Good morning, everyone, and welcome to the Pinnacle Financial Partners First Quarter 2014 Earnings Conference Call. Hosting the call today from Pinnacle Financial Partners is Mr. Terry Turner, Chief Executive Officer; and Mr. Harold Carpenter, Chief Financial Officer.

Please note that Pinnacle's earnings release and this morning's presentation are available on the Investors Relation page of their website at www.pnfp.com. Today's call is being recorded and will be available for replay on Pinnacle's website for the next 90 days. [Operator Instructions].

Before we begin, Pinnacle does not provide earnings guidance or forecast. During this presentation, we may make comments, which constitute forward-looking statements.

All forward-looking statements are subject to risks, uncertainties and other facts that may cause the actual results, performance or achievements of Pinnacle Financial to differ materially from any results expressed or implied by such forward-looking statements.

Many of such factors are beyond Pinnacle Financial's ability to control or predict, and listeners are cautioned not to put undue reliance on such forward-looking statements. A more detailed description of these and other risks is contained in Pinnacle Financial's most recent annual report on Form 10-K. .

Pinnacle financial disclaims any obligation to update or revise any forward-looking statements contained in this presentation, whether as a result of new information, future events or otherwise. In addition, these remarks may include certain non-GAAP financial measures as defined by SEC Regulation G.

A presentation of the most directly comparable GAAP financial measures and the reconciliation of the non-GAAP measures to the comparable GAAP measures will be available on Pinnacle's website at www.pnfp.com. .

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

Good morning.

Quite some time, we've been discussing our strategic approach to growth and profitability, essentially that we would grow our balance sheet and informal loans at a double-digit pace for a period of 3 years while containing noninterest expenses, which should result in dramatically improved profitability as a result of the operating leverage that would provide.

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So again, this morning, I thought I'd start with a dashboard to provide the simple snapshot of how that strategy has worked through the first quarter of 2014.

As you can see on the first row of graphs, we're getting outsized balance sheet growth in the form of average loans, up 10.9% in the first quarter of 2014 compared to the same quarter last year. You can also see that we've increased average transaction accounts by 18.7% during that same time frame.

And frankly, the thing that I am most proud of within the deposit category is the growth in low-cost core funding, with core deposits up roughly 15.5% year-over-year, all through organic growth. And we've been accreting capital, most notably tangible book value per share, which of course is highly correlated to share price increases. .

On the second row of graphs, you can see further evidence that we've been able to translate that balance sheet growth into real earnings growth with organic revenue growth of just over 7% in the face of pretty stiff volume and margin headwinds, and fully diluted EPS was up 20.5% year-over-year. I would add that net income is up 21.7% year-over-year.

Our return on assets hit a 1.20%. That's a record for our firm. And return on tangible capital was 13.47%, also a record for the firm. .

As you can see on the third row of graphs, the dramatic improvement in asset quality over the last several years, which continued through the first quarter, has provided meaningful credit leverage for our firm over the last few years, and we anticipate will continue throughout the remainder of 2014 as the soundness of our loan portfolio continues to improve..

As you'll recall, we began publicly discussing our long-term profitability targets on our fourth quarter 2011 earnings call more than 2 years ago.

At that time, we thought we needed to provide better insight into the beliefs we had regarding the capacity and opportunity for our firm to simultaneously grow the firm's customer base and increase its profitably significantly. .

As you can see in the ROAA graph on the left, we made substantial progress, now operating at the midpoint of the target range of 1.10% to 1.30% for ROAA with the last quarter to 1.20%, a record for our firm. It's something every Pinnacle associate is proud to have achieved.

Also as you can see on the smaller graphs to the right, we're now operating better than or within the published target ranges for 3 of the 4 key component measurements. As we noted on our last conference call, we felt like the net interest margin would see improvement in the first quarter and it did, in fact, increased to 3.76%. .

We also experienced reduced charge-offs this quarter, with only 9 basis points in net charge-offs. We also feel like we should be able to maintain our fees-to-asset ratio for the next several quarters, which now operate above the targeted range, roughly 14 basis points above the midpoint.

However, for the expense-to-asset ratio, we still are not operating within our targeted range, but we made 17 basis points of improvement over the last 2 years.

The key for us to continue the trajectory toward the targeted range for the expense-to-asset ratio is to contain expenses while continuing to grow assets and associated revenues, which we have successfully done each quarter for the last 2-plus years. .

In terms of our published long-term growth targets, we've also been highlighting this chart since January of 2012.

It is our belief at that time that our existing relationship managers, plus several new sales associates that we intended to and indeed have hired, had the capacity to produce approximately $1.27 billion in net loan growth over the 3-year period beginning in 2012.

In this chart, we're plotting the actual production to date against that 3-year target that we outlined 2 years ago. In total, during the first 2-plus years since we announced our 3-year loan growth target, we've added a total of $891 million, which equates to a CAGR of 11.2%.

We anticipated that our first quarter 2014 net loan growth would be modest and basically consistent with prior first quarters of the last few years.

That said, we still believe our 3-year target is within reach and that barring any economic event that would warrant a significant reduction in business activity, we should be able to meet or exceed that target. .

So I'm generally pleased with our first quarter of 2014 effort as we continued to take market share and grow net loans, to grow revenues and to realize a 1.20% ROAA, which is something we have pursued with diligence and urgency over the last 2 years. .

With that, I want to turn it over to Harold now to review in somewhat greater detail the results of the first quarter. .

Thanks, Terry, and good morning, everyone. We've been providing information on this slide for several quarters, albeit in various formats. On our last quarter conference call, we noted that we anticipate a modest first quarter in terms of net loan growth.

As Terry mentioned, we still believe our 3-year target is within reach by year end 2014 and remain confident that our relationship managers will produce another big loan growth quarter, just like they have done over the last 2 years.

We've said it many times, net loan growth will be lumpy between quarters and that we will not achieve our loan growth targets on a straight line.

That said, we remain very pleased with the energy of our sales force as new loan originations during the first quarter equated to almost $300 million, which beats the first quarter of the last 2 years, thus providing the source of our optimism as we move forward into 2014. .

As for the red bars, we expected and incurred significant levels of payoffs during the first quarter. This has been the most significant headwind for us toward our achievement of outsized net loan growth.

As we've mentioned previously, it is the one thing that we underestimated when we charted out our anticipated growth prospects in the latter part of 2011.

We're hopeful that we are not experiencing a new normal, but with intermediate rates beginning to creep upward ever so slightly, we are also optimistic that these payoffs and paydowns will reduce at some point in the not-too-distant future. .

To sum it all up, based on discussions with our relationship managers and their line leadership, we're looking forward to having another strong quarter of loan production during the second quarter of this year.

On last quarter's conference call, we mentioned that we would likely -- that there would likely be some margin expansion in the first quarter of 2014. We achieved the increased margin result for several reasons, but primarily due to meaningful expansion in average loan balances, as well as stabilization of our loan yields.

We continue to believe our margin will remain within a 3.70% to 3.80% range in 2014, and that will be based on loan growth and maintenance of our loan yields as well as continued modest decreases in cost of funds. .

More importantly, we did see continued improvement in our net interest income run rates in the first quarter. We're reporting a record $45.9 million in the first quarter and believe we should see increases in quarterly net interest income throughout 2014. .

Concerning loans specifically, as the chart indicates, average loans were $4.13 billion, while 1Q '14 EOP loans were approximately $50 million greater than the average balances, signaling that we are hopeful to see average loan balances continue their quarter-to-quarter increases as we head into the second quarter. .

As the loan yields, we are still on a war on loan pricing, but we are thankful that our average loan yields did increase modestly from 4.28% last quarter to 4.30% this quarter. We consider this a victory as all bankers have been trying to find the bottom on loan yields for quite some time.

We may or may not be at the bottom, but it does appear to us we have reason to be somewhat optimistic about loan yields for the remainder of this year. .

As to deposits, again, here in the first quarter, we're able to continue lowering our funding costs. We've mentioned for several quarters that our pace of reduction will slow and it has, in fact, done that. We were also able to grow our average deposits by 2.3% during the quarter.

We continue to believe we have the opportunity to continue our gradual reduction in cost of funds in 2014. It will require another significant effort on the part of our relationship managers to accomplish further reductions, but we believe we have reason to believe they can make that happen. .

As to deposit balances, we continue to grow our noninterest-bearing deposit business, which we believe may be the most valuable product in our bank as it may be the best indicator that Pinnacle is that depositor's preferred bank and that our business strategy continues to work, with the year-over-year average noninterest-bearing demand deposit balances being up 18.5%.

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We continue to explore the stickiness of our deposit balances, particularly our operating accounts, given the general thought that as debt funds rate increase next year, the high-growth banks may encounter stress on their deposit cost in order to hold on to their funding.

Our general belief is that funding will be the biggest challenge for growth banks at some point, so we concern ourselves with keeping the proper amount of tension -- attention on both sides of our balance sheet at all times.

As to our deposit book, we remain confident that we have attracted core depositors to our franchise and there is -- that there is undoubtedly some money that will find a higher-yielding home or other business investment in a higher-rate environment. .

As to our business and consumer DDA accounts, we continue to grow both in terms of number of accounts and aggregate balances. We routinely review the average individual account balances for our DDA accounts in order to determine if those accounts are building balances to potentially await a better investing opportunity.

Our conclusion is that over the last couple of years, the balances of individual accounts have changed only slightly.

The average balances of our business DDA accounts was approximately $48,000 during the first quarter of this year, which is up 1.3% over the 2-year period from first quarter 2012; while consumer DDA average account balances was $3,300, up 6.4% over the same 2-year period had we seen large increases that could signal balances that are awaiting a better return.

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Switching now to noninterest income. Our first quarter core fee income was up 7% over the same quarter last year. We've seen sound growth in service charges, investment services and trust, which should offset declines we experienced in our mortgage origination business. .

Insurance experienced their usual increase in first quarter revenues due to bonus contingency payments from the various carriers. If you think about the long-term profitability targets that we've set for each major element of the P&L, for the algebra to work, it is critical that we grow our fee income as fast as we are growing loans and deposits.

We think we can continue to do that in our fee businesses. We will be working to increase our revenues in wealth management in 2014 with greater focus on referrals, both to and from the commercial bankers. .

We also have several tactical items aimed at interchanging credit card that we believe will bolster these fee businesses in 2014.

We've experienced a 16% increase in the number of debit cards from the end of the first quarter of last year, while net interest -- net interchange revenue was $1.66 million in the first quarter of 2014, up approximately 13.2% from last year. .

Now as to operating leverage, our core efficiency ratio is at 56.3% excluding ORE expense and federal home loan bank restructuring charges consistent with the fourth quarter.

The first quarter of each year will always incur seasonal salary and benefit adjustments as that is when we grant our merit raises for our associates, which was approximately 3% this year. .

We'll also start over on payroll taxes and 401(K) match expenses, which, over the course of the year, many associates will max out on their contributions. First quarter expenses came in about where we anticipated. As far as the remainder of 2014 is concerned, we're likely to see increases on our 2014 expense base even if we expect to hire people.

That said, I have great confidence in the senior leadership of this firm, and they will continue to find appropriate ways to increase the operating leverage of the firm. .

Terry mentioned our expense-to-asset ratio, which we calculated at 2.43% for the first quarter. As we've stated for the last 2 years, the primary strategy to decrease and to ultimately achieve our long-term expense-to-asset ratio target will be growing the loan portfolio of this firm with the corresponding increase in operating revenues and earnings.

As it sits right now, we need slightly more than $200 million in additional earning assets for our expense-to-asset ratio to be at the high end of our targeted range. Thus, we believe we are getting within reach of our target provided we remain disciplined on expense growth. .

Following our adjusted pretax, preprovision increased from $25.1 million in the fourth quarter of 2013 to $25.6 million in the first quarter of 2014, a linked quarter increase of 2.1%, which equates to an annualized growth rate of 8.3%.

Increasing our pretax, preprovision results in the first quarter in any year has typically been a challenge for us as the first quarter will see the impact of fewer operating days, which impacts net interest income, as well as merit raises and increases in payroll taxes. .

Again, the key to our ability to growing our operating earnings is gathering low-cost deposits and finding quality lending opportunities, which is what we will focus on again this year. Our primary mission remains our continued organic growth in Nashville and Knoxville. .

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

Thanks, Harold. I thought I'd close today with some comments about valuation. They're consistent with what we discussed last quarter, but I believe bear repeating. Occasionally, someone will comment they think the stock is expense given the multiple expansion for small-cap banks has been unbelievable.

But I want to offer my views on the relative attractiveness of our shares going forward. .

I'm not necessarily a Warren Buffet groupie, but I agree with his philosophy. To manage the fundamentals, tell the story and let the share price take care of itself.

That's exactly what we're trying to do at Pinnacle, so my purpose here is not to debate the markets but to simply put forth why I personally like PNFP as an investment, which makes up essentially 100% of my liquid net worth and consequently requires me to think like a shareholder continuously. .

Number one, we continue to set high goals. Few set multiyear, double-digit, organic balance sheet growth targets, but we set them, published them and we're fundamentally on target. The relationship managers and leadership have executed with precision.

And because of that, we're now operating inside or better than the targeted ranges for ROAA, net interest margin, noninterest income and net charge-offs. We grew the balance sheet and earnings at a double-digit pace.

And in terms of our track record for shareholders, our share has appreciated 72% during 2013 and are now up another 7% since year end even after the most recent pullback. And so had we not executed on the fundamentals, it's my thesis that our shares would not have performed like they have performed.

I recognize and appreciate that there are other banks that still -- have still higher multiples, and I genuinely applaud their accomplishments because that gives us something to shoot for in the future. .

And so now we're down to the real question, which is how should PNFP shares be valued going forward. Here's how I think about it. We continue to set aggressive targets for soundness, growth and profitability. Our earnings are based on a proven ability to grow revenues.

And in my judgment, that's a more valuable income stream than one built on expense cutting and one that's distinctive in this industry right now. That revenue growth is organic. We're not required to take on risks associated with M&A in order to produce outsized revenue growth. We may, but we don't have to in order to produce the outsized growth.

We're able to produce outsized growth because our markets are relatively more vibrant than most and because we've created competitive distinction in those markets. We have a track record for continuous market share takeaway. We take share year in, year out.

Quickly, roughly 84% of our loan assets are in Nashville, Tennessee, which continues its 2-decade long track record for attracting jobs and has been the second fastest-growing MSA in the nation since the recovery began.

And not only that, the third-party research substantiates that we now have established the #1 lead bank market share among businesses, with sales from $1 million to $500 million in Nashville.

Despite now being the leader, it's not inconceivable to me that we could still double our current lead bank share in Nashville, and we continue to be the fastest-growing bank in Knoxville since we launched there in 2007.

Again, based on third-party research, our client satisfaction scores are meaningfully higher than all our major competitors in Nashville and Knoxville, which bodes well for our continuing ability to take share.

And since the competitive distinction that we have achieved is primarily based on our people, hiring the best bankers in the market, and since we're recently recognized by the American Banker as the best bank in America to work for, our competitive advantage should be a sustainable one. .

Of course, asset quality is the third critical element of sustainable shareholder value creation. Some investors may not remember that our natural model produces limited construction acquisition -- land acquisition and development exposure, generally less than 10% loans outstanding.

For the first 7 years of this firm's existence, we operated with very limited exposure to residential construction, land acquisition and development and sustained just 5 basis points in net charge-offs for the entire first 8-year period of our firm's existence.

Unfortunately, immediately prior to the Great Recession, we made 2 acquisitions that significantly altered our loan mix, creating a concentration in construction land act and development just in excess of 20% of the loan book at the worst time since the Great Depression.

Our shareholders paid a large price as a result of that concentration, but we've now eliminated that and frankly any credit concentration, with total exposure to construction and land development lending now just 7% of total loans. That's below prerecession levels. Net charge-offs are extraordinarily low and, we believe, is sustainable. .

So in terms of valuation, it seems to me that the firm that consistently produces outsized top line revenue growth and bottom line earnings growth does so organically based on a sustainable competitive advantage and with outstanding asset quality is an extremely valuable franchise. .

Operator, with that, we will stop and be glad to respond to any questions. .

[Operator Instructions] And our first question comes from Michael Rose from Raymond James. .

I just wanted to get a sense here on the press release. You noted that you expect to expand the expense base and continue to hire relationship managers. Several banks have more recently come into Nashville, specifically maybe with more targeted strategies.

But what's the climate like for hiring additional lenders? And I would expect that with the performance that you put up, it's probably being used as a recruiting tool and probably getting maybe a little bit easier to recruit lenders from other institutions.

Can you just give some color and context there and kind of what you expect in terms of hiring for this year and maybe what you added last year?.

Yes. Let me start with the growth -- I guess, the growth and the hiring profile of the company. And what we're really trying to do in 2014 is fundamentally the same thing that we did in 2013 and 2012. We talked about the $1.27 billion in loan growth.

I think as Harold pointed out in his slide, we did $432 million and $420 million in 2013 and 2012, and so we need to do about that -- just a hair less than that this year to hit the $1.27 billion. So that sort of what our outlook is and what we believe should take place.

In terms of the hiring that supports that, when we announced those targets, I think we said we would hire 12 people, might of said 11, and came back later and updated it to 12. I don't remember, but it -- we basically had a target that we would hire about 12 people in 2012, which we did. We hired roughly that number in 2013.

And my expectation is and our budget calls for is to hire a number of roughly that in 2014. In terms of hiring, Michael, I think you probably know this. The big hiring months for us and I think a lot of banks is really the second and third quarter of the year.

In the first quarter, people are waiting to get paid their incentives, so they're not likely to move at that point. And in the fourth quarter, generally most people can sort of smell pay dirt. In other words, they're far enough through their performance year they feel like they're going to earn big incentives and so it's hard to get them out.

So first and fourth quarter are generally slow-hiring quarters. But again, we would expect to hit a hiring number similar to what we did in 2012 and 2013. In terms of the environment, you mentioned the competitiveness of recruiting. There's no doubt that Nashville is tremendously attractive.

It's drawing all kinds of people and there are a lot of folks that are banging around trying to hire bankers, so I think that that's true and would be reflective of a difficult recruiting environment. The other side of that is what you said.

Our reputation in this market is so strong as the largest locally owned bank and a reputation for being a great place to work. And quite honestly, success breeds success. By that, I mean we have hired the best bankers in the market, which makes it easier to go hire the remaining best bankers in the market.

And so again, I would say there -- it is competitive, and there are a lot of people banging around, but I don't find it to be meaningfully more difficult than it's ever been to either keep our people or hire new people. So hopefully, that's helpful. .

Yes, it is. And as a follow-up, you mentioned in the press release as well that loan yields have maybe stabilized here.

How does that dovetail with the increased competitiveness in Nashville? And then are you seeing anything on the pricing and structure side that maybe gives you a chance for worry? I mean, you're clearly below your charge-off targets at this point, but things are good until they're not, obviously.

And we did see a little tick-up in the classified asset ratio this quarter. So anything to kind of read into that. .

Yes. I think on the -- let me start with loan yields and I guess, I'll hit it -- asset quality. I think on the loan yields, Harold's comments, I believe, were accurate. What he said is it has been our belief for a while that bankers have been trying to find the bottom.

I mean, the overarching themes here, there's too much liquidity in the system, too much money chasing too few deals at the competitive landscape and has put pressure on pricing. But we have felt a slowing down of that pricing pressure over the last few quarters, which I think is a good sign. I can't guarantee that it'll be that way.

But again, it -- I think we had said last quarter we felt like they would stabilize. They did stabilize. Our outlook is we may bounce around here kind of where they are, maybe up a few ticks, down a few ticks, but it feels like we've sort of got the bottom here on loan yields.

I think on the asset quality thing, Michael, you know our numbers pretty well. Because of the commercial nature of the portfolio, some of the things -- or some of the ratios are lumpy in terms of their movements.

You get one payoff that you think is going to come in -- or you're looking for one payoff on a classified loan in the last week of the quarter and it didn't come in until the second week of the next quarter. I mean, it will cause the ratio to be choppy, but it didn't mean anything in the grand scheme of things.

And so I don't see anything going on that gives me concern relative to classified assets. I believe that we'll continue, frankly, to advance and I would guess that we'll have lower NPAs and classified assets as we exit 2014 than we did when we entered 2014.

So again, I expect continued improvement in asset quality, but we may find quarters where you get one big loan move to an NPA or one big loan not pay off that you thought that may cause the ratio to bounce around, but I'd be surprised if we don't see continued forward progress quarterly through 2014.

Before the next question, on that whole idea about some credit leverage and some credit ratios moving a little bit north on us, we went through a lot of that at the end of the quarter. We still think we got credit leverage on our P&L. We saw the reserve come down about 3 ticks this quarter.

We saw probably one of our best charge-off quarters in recent memory, I guess, at the end of the first quarter. So I think in terms of soundness of our firm and our loan book, we're really optimistic that we'll continue to see additional credit leverage come into our P&L over the rest of this year. .

Our next question comes from Jefferson Harralson from KBW. .

I might just follow up with that credit leverage question. You had a $0.5 million provision this quarter, but you also said you expect the net charge-offs to be -- remain low and stable. So are you -- and -- but a huge reserve relative to your NPAs -- sorry.

It sounds like you're sort of saying that you expect this provision to be in this range or lower when you make that comment.

Is that what you're thinking?.

Yes. I think the provision is going to bounce around with loan growth. This quarter, we had a -- net loan growth was around $37 million, which was modest at best. So we believe over the next 3 quarters we'll experience a lot higher in loan growth, and that will drive some of this provisioning.

So with that, and the low charge-offs and some credit leverage, you should see bigger provisioning going forward, Jefferson, but it's only because of a function of loan growth. .

Got you. Got you, all right. On the asset sensitivity, the liability sensitivity, it looks like some of your durations came down this quarter, securities portfolio. But can you talk about -- are you -- you had mentioned before your -- you think your reliability senses over some period of time.

Are your liability sensitive in the first 50, the first 75, in the first 100 basis points, or where does that click over to be asset sensitive you think?.

After 100. Right now, the floors are still about 85 basis points above the contract rates, so we need about 100 basis points we think to manage it. But given the comments from the Fed, we think we've got time to work on that to maybe reduce that exposure over the next year or so.

We've got some tactical things that we're exploring currently that we could also implement. And you're right, the durations of our investable did come down in the first quarter primarily because we've been buying a lot shorter on the curve. And Jefferson, I want to go back on your question. I think this was clear, but I just want to make sure.

I think the 2 major factors that influence the provision really are what's the level of allowances required to support the loan portfolio, and then how much growth are you adding, how much incremental allowance needs to be added to support the new growth. And so those are opposite trends.

You would expect continued downward pressure on the general percentage of loans that need to be set aside for the loan portfolio, and then you got growth that cuts back against that. But the net of those ought to be continued credit leverage for us. .

Do you have a rule of thumb for what amount of reserve you need to set aside for a new loan?.

We do not. I think just -- the point is that we run a pretty sophisticated reserve methodology. And so you're going through every loan in the portfolio, every risk rating. You're looking at all the migration trends and there's some pretty sophisticated algebra that actually produces what the loan-loss allowance has to be.

If you were just asking, as the CEO of the company, how do I plan and how do I think about it, sort of back of the envelope, what I believe is that I'm on -- generally, I'm on -- if I've got an allowance at a 1.61% in total, I theoretically assume, I'm going to put up 1.61% of the new loan growth. .

[Operator Instructions] The next question comes from Matt Olney from Stephens. .

This is actually Tyler Stafford in for Matt. My first question is on fee income. And I think you may have touched on this a bit in your prepared remarks, but service charges were up, call it, 13% year-over-year.

I'm just wondering, what's your thoughts on what was driving this growth?.

Tyler, this is Harold. We've been looking at several tactical items in service charges primarily around our analysis charges, and we implemented some of that during the first quarter. So I think that helped it. But I think, overall, what really drove the increase was just the number of accounts and the growth in balances.

So I think it correlated fairly closely with that. .

Okay. And then on mortgage, I was wondering if you had the new purchase first refi breakdown within your mortgage volumes handy for 1Q. .

I don't have it at my disposal this morning, but I would imagine that it's going to be probably 60% to 70% purchased, and the rest would be obviously refi. .

And the next question comes from Peyton Green from Sterne Agee. .

Terry, I was wondering maybe if you could comment a little bit on customer behavior, just maybe changes you're seeing. I think there was a slide in the deck that referenced that about 36% of your business in the first quarter, which is, you have noted, is a slow quarter for you historically -- was due to new client takeaway.

And I was just wondering, on the existing clients, I mean, what are you hearing from your customers? I mean, are they moving forward on the economy different than they were 6 months ago or a year ago?.

I think that's a great question. I don't think they're moving forward differently than 6 months or a year ago. And by that, I mean, I think that again, just -- I'm not basing this on data, I'm basing it on just discussions with lots of business owners over the last 6 to 12 months.

I think business owners are comfortable with where the economy is, meaning they're not panicked. They don't feel like they're in a difficult position. On the other hand, they're not optimistic.

They are concerned about economic stability, they're concerned about rates, they're concerned about health care and they have lots of those kinds of things that weigh on them. And so what -- I think what you see is that the economy is moving forward at a very slow pace.

I don't think it -- I can't -- it's hard for me to detect anything in sentiment that says, "Hey, this thing's really going to get hot." Specifically, I look at other data.

If you look at things like our utilization -- line utilization, our line utilization's as low as it was at the trough of the recession, which would suggest that the working capital cycle is not moving forward. The sales cycle is not moving forward at a very dramatic pace.

I think some of it can be masked by the liquidity that Corporate America stored up, but I really think that the sales cycle is just not moving forward at a very rapid pace. We don't talk to people. We don't have substantial demand for, what I'd call, true expansion. The equipment-type lending that we do is generally deferred capital expenditures.

We're not seeing people that are saying, "I'd like to add a new plan or add a new shift or do any bona fide expansion." So I don't know if that's helpful.

It's all sort of based on sentiment, but I would say that I would describe the business owners that we deal with as generally comfortable, but not confident enough to do -- take any meaningful risk going forward. .

Okay.

Tell me, is it fair to think that there's probably more commercial real estate activity over the next couple of quarters unless something changes in that sales cycle?.

I think that's true. .

Okay. And then just a comment maybe on -- this is more corporate-wide, but in terms of cash dividend. I mean, I know you all just instituted a couple of quarters ago. Just wondering what you think the right payout ratio is with the improvement in the ROAA and ROE and then you all are in a position where you're really building capital.

What would you expect the range to do over time?.

Yes, Peyton, thanks. A couple of points on that. One is that when we originally started setting up the dividend, the 20% payout ratio was kind of the general consensus of our board as to what they thought was reasonable at the time. Now obviously, with growth and earnings, that number is going to come down some.

So to get to my second point, we'll be going through our strategic planning effort here over the summer. Capital and capital utilization and deployment will obviously be a point that we'll discuss quite diligently with our board, and then we'll see -- that will give us kind of the tone in terms of how we'll talk about capital after that. .

Okay, and then last question. Terry, maybe you can comment. You referenced that -- I guess, in a slight way. But I mean, what is the M&A opportunity? I think we still see more of an episodic kind of life cycle throughout the space. I was just wondering if you're seeing any change. .

I think I would be. When you say see any change, I guess, change compared to what or when, but I do think there are probably more small banks that are, I guess, I would use the word contemplating, what their long-term strategy is.

There's a lot of sentiment, a lot of talk about the difficulty of the environment, the cost of regulation, the difficulty of producing returns. And so I think you do have a lot of what I might refer to as downstream banks for us that are more seriously considering their alternatives.

But that said, my own view is that the gap between the bid and ask is still pretty wide, and so I don't look for -- I think your word episodic is probably good, maybe sporadic. I think you're going to find deals will materialize because of some of the discussions that are going on.

But I don't look for it to be dramatically better than, say, 2013, probably be a little better, but not dramatically better in terms of whole-bank transactions in 2014.

I think as it relates to us, we've always said it's a pretty short list of acquisition opportunities just because of the unique nature of our culture and brand and what we do for a living and the fact that we only want to operate in the urban markets and those kinds of things.

So that's a pretty limited list, and I wouldn't characterize it any differently today than I have in the past. .

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

Peyton got -- has got my question. The other one I had was just on -- maybe Harold, just as it relates to kind of fee income, just kind of talking through to some of the algebra, you make your profitability targets work and the fee income will continue to be strong in the next couple quarters.

I mean, is it -- I guess, do you guys look at it as doable to put up double-digit growth in fee income in 2014 even with the decline in mortgage and kind of -- if so what are the real catalysts to achieving kind of a double-digit type of growth in fee income this year? Is there anything that will not -- that we're not seeing currently that you're anticipating?.

Brian, I really don't think there's anything there other than what we've talked about. There are several tactical initiatives. I mentioned interchange. I mentioned increasing referrals. All of that is just blocking and tackling and making sure that the sales force is focused on their fee businesses. We want to try to help our mortgage originators.

We want to help our insurance guys. We want to help our broker guys and our trust guys to help them maximize their capacity that they have in their businesses. So I don't think there's anything new and different that we may be tackling other than just trying to ramp up the volume and the intensity. .

Okay.

And the double-digit growth is achievable, I guess, is your expectation?.

Yes, we think so. We think so, for sure. .

And our next question comes from Mikhail Goberman from Portales Partners. .

If I could piggyback on a prior question about the credit leverage.

Do you have a sort of -- where do you think the reserve ratio could -- where -- how low do you think you can push it down basically?.

Well, Mikhail, that's probably the $64 million question that we can't answer, although we try to. So we think there's continued improvement in our loan book. We ought to see some reductions -- continued reductions in our allowance over the course of this year, at least. .

Okay. And changing subjects. This quarter, you guys sort all had a shift, really good growth in CRE loans -- period and CRE loans, while C&I kind of ticked down a little bit.

Do you see that trend sort of continuing the next few quarters, or different?.

Well, I think that we -- I'd break it apart. I mean, I think the trend for CRE is I think there will be continued growth opportunities there. I would not expect our C&I loans to shrink. In fact, I would expect them to expand pretty meaningfully. We've, I guess, tried to study and highlight what is going on in the commercial payoff.

And I don't want to spend too much time rehashing old things, but I will just say that the payoffs are higher than I remember. One of the big factors in those payoffs is the fact that we deal with owner-managed businesses. Owners were unable to find exits, so a lot of these baby boomers were looking for exits.

But over the last 4, 5 years, they just weren't to able exit. There was no market. And the takeouts, if they existed, were not at acceptable prices. And so you have a lot of pent-up demand for owner managers to exit, and that's occurring.

At the same time, there is an unbelievable amount of money, private equity money in particular, that are looking for transactions. And so we've just seen an extraordinary volume of paydowns where private equity firms are coming in and taking out some of these owner-managed businesses.

We win in some of those transactions to the extent we deal with a number of the local PE firms, but we sometimes lose in those transactions when you're dealing with larger out-of-market PE firms. Because generally, when they come to the table, they come with their bank, not us. And so that's resulted in a lot of paydowns.

So again, I don't want to ramble on too long, but it just happens that the first quarter saw a large volume of those kinds of transactions, which we -- which is not our expectation for the second quarter.

Again, you'll never know what could happen, but what we're aware of looks like we'll have reduced payouts and we're familiar with less with those kinds of transactions in front of us than behind us. So it's a long winded way to say, I think CRE should grow, but I think C&I should grow meaningfully in the second quarter. .

And I'm showing no further questions at this time. Ladies and gentlemen, thank you for participating in today's conference. This concludes our program. You may all disconnect and have a wonderful day..