Umpqua Holdings Corp (UMPQ) Q2 2019 Earnings Call Transcript

UMPQ earnings call for the period ending June 30, 2019.

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Motley Fool Transcribers
Jul 18, 2019 at 4:24PM
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Umpqua Holdings Corp (NASDAQ:UMPQ)
Q2 2019 Earnings Call
Jul 18, 2019, 1:00 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day everyone, welcome to the Umpqua Holdings Corporation Second Quarter 2019 Earnings Call. [Operator Instructions]

At this time, I would like to turn the conference over to Mr. Ron Farnsworth, Chief Financial Officer. Please go ahead sir.

Ron Farnsworth -- Chief Financial Officer

Okay. Thank you, Alan. Good morning, and thank you for joining us today on our second quarter 2019 earnings call.

With me this morning are Cort O'Haver, the President and CEO of Umpqua Holdings Corporation; Tory Nixon, our Chief Banking Officer; Dave Shotwell, our Chief Risk Officer; and Frank Namdar, our Chief Credit Officer. After our prepared remarks, we will then take questions.

Yesterday afternoon, we issued an earnings release discussing our second quarter 2019 results. We have also prepared a slide presentation, which we will refer to during our remarks this morning. Both of these materials can be found on our website at umpquabank.com in the Investor Relations section.

During today's call, we will make forward-looking statements, which are subject to risks and uncertainties and are intended to be covered by the Safe Harbor provisions of federal securities laws. For a list of factors that may cause actual results to differ materially from expectations, please refer to Page 2 of our earnings conference call presentation, as well as the disclosures contained within our SEC filings.

And I will now turn the call over to Cort O'Haver.

Cort O'Haver -- President, Chief Executive Officer, Director

Okay. Thank you, Ron. Let me begin by providing a brief recap of our quarterly financial performance and then I'll provide an update on Umpqua Next Gen. Ron will discuss the financials in more detail and then we'll take your questions. Our Q2, 2019 financial performance result in earnings per share of $0.51. This is up from the $0.34 we earned in the prior quarter and the $0.30 reported in the second quarter of 2018. The increase in earnings per share from the prior quarter reflects several strategic moves to enhance the company's long-term profitability. This includes the gain on sale of $81.9 million, recorded from the Visa Class B transaction we executed during the quarter.

We were opportunistic in the timing of the sale and use the proceeds to strategically rebalance our securities portfolio and continue to invest in efficient revenue generating businesses. Also included in this quarter's financial results was a $24.7 million negative adjustment related to the fair value change of the MSR asset. This adjustment was primarily driven by the reduction in long term interest rates that occurred during the quarter. As previewed before, we are implementing tactics to reduce the quarter-to-quarter volatility resulting from the MSR fair value changes.

We are currently executing a sale of up to 25% of our mortgage servicing rights. We also improved our financial disclosures regarding the components of the fair value changes which Ron will cover in his remarks. As they stated last quarter mortgage related products and services are and will continue to be a core business for us at Umpqua.

Now I'll highlight our strong balance sheet growth for the second quarter. Deposit growth for the quarter of $575 million represents a strong annualized growth rate of 10.8%. Our initiatives that are focused on growing deposits will continue to be a priority as we go forward. We also generated loan and lease growth of $547 million, which represents a robust annual growth rate of 10.7%.

Our emphasis, our diversified loan growth is showing positive results, highlighted by growth of $208 million in our C&I vertical during the quarter. Now a quick update on Umpqua Next Gen. We are at the halfway point in our Umpqua Next Gen strategy. I am pleased with our performance so far and optimistic about what lies ahead. Specifically, with the strong performances we are seeing out of our core businesses.

I'll start with balance growth. Within our commercial, corporate global payments and deposits groups, we've added over 20 experienced customer facing associates this year, as we continue to build our teams that are focused on bringing multifaceted relationships to the bank. We will continue to add new associates and new teams to Umpqua in the coming quarters, as we continue working to meet our growth initiatives. We've also made terrific progress with our human digital strategic priority. We launched Umpqua Go-To, the industry's first human digital banking platform, this past quarter. We currently have more than 27,000 customers enrolled on the app and more are joining every day. In addition, this quarter, we are implementing a predictive analytic tool for use within our first commercial and corporate teams.

The tool uses algorithms to inform our bankers about the future products and services our customers are likely to need, based on their current activity and as a very powerful tool to help our teams continue building robust relationships. I'll finish by updating the progress made within the operational excellence initiative. We have successfully completed the store consolidation work on five locations we highlighted in the prior earnings call, for a total of 20 year-to-date. We have also identified an additional eight locations for consolidation by the end of this year. This will bring our total store rationalization number to 65, since Q3 of 2017.

I'm also pleased to report that Phase 1 of our back office work is complete. Since launching the initiative, we have achieved $24 million on annualized savings. I want to highlight that due to this work and the store optimizations previously mentioned, our year-to-date non-interest expense in 2019 is 8% lower than it was in the same period a year before. Phase two of the back office work continues as we -- continues as we continue create opportunities to operate the company in efficient and effective manner.

Now back to Ron to cover of the financial results.

Ron Farnsworth -- Chief Financial Officer

Okay. Thank you, Cort. And for those on the call, the one to follow along, I'll be referring to certain page numbers from our earnings presentation. Turning first to Page 6 of the slide presentation, which contains our quarterly P&L. GAAP earnings per share were $0.51 this quarter, up from $0.34 in the first quarter. Notable items impacting earnings this quarter were the combined security gain lines benefit to EPS of $0.26 more than offsetting the continued negative fair value effects of declining long term interest rates.

With fair value losses of $0.08 for the mortgage servicing right asset in one sense for the swap derivative. Additionally, prepayment speeds in the bond portfolio have increased, resulting in a $9 million increase in taxable bond premium amortization this quarter, which is about $6 million higher than we expected, negatively affecting earnings per share by $0.02. Ex these items, adjusted earnings were $0.37 per share.

Turning to net interest income on Slide 7. Net interest income decreased $10 million or 4% from Q1. Interest income was steady with the growth for -- for interest on loans and leases offset by lower investment interest. Within the loan interest increase the majority was related to healthy growth were leading to higher average balances during the quarter. Discount accretion on acquired loans remained flat at $5 million this quarter and is expected to decline modestly over the coming quarters.

But the taxable investment income line item, premium amortization was $10.4 million, up from $1.6 million in the first quarter due to increasing prepayment speeds on the underlying MBS investments. This is a retrospective adjustment, it was about $6 million higher than we would expect moving forward, assuming no further change in prepayment speeds. Our interest expense increased $9.5 million or 19 basis points based on continued average balanced growth and rising short term rates over the past -- over the last several quarters.

Our cumulative deposit beta based on the Fed rate increases to-date was 40%. As reflected on Slide 8, our net interest margin was 3.7% this past quarter and the margin excluding discount accretion was 3.61% down a bit more than expected from the first quarter. The majority of the decrease resulted from increased bond premium amortization just discussed along with the increase in cost of deposits. Normalized in the bond yield at roughly 2.5% with $4.5 million of premium amortization would add 10 basis points back to the margin.

On Slide nine, the quarterly provision for loan and lease losses increased to $19 million, which is primarily a result of strong growth we had on the balance sheet this quarter as net charge-offs were relatively consistent. And moving out to non-interest income on Slide 10. We generate a total non-interest income of $122 million for the quarter. And this included net security gains of $75 million, more than offsetting lower mortgage revenue. As a result of lower long-term interest rates this quarter, we took a $25 million fair value loss on the MSR asset in mortgage banking revenue, along with a $4 million customer swap derivative fair value loss and other income.

For mortgage banking, as shown on Slide 11, for-sale mortgage originations increased 43% from the first quarter. As expected, our gain on sale margin increased 37 basis points to 3.32% based on higher pricing and an increase in the locked pipeline with the higher volume. The MSR asset reflecting lower long term mortgage rates and associated increase in prepayment expectations is now valued at 88 basis points on the $15.8 billion in service loans.

We have provided additional detail of the total quarterly change in balance, here and on the last two pages of the earnings release. Noting new volume offset by the change due to collection of expected cash flows over time, along with changes in valuation due primarily to interest rate fluctuations. This last row is the one which correlates most closely with the change in long term interest rates. And the $17.8 million change for inputs this quarter, reflects the approximate 50 basis point drop in long-term bond yields during Q2.

We've been impacted by the reduction in long-term interest rates over the past year with a higher origination volume, one would expect to see with lower rates not coming close to making up for these fair value hits. We are currently in the process of selling up to a quarter of the MSR portfolio and expect to complete that in the fourth quarter. With this and another potential sale of a similar amount late this year or early next. We are repositioning the asset and allocating capital to focus on more formal relationships carrying deposit balances, which will improve the overall profitability of the business and reduce potential future volatility to the P&L from these rate related changes.

Turning now to slide 12. Non-interest expense was $180.4 million, a decrease of 8% from the second quarter a year ago and up 5% from the prior quarter. This was slightly above our guidance range of $174 million to $179 million, related primarily to $5 million of higher mortgage banking production costs and a loss on OREO, partially offset by favorable variances elsewhere.

The bridge on the right side of Slide 12, shows the moving parts from the first quarter. In an addition to the two items just discussed, the other expected costs increases seasonally in Q2 were offset by expected reductions in payroll taxes and lower group insurance costs. Note the efficiency ratio is 51.6% on the phase of the P&L for Q2. But our internal measure was 59% when adjusting out the security gains and MSR and CBA [Phonetic] for value charged as discussed earlier. Higher than expected, but reflective of the lower investment interest income. Regarding the operational excellence program, as Cort mentioned, we've now reached a healthy $24 million in annualized savings and it finished Phase 1 and continued the work for Phase 2.

Turning now to the balance sheet, begin on Slide 13. We increased our interest bearing cash in this quarter to just under $700 million. And Cort mentioned earlier the higher loan-to-deposit growth. We mentioned the gain on Visa stock sale earlier. We also repositioned a portion of the investment portfolio by selling roughly $300 million of higher premium mortgage-backed securities and reinvestments a longer term bullet agency securities.

This trade was done to reduce our asset sensitivity to future rates and scenarios and reduce future bond premium amortization volatility. And resulted in the $7 million plus loss on sale of debt securities reflected on the income statement. The portion of the proceeds were also used to reduce term borrowings with the federal home loan bank. Our total available liquidity remains strong at $10.5 billion, including off balance sheet sources. The mix of loans and deposits, as shown on Slide 14, our strong long balanced growth this quarter was centered in C&I and residential real estate. The decline in consumer loans continues as a result of our targeted wind down of the indirect dealer auto portfolio.

Within deposits, we had strong growth and non-interest bearing demand supported by roughly 3000 new customer accounts along with money market deposits. Broker deposits were down $190 million, offset by a like amount increase in public deposits. Slide 15 reflects the repricing characteristics of our loan and lease portfolio, knowing our floating and adjustable rate loan mix remain consistent over the past few quarters.

And on Slide 16, we have highlighted the geographic diversification of our loan portfolio across the footprint. We also provide some selected loan and underwriting characteristics for each major area. As mentioned on previous calls, we are happy with the granular nature of the loan book.

Slide 17 reflects our credit quality stats and highlights the strength of our portfolio as shown by the low level of classified loans on the upper right chart, just 7.6% of capital. In the bottom right chart, we break out our FinTech Leasing Group net charge-offs from that of the rest of the bank. Noting the leasing component has been fairly consistent around 3% to 3.5% for the past year. Keep in mind that the weighted average yield of this portfolio is a very healthy 10%.

And lastly, on Slide 18, I want to highlight capital. Noting that all of our regulatory ratios remain in excess of well capitalized levels with our Tier 1 common at 10.9% and total risk-based capital of 13.7%. With our quarterly common stock dividend of $0.21 per share, the total payout ratio was 42% this quarter. Also, our tangible book value per share is $10.97, which when you also account for the $0.21 in dividends to shareholders last quarter increased 7% over the first quarter.

Our excess capital is approximately $210 million and it will provide us with several opportunities, no matter the economic or rate scenario over the intermediate term horizon. To conclude, our focus is on executing all aspects of our Umpqua Next Gen strategy, improving financial results and generating solid returns for shareholders over time, including the healthy dividend.

And with that, we will now take your questions.


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Questions and Answers:

Operator

Thank you, sir. [Operator Instruction] We'll take our first caller, Michael Young with SunTrust.

Ron Farnsworth -- Chief Financial Officer

Michael?

Operator

Young, kindly your line is open, please go ahead. You may be on mute. Okay, we'll move to our next caller. That will be Steven Alexopoulos with JP Morgan.

Steven Alexopoulos -- JP Morgan -- Analyst

Hi, can you guys hear me?

Ron Farnsworth -- Chief Financial Officer

We can, Steve. Good morning

Steven Alexopoulos -- JP Morgan -- Analyst

Okay. Hi, good morning. I wanted to start, Ron with a margin is quite a few moving pieces to the quarter, assuming the Fed cuts by 25 basis points in July, what do you think the NIM heads do in 3Q?

Ron Farnsworth -- Chief Financial Officer

Good question. Well, assuming the Fed doesn't cut, I expect our margin will be up 10 bps, assuming relatively flat rates prepaid stay relatively unchanged in our bond yield would be closer to 2.5%. We are slightly asset-sensitive, that, of course, includes on the downside we are making moves to reduce that asset-sensitivity on the downside. So might be a little bit of pressure, but to be within the range of plus or minus 5 bps. We've been talking about for the last couple of quarters. We do have --

Steven Alexopoulos -- JP Morgan -- Analyst

Okay.

Ron Farnsworth -- Chief Financial Officer

Quite a bit of higher cost borrowings and deposits that as we continue to generate lower cost deposits. We're able to refund the lender there to help bulk of the impact on the downside.

Steven Alexopoulos -- JP Morgan -- Analyst

Got you. So roughly speaking, for every 25 basis points on the Fed, it would be 5 basis point or so impact the margin, were they?

Ron Farnsworth -- Chief Financial Officer

Lot about the moving parts from there.

Steven Alexopoulos -- JP Morgan -- Analyst

Yeah. [Speech Overlap] But that's what you're saying. Okay. And on the sale of the mortgage servicing asset. Can you give us a sense if you do get that 25% done in the fourth quarter? What's the revenue give up and I'm trying to get to the net impact, are there any material cost saves?

Ron Farnsworth -- Chief Financial Officer

Right. There will be cost saves, but the majority of the change, you'll see there is a reduction in the volatility. So again, on the last few pages of the earnings release, we breakout not only the mortgage revenue in detail, but also the changes in the MSR. So if you taking roughly a quarter of the servicing revenue growth, that's going to be right around $2.5 million to $3 million. If you take a quarter of the passenger time, charge on the MSR, that's going to be close to $2 million you can see, pretty quickly it's pretty small impact on pre-tax and that's before you talk about changes in rates affecting volatility and the fair value changes.

Steven Alexopoulos -- JP Morgan -- Analyst

Okay. Got it. And then just finally, you guys continue to put up good long growth numbers. Can you talk about what's competition now for C&I, talk about price and structure, I know you're walking away from any deals? I know net you're showing good growth. I love to hear more on the competitive environment. Thanks.

Tory Nixon -- Chief Banking Officer

Yeah, Steve, this is a Tory Nixon. The competitive nature, we really hasn't changed over the last seven or eight quarters. You know, where a lot of our growth has been in this lower mid-market business. That is a part of our corporate banking strategy that we launched a couple of years ago. We continue to add bankers. We continue to fight to win business, but we definitely are walking away from business that doesn't make sense from the bank's overall profitability number. So competition is fierce in the west, but -- and we're winning our fair share, but we're definitely being choosy on what we bring into the company and how we price it, both on the deposit side and on the loan side.

Steven Alexopoulos -- JP Morgan -- Analyst

Okay. Terrific. Thanks for taking my questions.

Ron Farnsworth -- Chief Financial Officer

Thank you.

Operator

[Operator Instructions] We'll next go to Jeff Rulis with D.A. Davidson.

Jeff Rulis -- D.A. Davidson -- Analyst

Thanks. Good morning.

Ron Farnsworth -- Chief Financial Officer

Good morning, Jeff.

Tory Nixon -- Chief Banking Officer

Good morning, Jeff.

Jeff Rulis -- D.A. Davidson -- Analyst

A follow up on the -- well, I guess on the expense side. You talked about Phase 1 being complete, and I think the last quarter you talked about phase two savings at that run rate of $6 million to $8 million by the end of the year. I guess how much is captured of the phase two expected savings in the second quarter rate and what could be coming in the back half of the year?

Ron Farnsworth -- Chief Financial Officer

Hey, Jeff, it's Ron, here. Very little in Q2, we would expect to see that search pickup by Q4. We'll talk more about that on the Q3 and Q4 calls. That component to those pretty small on a quarterly run rate basis. But you are making good progress on it.

Jeff Rulis -- D.A. Davidson -- Analyst

I guess, the implied $1.5 million to $2 million kind of run rate of that figure that still expected better in by the end of the kind of Q4.

Ron Farnsworth -- Chief Financial Officer

Correct.

Jeff Rulis -- D.A. Davidson -- Analyst

Okay. And Ron, you've laid out some expense -- non-interest expense ranges in the past, didn't hear one. I don't know if we can look at the kind of the OREO and marketing costs. Are you comfortable with the range for the third quarter putting that out there?

Ron Farnsworth -- Chief Financial Officer

Yeah, definitely. Didn't want to give a specific range, but I would definitely back out, the OREO as you look into Q3, then the only other real moving part of the balance of the year is going to be on the home lending production side. Generally, it's a bell curve through the year Q2, Q3 higher amounts Q1, Q4, lower amounts. So, I expect we'll be pretty static in Q3 absent the OREO.

Jeff Rulis -- D.A. Davidson -- Analyst

Got it. And just on the loan side, your consumer runoff was about half the level the previous quarter it had been running down auto. As the planned, I guess consumer runoff, is that largely complete? Or is there some to go? I was just looking for that outlook on that consumer segment going forward?

Ron Farnsworth -- Chief Financial Officer

Yeah, the majority that consumer segment is that indirect dealer auto portfolio, and that will continue to run down and probably another year and a half, two years consists amounts on a quarterly basis.

Jeff Rulis -- D.A. Davidson -- Analyst

But at diminishing run off?

Ron Farnsworth -- Chief Financial Officer

Right.

Jeff Rulis -- D.A. Davidson -- Analyst

All right. I'll step back. Thanks.

Ron Farnsworth -- Chief Financial Officer

You bet. Thank you.

Operator

All right. We will next go to Matthew Clark with Piper Jaffray.

Matthew Clark -- Piper Jaffray -- Analyst

Good morning. I wanted to hone in on deposit costs. Look like -- the rate of increase, you know, stepped up here this quarter. I'm assuming the Fed cuts at the end of the month. I guess, how should we think about the progression of deposit costs? I mean do you feel like they can peak here in the third quarter and start to trend lower with a Fed cut? Or do you feel like there's going to be some lag effect for a couple more quarters?

Ron Farnsworth -- Chief Financial Officer

That's my expectation that they would peak in Q3 and then start to run down again, consistent with what we're seeing on core lower cost deposit growth.

Matthew Clark -- Piper Jaffray -- Analyst

Okay. Great. And then on the -- as we look into 2020, the branch closures being call it 65 is out of the targeted, 99, 100. Is there still a plan to close those additional 35 or so branches in the upcoming year? Any change there?

Cort O'Haver -- President, Chief Executive Officer, Director

Hey, Matt, it's Cort. So couple of things I'd say. It has -- our performance from our stories has change fairly dramatically, since we roll this out in late '17 or specifically, our average store deposits are up 12% in that period of time. Our new customer generation per store is up 50% in the last five or six quarters. So we're seeing better performance out of our stores and reason to tell you that is, we look at our stores all the time and kind of balance them against production metrics, opportunities to grow market share, etc, etc. And then get to the answer to the question and then with the increase in our -- in the borrowing costs, with the lift that we've seen there's a different math, if you will looking at the incremental cost if we had a wholesale borrow to replace additional consolidations into 2020.

So I guess I'm going to tell you, we look at rationalizing our stores on a continual basis, but we're balancing it against better performance. And then the cost that -- kind of looking at -- at the cost, if we had a wholesale borrow compared to organic growth. So we're going to continue to rationalize and I know we told you guys. We reduced our store exposure and if we see that it makes financial sense, we will continue to rationalize those stores in the 2020.

Matthew Clark -- Piper Jaffray -- Analyst

Okay. And then just thinking about the 2020 goals that you had you think, you originally laid out a while back for Next Gen. I think you had two scenarios in there. One was for flat rates, one was for up rates. We've obviously got the opposite scenario here. How do you feel about those financial goals? I assume it's really the downside, just being the NIM, which is updated thoughts there on the overall financial goals?

Ron Farnsworth -- Chief Financial Officer

Hi, Matt, this is Ron. Yeah. So right now we're probably in between the two. Just with the performance and what we're seeing for Fed increases today. We'll provide more updates later in the year January looking at the 2020 specifically just -- there is too many potential ranges of outcomes on rates for 2020 at this point. But the updated guidance still feel good about obviously Next Gen initiatives and organic growth strategies and more importantly, the capital allocation. But the one big moving part of that would be the margin being that sensitive. But we will provide updates on that as we get closer to the end of the year.

Matthew Clark -- Piper Jaffray -- Analyst

Okay. And just one last one, if I could, on the reserve ratio. You guys had strong growth here and you provided for it. Should we assume that coverage ratio continues to bump up here ahead of CECL or maybe not?

Ron Farnsworth -- Chief Financial Officer

We're really not seeing anything on the early cycle delinquency side. Just very, incredibly good credit quality. I'd expect it to be around these levels for the balance of the year, when we get into CECL as well, we are planning on a SAB 74 disclosure in our third quarter queue with a better estimate of CECL for 1120 adoption, but I expect to see at around these levels for the balance of the year.

Matthew Clark -- Piper Jaffray -- Analyst

Okay. Great. Thank you.

Ron Farnsworth -- Chief Financial Officer

You bet. Thanks.

Operator

And next, we'll go to David Long with Raymond James.

David Long -- Raymond James -- Analyst

Hey, everyone.

Ron Farnsworth -- Chief Financial Officer

Good morning, David.

David Long -- Raymond James -- Analyst

Question regarding CECL just curious if you guys have discussed, how would the CECL may change your appetite to make certain types of loans?

Ron Farnsworth -- Chief Financial Officer

We are discussing that, obviously CECL has more of an implication for longer term fixed rate assets. I think there's an awful lot of discussion going on in the industry on that, that if anybody gives you a sense of what specifically it will be today, it's probably better really on that front. So let's talk more about that as again the year end and adopt CECL 1120. Could be some changes, but nothing -- there is clarity at this point.

David Long -- Raymond James -- Analyst

Got it. Okay. And then as far as loan growth goes, it's been pretty good here. It sounds like you've got a pretty good pipeline. You know, most people would agree that we are late in the cycle. What gives you comfort in continuing to grow the loan portfolio this late in the cycle?

Tory Nixon -- Chief Banking Officer

Hi, David. This is Tory Nixon, I think there's a couple of things, we continue to adhere to the banks quality and underwriting the standards we have set. So as we progressed forward to kind of expanding in different lines of business. We're doing it under a lens of extremely strong credit quality and, you know, we're seeing the -- our markets in the West are still are doing well, there's no signs of significant issue really in kind of any asset class. And when you kind of match those up together, we're finding opportunity to continue to expand the business on the lending side, including and that lending is really about full banking relationship. So we're doing it with loans, deposits and core fee income. So that's the plan and we've kind of been sticking to that for long time.

David Long -- Raymond James -- Analyst

Got it. Okay. Last question for me regarding the loss on the fair value of the debt capital markets swap geographically where would I find that on the income statement. Is there any other fees?

Tory Nixon -- Chief Banking Officer

That's buried in other non-interest income and it purely moves up and down the opposite of long term bond yields.

David Long -- Raymond James -- Analyst

Okay. Got it. Just want to confirm.

Tory Nixon -- Chief Banking Officer

Because that -- yeah, then we've also deservedly disclosed that on the bottom of the first page of the release -- on the Northern part of the segment.

David Long -- Raymond James -- Analyst

Great. Thanks, guys.

Tory Nixon -- Chief Banking Officer

Thank you.

Operator

Our next question comes from Jared Shaw with Wells Fargo Securities.

Jared Shaw -- Wells Fargo Securities -- Analyst

Hi, good afternoon.

Ron Farnsworth -- Chief Financial Officer

Good morning.

Jared Shaw -- Wells Fargo Securities -- Analyst

Just looking at the MSR and the 25% sale on the potential for another 25%, and I guess, I had the energy comp at that level, and why not just sort of get out of the whole mortgage servicing business, I guess at that point?

Ron Farnsworth -- Chief Financial Officer

Well, mortgage very much a core component of our product offering and has been for several years and will be for several years going forward. So as we look the size that we look through the composition of the portfolio and how it's been built up over the years and really in line with everything you've heard Tory and Cort talked about over the past two years [Indecipherable] for a very balanced approach with deep customer relationships.

So that portfolio, roughly half of it has flowed the positive relationships, the other half is more additional in nature. And then I saw that as a good line in the sand to reduce volatility in addition to the enhanced disclosures we've included this quarter and reallocate that excess capital into the higher sustainable fee revenue initiatives, that Tory has been talking about.

Jared Shaw -- Wells Fargo Securities -- Analyst

Okay. So that 50% that you look to retain those are more full service relationship with customer?

Ron Farnsworth -- Chief Financial Officer

Correct.

Jared Shaw -- Wells Fargo Securities -- Analyst

Okay. And I guess, looking at the gain on sale margin this quarter, is this level sustainable here? Or is there something that causes that to be elevated in the second quarter and should we expect to see that maybe dip back down?

Ron Farnsworth -- Chief Financial Officer

There's probably 5, 10 bps in there of -- like pipeline increase and I expect that'll be relatively consistent into the third quarter. And then lot of wildcards there. But let's assume, rates stay flat, you would expect to see a seasonal drop off in volume in the fourth quarter, so actually that margin play tailed and closer to three back in Q4, to see that drop and lock pipeline. But the performance over the past year has been in line with what we've been expecting and talking about for the last couple of quarters. And we're happy to see that.

Jared Shaw -- Wells Fargo Securities -- Analyst

Okay. Great. Thank you so much.

Ron Farnsworth -- Chief Financial Officer

You bet. Thanks.

Jared Shaw -- Wells Fargo Securities -- Analyst

Thanks.

Operator

Our next question comes the line of Luke Wooten with KBW.

Luke Wooten -- KBW -- Analyst

Good morning, guys.

Ron Farnsworth -- Chief Financial Officer

Good morning.

Luke Wooten -- KBW -- Analyst

Just a couple of quick questions, as most of mine have been asked. Just on the new -- the 20 new customer facing associates. Just wanted to see if the expense run rate for those new associates was baked into the 2Q salary line or if we should expect that to increase later in the year?

Ron Farnsworth -- Chief Financial Officer

It's baked into the 2Q.

Luke Wooten -- KBW -- Analyst

Okay. All right. Perfect. Thank you. And then just on origination volumes, I know, you touched briefly on in the last question, but just how do you see that going forward with lower rates and kind of into 2020 with broad level?

Ron Farnsworth -- Chief Financial Officer

So look, still yet to see, you're referring to home lending or just originations across all loan products?

Luke Wooten -- KBW -- Analyst

Apologies, I'm at -- referring to home lending.

Cort O'Haver -- President, Chief Executive Officer, Director

Okay. Yes. Home lending is kind of a -- as we're talking about, kind of full bank -- full relationship banking, I mean that the migration really is around portfolio growth in the home lending business to be customers of the bank. So we'll continue to be competitive and continue to using -- those the product itself with our customer. So kind of depending on continued rate movements and where we see that product is going to serve our customers and the bank well.

Luke Wooten -- KBW -- Analyst

Okay. Thank you. That's all the question that I had.

Cort O'Haver -- President, Chief Executive Officer, Director

You bet. Thank you.

Operator

[Operator Instructions] We'll go back to Michael Young with SunTrust.

Michael Young -- SunTrust -- Analyst

Hey, guys, sorry about earlier. Cort, wanted to start off maybe just on the go to banker initiative. I know it's pretty early in terms of roll out broadly at this point, but is there a point at which you think you'll have some updated implications of what that means for the bank after kind of the test phase? And do you think that going to have some offset versus, maybe less branch rationalization going into 2020?

Cort O'Haver -- President, Chief Executive Officer, Director

Well, it's a great question. So, yeah, we will. I think we've told you all that. Once we get further into the -- kind of roll out anymore as we continue to kind of penetrate and pick up customers and develop ways to hold ourselves accountable -- will avail that information to you. It's kind of still too new, to be quite honest with it. It won't be anywhere for about four months. So, we all make a commitment to get you guys some information, visibility on what we're doing with it. But you hit on a very good point. It goes back to the question I got earlier about store rationalization.

We're seeing good lift and Go-To, we're seeing customers use it, I know we all use it here in the room. And it does allow us a different way to look at our store rationalization combined with the better performance. Just to give me an example, if you were going to combine some stores into a community or even potentially leave a community, but you can leave the Go-To banker behind and do other thing with other -- offer products with other FIs [Phonetic], it does completely change your rationalization of your stores. It's a great question. And as we get further into the rollout, development of what we do with Go-To and provide products and services to analytics, to our bankers and all the things we do, we'll give you that information.

Michael Young -- SunTrust -- Analyst

Okay. And maybe just another big picture, one for you Cort just on the Next Gen initiative overall, just kind of a macro backdrop against where you initially started this program and kind of where we are now, especially from a rate perspective has shifted. So is there any update in terms of how far, how fast we can achieve some of those goals?

Cort O'Haver -- President, Chief Executive Officer, Director

Well, I mean, go into the first phase goals -- just financial goals. We delivered on those, quite frankly, quicker than I thought we would, and I was pleased about that, one of the reasons we actually kind of held tight in Q2 on stores because we had delivered on those savings and it delivered on that efficiency ratio until rates moved against us. So I'm very pleased with the progress we made on the first phase. I'm pleased in all aspects to balanced growth. What you've heard Tory talk about, the expense savings in the human digital, what we're doing to use Go-To as a very unique offering. The Phase 2, which we are getting into right now, I think we will be successful. Like we've told you before, we always deliver on these numbers when we give them to you.

We are looking at things as we go out beyond the Next Gen, the three year Next Gen, we're halfway through it, like we're getting into the second half pretty substantially as we get into the end of year three, we will come up with another set of kind of initiatives around where we want to take the company. So I'm very, very pleased with what we've done. We're going to be successful with the next phase and things have changed over the last three quarters, as you guys have all asked. It does maybe change some of the things that we do, maybe haste and quick into those, maybe it we have to change what we're doing. But yeah, we will continue to execute on the second phase of Next Gen and we're really pleased.

Michael Young -- SunTrust -- Analyst

Okay. Thanks. And Ron, maybe just one quick follow up on the mortgage line item. I think you guys called out a little over $4 million and kind of seasonally higher expenses there, again on sales kind of improve. So, as you know, is there less likely a chance that you guys are going to kind of pull back some of the fixed or variable costs in that business now?

Ron Farnsworth -- Chief Financial Officer

Well, I guess, the question is more about drastic changes in volume looking forward, which should be driven a lot by rate. I think really near term I'd expect to see similar levels in the third quarter and then tapering off seasonally in the fourth.

Michael Young -- SunTrust -- Analyst

Okay. Thanks.

Ron Farnsworth -- Chief Financial Officer

You bet. Thank you.

Operator

All right. And it looks like we have no further questions at this time. So let's turn it back to our speakers for any additional or closing remarks.

Ron Farnsworth -- Chief Financial Officer

Okay. Thanks. Thank you for your interest in Umpqua Holdings and your attendance today. This will conclude the call. Goodbye.

Operator

[Operator Closing Remarks]

Duration: 38 minutes

Call participants:

Ron Farnsworth -- Chief Financial Officer

Cort O'Haver -- President, Chief Executive Officer, Director

Tory Nixon -- Chief Banking Officer

Steven Alexopoulos -- JP Morgan -- Analyst

Jeff Rulis -- D.A. Davidson -- Analyst

Matthew Clark -- Piper Jaffray -- Analyst

David Long -- Raymond James -- Analyst

Jared Shaw -- Wells Fargo Securities -- Analyst

Luke Wooten -- KBW -- Analyst

Michael Young -- SunTrust -- Analyst

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