die down if possible on the client internal risk rating? I'm just trying to get some more color on the movement from category-to-category.
Is it better improvement on the fun end? Are you seeing less migration in the deeper stages of proud methods?
And then, also maybe what the categories are seeing improvement. Is the construction improving or commercial real estate?
Grayson Hall
Now what we did is – this is the first time we talked about our internal risk rating. And what we wanted to do was really signal why we believe that, not like what we saw in the fourth quarter, but in the first quarter.
But what we're seeing in the future quarters about – we say the metrics' changing for us. We always have this view that one quarter is not a trend, but two quarters is a trend.
We're starting to see that now. Internal risk rating for us, we look at it at migration to all our categories where this – pass potential problems or problem credit.
As we look through that, we don't give anymore guidance on what those individual components are. But when we stepped back and looked, what I would say is as we look for potential problems that are coming down the pipe, we see positive movement.
And it's been across the board. CNI has held up relatively well throughout this whole cycle.
So principally, you saying the risk in our portfolio has been in the land, the condo, the homebuilder, and all other parts of the investment real estate portfolio. With that, we've seen positive movement.
And we think that is because of how we have worked this program, these portfolios for the past 18 to 24 months.
Scott Valentin – FBR Capital Markets
Okay. If could have a follow-up question.
What were the comments earlier about NPAs, reduce NPAs will require an increase in the amount of restructuring? I assumed that the commercial real estate and the income – the income investor-owned.
What's the new experience (inaudible) stages? But do you guys have any sense of how the (inaudible) those restructurings have been?
David Turner
Well, I believe in – we have target and the supplemented goes to our restructuring. We had a little bit about $55 million that we restructured the past quarter.
And I'll let Tom speak a little bit about restructuring and our success, and what we think our opportunities will be. Well we haven't done a whole lot thought in the last several quarters.
What we're seeing is as we have de-stressed income-producing properties, you have a couple of avenues. You either sell that.
You can work it out traditionally or you can restructure. So the opportunity, as we see, are with those income-producing properties, working with the class, making sure we have confidence in the property type and that the values won't decline or (inaudible) related to that, property won't decline, sort of.
Grayson Hall
Good. But tacitly, we did about $50 million in restructuring in the fourth quarter, did another $55 million this quarter as compared to $500 million in sales in the four – $600 million in sales in the first.
And so, the restructuring is still a relatively small percentage of our resolution process. We did what we simply today as we do see it coming in larger part of our resolution process.
But we'll feel – we'll still be substantially smaller in our sales activities.
Scott Valentin – FBR Capital Markets
Okay. Thanks very much.
List Underwood
Operator, this is List Underwood. We have (inaudible) for one more question please.
Operator
Certainly, and your final question comes from the line of Christopher Marinac with FIG Partners.
Christopher Marinac – FIG Partners
Thanks. Chris, and this is curious and I'm just on the quest for long term relationship.
Would you consider doing any external transactions over the next year? Or would you prefer to focus on the internal organic growth that you outlined before.
Grayson Hall
So Chris, I think, obviously, we're trying to monitor the activities that are going on in the markets. The disruptions that have taken place there.
From an internal sales standpoint, we think we've taken advantage of a lot of those disruptions to grow our business and to build stronger franchise for the future. We obviously look at those kinds of opportunities strategically.
But quite frankly and candidly, our focus is while returning this institution to a position of profitability and sustainable profitability. And so, the normal metrics that we would look at, entertaining some type of transaction are obviously higher today than they would have been historically because we've got – we've got an action plan that we're executing and we're focused on.
And that may not include those types of activities in the short term.
Christopher Marinac – FIG Partners
Very well. Thank you for the clarification.
I appreciate it.
Grayson Hall
Thank you. Well I appreciate your time and attention today.
And thank you.
Operator
Thank you. This concludes today's conference call.
You may now disconnect.