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Financial Institutions Inc (NASDAQ:FISI)
Q3 2020 Earnings Call
Oct 30, 2020, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good day, and welcome to Financial Institutions, Inc. Third Quarter Earnings Conference Call. [Operator Instructions] I would now like to turn the conference over to Shelly Doran, Director of Investor Relations. Please go ahead.

Shelly J. Doran -- Director of Investor and External Relations

Thank you for joining us for today's call. Providing prepared comments will be President and CEO, Marty Birmingham; and CFO, Justin Bigham. Director of Financial Planning and Analysis, Mike Grover, will join us for Q&A.

Today's prepared comments and Q&A will include forward-looking statements. Actual results may differ materially from forward-looking statements due to a variety of risks, uncertainties and other factors. We refer you to yesterday's earnings release and our historical SEC filings available on our Investor Relations website for our Safe Harbor description and a detailed discussion of the risk factors relating to forward-looking statements.

We will also discuss certain non-GAAP financial measures used to supplement and not substitute for comparable GAAP measures. Reconciliations of these measures to GAAP financial measures were provided in the earnings release, which was filed as an exhibit to a Form 8-K. Please note that this call includes information that is accurate only as of today's date, October 30, 2020.

I'll now turn the call over to Marty.

Martin K. Birmingham -- President & Chief Executive Officer

Thank you, Shelly. Good morning everyone, and welcome to our third quarter earnings call. As I stated in yesterday's release, the past seven months have tested up. We have weathered many challenges, yet we've continuously delivered essential products and services to our customers. I'll preserve thousands of jobs through the PPP program provided community support, learn new ways to work together, while being apart and continue to execute on our strategic initiatives, including the launch of a new digital banking platform to improve the customer experience. We continue to lend prudently and are working closely with our customers to help them through these turbulent times.

Despite [Phonetic] all the challenges, we generated net income of $12.3 million for the quarter or $0.74 per diluted share as compared to $11.1 million or $0.67 per share in the second quarter of 2020 and $12.8 million or $0.78 per share in the third quarter of 2019. Pretax pre-provision income for the third quarter was the highest in Company history at $19.2 million, a $1.9 million increase from the second quarter of 2020 and a $283,000 increase from the third quarter of 2019. These strong results were made possible by the dedication and adaptability of our associates. Approximately $1.6 million of restructuring charges were included in the third quarter results in connection with six branch closure and staffing reductions announced in July as part of our enterprise standardization program.

Excluding these non-recurring expenses, our efficiency ratio was just below 57% for the quarter. As I've shared previously, the enterprise standardization program is focused on improving operational efficiency and future profitability, while enhancing associate and customer experiences. Opportunities identified by the program have resulted in the implementation of robotic automation and the streamlining of processes and operation throughout the organization, as well as the branch transformation announced in July and an additional branch closure announced in October.

The program is not yet complete, and we continue to identify operational improvements. Back in January, when we announced the launch of this initiative, we indicated that we expected to generate annualized expense savings once implemented within a range of $5 million to $7 million. While COVID did delay the implementation of certain components of the program, we continue to expect annualized savings in this range. We anticipate that some of these savings will be reinvested in our two new branch openings. scheduled in the City of Buffalo in the first half of next year.

After quarter-end, we completed an initiative to raise capital in the form of subordinated debt, seizing upon opportunities created by historically low interest rates and ready access to the capital markets. While we were confident that we already had appropriate capital levels to effectively run our business, we determined that it would be prudent to access the debt markets at favorable rates to add capital for use and serving our customers, taking advantage of organic and strategic growth opportunities and strengthening the Bank's capital ratios. We also deemed it was wise to add capital as we continue to operate in COVID-19 environment where the long-term impacts of the pandemic on the economy remain uncertain.

In October, we saw $35 million of 10-year fixed-to-floating rate subordinated notes to institutional investors. The interest rate is fixed at 4.375% for the first five years and thereafter, it becomes floating rate debt redeemable at our discretion. This structure provides important flexibility, if interest rates are significantly higher in five years or we determine that this is no longer an attractive source of capital. Our subordinated debt offering was very well received, demonstrating the financial strengths and viability of our company. Investor demand exceeded the amount of notes offered, and the interest rate obtained was lower than we anticipated. The execution of facility resulted in a fixed rate well below similar offerings conducted by Upstate New York peers in the past several months.

Our enterprise standardization program, digital platform upgrade and conversion, and the successful completion of our notes offering are the most recent examples of the many ways we are working to strengthen our institution and support its long-term sustainability and performance. We continue to deliver tangible results of the hard work that is transforming our company.

Now, my pleasure to turn the call over to Justin for a discussion of results for the quarter. Justin?

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Thanks, Marty. Good morning, everyone. I'll be providing comments on several items with comparisons to the second quarter of 2020. Net interest income for the quarter was $35.5 million, an increase of $1.3 million from the linked quarter. The increase was driven by a higher level of interest-earning assets, primarily loan growth, which benefited from the PPP loan program. Net interest margin was 3.22%, down 1 basis point from the linked quarter. The average yield on interest-earning assets was 3.6%, a decrease of 16 basis points from the linked quarter.

Cost of funds was 38 basis points, a decrease of 15 basis points. The margin compression we've experienced as compared to the linked quarter and prior-year quarter is largely attributable to excess liquidity and elevated cash levels. The low interest rate environment and overall challenging economic environment have made it difficult to deploy cash and investment alternatives with attractive duration adjusted yields. The decline in interest-earning asset yield was driven by elevated cash levels, coupled with the impact of a lower rate environment on commercial loans and mortgage-backed securities and the impact of a full quarter of lower-yielding PPP loans. The impact on interest-earning asset yield of heightened federal reserve interest-earning cash and PPP loans was approximately 2 basis points and 1 basis point respectively when compared to the second quarter of 2020 and approximately 6 basis points and 5 basis points respectively when compared to the third quarter of 2019. The decline in cost of funds was driven by lower deposit costs and wholesale borrowing costs, driven by lower market interest rates and a favorable funding mix.

Provision for credit losses for the quarter was $4 million, comprised of $3.6 million of provision for loans and $461,000 of provision for unfunded commitments. Credit losses were minimal for the second quarter in a row with net charge-offs totaling $488,000. However, as we stated last quarter, although we remain cautiously optimistic, the long-term impact of the pandemic remains to be seen. Our allowance for credit losses on loans increased to $49.4 million at September 30 from $46.3 million at June 30. The higher allowance for credit losses considers the impact of COVID-19 and the economic environment on our primary loss driver, which is national unemployment.

We used the Bloomberg economist weighted average unemployment forecast, which now forecasts fourth quarter national unemployment at 8%, which is down from 13% peak level of unemployment reached during the second quarter which was at the height of the pandemic. We forecast unemployment out six quarters and overall, the forecast is now lower than it was last quarter.

In addition, our CECL quantitative model estimates expected credit losses using a reversion to the mean of the company's historic loss rates on a straight-line basis over two years.

Our CECL model also includes qualitative adjustments, and given the uncertainty associated with the long-term impact of the pandemic on unemployment and ultimately credit losses, we increased our qualitative factors to more than offset the decrease in the unemployment forecast in establishing the higher allowance. The allowance for credit losses on loans to total loans was 1.38% at quarter-end as compared to 1.33% at June 30. If you exclude PPP loans, the ratio increases to 1.49%, an expansion of 5 basis points from the linked quarter. Non-interest income was $2.6 million higher than the second quarter of 2020.

The key drivers were first, net gains on sale of mortgage loans was $850,000 higher due to an increase in transaction volume and margin. Second, service charges on deposits were $774,000 higher because of our COVID relief measures of waiving or eliminating fees for the entire second quarter, most of which ended on July 9. Third, insurance income was $538,000 higher due to the timing of commercial renewals typically received in the third quarter each year. And fourth, investment advisory fees were $192,000 higher as a result of the impact of market gains, new customer accounts and increases in existing accounts on assets under management.

While our relief programs related to waiving or elimination of fees has ended, we are still seeing lower than historic levels in service charges on deposits. This is likely the result of the positive impact of stimulus programs on consumer account balances, combined with changes in consumer behavior. We continue to see strong performance from our interest rate swap program for commercial banking customers, with revenue of $1.9 million in the quarter, consistent with the second quarter. We sold securities in the second quarter that we believe have a higher propensity to prepay, resulting in $554,000 of gains, down $120,000 from the linked quarter. We remain focused on managing premium risk in the portfolio and monitoring securities with increased prepayment characteristics.

Non-interest expense was $28.7 million, an increase of $2 million from the linked quarter. The largest contributors to the increase were non-recurring severance and real estate-related restructuring charges of $1.6 million were incurred in connection with the July announcement of branch closures and staffing reductions; $224,000 is included in salaries and benefits expense; and $1.4 million is included in restructuring charges.

Computer and data processing expense was $551,000 higher, primarily due to costs related to the second quarter launch of Five Star Bank Digital Banking; and advertising and promotion expense was $410,000 higher also related to the launch of our new digital banking platform. Partially offsetting these higher expenses was a $338,000 decrease in professional services expense. The decrease was the result of the timing of fees for consulting and advisory projects, including our improvement initiatives. Income tax expense was $2.9 million in the quarter, representing an effective tax rate of 19.3%.

Moving to the balance sheet. Growth in total loans was $83 million or 2.4% from the end of the second quarter of 2020. Commercial mortgages grew 5.4%; residential loans increased 2%; and consumer indirect was up 1.5%. Commercial business was relatively flat compared to the linked quarter. Originations and C&I continue to be soft, largely due to PPP loans and the resultant cash that borrowers have on hand. Third quarter commercial loan closings included select new financings or existing developers and draws on existing construction lines of credit. Residential lending demonstrated continued strong performance during the quarter, largely due to increased refinance volume, driven by the low rate environment. The saleable portion continues to grow, increasing $422,000 in the quarter. And as I noted before, gains on the sale of loans increased $850,000 over the linked quarter.

Total deposits at quarter-end were $371 million higher than the end of the second quarter of 2020 and $779 million higher than September 30 of last year. The increase from June 30 was primarily the result of seasonality in our public deposit portfolio, combined with growth in both our reciprocal and brokered deposit portfolios. We are flush with deposits and remain cautious of chasing yield and investment purchases. Purchases during the quarter were focused on cash flowing agency wrapped mortgage-backed securities with yields and dollar prices reflective of market demand for this paper. The increase from the year earlier period primarily in demand, savings and money market accounts was largely the result of the impact of government stimulus programs, pandemic-related changes in customer habits, and growth in our reciprocal and brokered deposit portfolios.

Our brokered deposit portfolio was $128 million higher than the end of the second quarter and $280 million higher than September 30 of 2019. In February of 2020, we entered into a long-term brokered sweep arrangement as a stable collateral free alternative funding source to reduce reliance on FHLB secured borrowings and improved our available committed liquidity. The stable funding raised through the brokered deposit relationship was utilized to pay off $100 million of higher cost FHLB term advance during the third quarter. Decreases in the common equity to assets ratio and TCE ratio were the result of heightened federal reserve interest earning cash and the impact of lower-yielding Payroll Protection Program loans. At quarter-end, both ratios would have been higher than the previous period, if not for these factors.

During the third quarter of 2020, the company paid a common stock dividend of $0.26 per share, returning 35% of third quarter net income to common shareholders. Management and the Board of Directors will continue to closely monitor the economic environment and business trends, and we will prudently manage capital levels going forward. There are no current intentions to reduce the dividend.

At this time, I'll turn the call back to Marty for closing remarks.

Martin K. Birmingham -- President & Chief Executive Officer

Thank you, Justin. We benefit from a very stable Western New York and Finger Lakes market within Upstate New York. And our commercial customers are generally conservative in nature. Many of them learn valuable lessons in the Great Recession, and we're better prepared coming into the current COVID-19 environment. We continue to see significant improvement in loan deferrals. At June 30, $525 million of loans or 16% of total loans outstanding were on deferral. As disclosed in the third quarter investor presentation posted on our Investor Relations website yesterday, as of October 23, deferrals were down 86% to approximately $76 million or 2% of total loans. We continue to stay in close touch with our borrowers to monitor their operating environments, as well as overall market trends.

While we generated strong results in the third quarter and are seeing positive economic trends, we remain cautiously optimistic about the coming months and quarters. The economy will hinge on the impact of COVID on businesses and communities as the country managers drew [Phonetic] an increase in cases in a possible second wave. We continue to take a great care of our customers in supporting our communities through these challenging times.

Many of our support initiatives are described in the Five Star Bank 2020 Community Report, which is now posted to the Five Star Bank website and our Investor Relations website. I encourage you to read this report to better understand the many ways our company and our associates are giving back. Our outlook is positive, and we remain focused on driving strong outcome supporting our customers' financial well-being, quality of life for the communities we serve, and building long-term shareholder value.

Operator, this concludes our prepared comments, and we are ready to open the call for questions.

Questions and Answers:

Operator

We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Alex Twerdahl of Piper Sandler. Please go ahead.

Alexander Twerdahl -- Piper Sandler Companies -- Analyst

Hey, good morning.

Martin K. Birmingham -- President & Chief Executive Officer

Good morning, Alex.

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Good morning, Alex.

Alexander Twerdahl -- Piper Sandler Companies -- Analyst

First off, just wanted to start on the NII and on the margin. You guys, I think, have done a very good job keeping the margin relatively stable, and as I look at the balance sheet with excess cash and it looks like you still have some room to bring deposit costs down. I mean, can we see margin stability from here and maybe even a little bit of expansion in the fourth quarter and into 2021?

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

So, Alex. I think the way I would think about that is I'm pretty comfortable that our margin has become relatively stable, but saying that beyond the fourth quarter is kind of tough. At some point, deposit costs are going to bottom out and then, we might be subject to potentially some additional compression depending upon what happens with spreads in the market on commercial loans, etc., etc. and depending upon what happens to the shape of the yield curve, which I always like to talk about as well. So I'm only really willing to talk about at this point fourth quarter. And I do think that, again, barring anything unusual, I think we do have the opportunity to continue to maintain a relevant relatively stable margin into the fourth quarter.

Alexander Twerdahl -- Piper Sandler Companies -- Analyst

Great. And then maybe, I was hoping you could comment a little bit on the loan pipelines, then you guys grew a little bit of the consumer indirect this quarter. I know that's been a little bit less of a focus recently, but just sort of given what's going on in that market, does it makes sense to turn those engines back on and more for us?

Martin K. Birmingham -- President & Chief Executive Officer

So, Alex, the loan pipelines continue to be grounded and very strong customer relationships, strong sponsors from a CRE perspective and good operators in the C&I and small business perspective. And we continue to work with those customers. The background in Upstate New York, as I just mentioned, has been relatively stable economically and that's rounding [Phonetic] the fact that the COVID up in this part of the world wasn't as severe or significant in terms of infection rate and therefore, disruption to the economy. So we continue to see good activity coming from our customers. We were one of the first economies to open up -- first regions to open up pursuant to Governor Cuomo's management and early in the pandemic, late spring, etc. So we'll continue to support those relationships and as incremental businesses generated, pursue it.

As far as indirect is concerned, I think it's down around 23% of our total loan portfolio, which is consistent with kind of our overarching management of the balance sheet in the last several years. And as you point out, it has been a terrific business for us. We've never changed our approach in terms of grounding it and fundamentally strong credit in the regions that we're serving and contiguous regions that are very similar to our geographic footprint in terms of the underlying economy and business trends.

So in the Great Recession, it was a real opportunity for us because it was a lot of volatility in the space. Large captives did exit. We are seeing some of that type of activity today, and the spreads continue to be actually very favorable right now for us. So that option is open for us as a lever to continue to push performance -- to drive performance.

Alexander Twerdahl -- Piper Sandler Companies -- Analyst

Great. And then, just final question for me, you guys raised a little bit of sub debt earlier this month, added about almost 100 basis points to total capital. I was just wondering, if you could kind of go through sort of the priorities or the uses for that capital and at 70%-ish of tangible book value, do buybacks play a role on those capital priorities as well?

Martin K. Birmingham -- President & Chief Executive Officer

We've spent a lot of time since the onset of the pandemic as a management team, and as well working with and communicating with our Board in terms of what -- our capital outlook and long-term performance for the company in light of this event that we're all working through. And as we've continued to analyze and as we've talked about the decline in deferrals, we continue to become increasingly comfortable with our capital capitalization of the company, and we will consider the options in terms of how to use it.

As we talked about in our prepared remarks, we want to support the continued growth of the company. We want to support opportunities, strategic, organic, and we are well aware of and have been evaluating the impact of a potential share buyback program. And when we finish our valuation, ultimately that will be a call that our Board will have to make with us.

Alexander Twerdahl -- Piper Sandler Companies -- Analyst

Great. Thanks for taking my questions.

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Thanks, Alex.

Martin K. Birmingham -- President & Chief Executive Officer

Thank you, Alex.

Operator

Our next question comes from Marla Backer of Sidoti. Please go ahead.

Marla Backer -- Sidoti & Company, LLC -- Analyst

Thank you. So I'm trying to get my arms around like how things might be changing now in your specific markets, if they're changing at all. We're seeing spikes in cases in the New York City region. We're moving into colder weather, which might impact some of the businesses that reopened during the earlier portion of the pandemic, but reopened primarily outdoors. What are you seeing in your specific markets in response to some of these changes?

Martin K. Birmingham -- President & Chief Executive Officer

Well, we have -- like I guess, the rest of the country are starting to see some -- the development of some hot spots in the markets that we are serving, but generally, the communities have been very responsive and have defense measures in place in terms of distancing, shutting down school systems, whatever it might be. So overall, the economy in the market and the communities continue to function as normal as possible. Our infection rates remain relatively low. I think it's around 4% as we speak. And direct action is taken when there appears to be, as I said hot spots or increasing outbreaks -- direct outbreaks.

Marla Backer -- Sidoti & Company, LLC -- Analyst

And in terms of deferrals, you mentioned it in your prepared remarks, and there is a slide in the slide deck. So they're down significantly since the beginning of the pandemic, but are you -- what's your -- what is your approach to individual requests for customized relief, if you're getting that and how are you handling that and do you expect to see that go up potentially?

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

So yeah, reflecting the improvement in the deferral rate and the decline across all of our portfolio that is referenced in our investor materials, we're encouraged by that. However, this remains a key issue for our company, for the banking industry and for our communities and for our country relative to the impact of COVID on these industries that are severely impacted by the pandemic.

And so, talking with our regulators as well as grounded in our own policies and our own management and governance actions, we are prepared to continue to try to support our customers consistent with what The CARES Act is calling for, what the intention of The CARES Act is and doing it in a safe and sound manner.

Marla Backer -- Sidoti & Company, LLC -- Analyst

Okay. Thank you. And then, my last question is about the non-bank revenue. And it was a little bit higher than I expected, which I thought was very positive. Can you talk to where you're seeing activity perhaps increase beyond what you had expected, or if that's not the case, this is just normal business as usual. Can you talk to how those other businesses seem to be operating right now?

Martin K. Birmingham -- President & Chief Executive Officer

Justin?

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Yeah. Marla, I think one of the things to keep in mind as we do have some seasonality to some of our, I'll call it, fee income for -- covered as a total broad category. When it comes to things like our wealth management income, which is investment advisory income. We did see some strong growth there in the quarter. And a lot of that is really driven by increases in AUM that quite honestly is not entirely driven by just market increases. We're seeing good inflows of cash into our customers' advisory accounts where they're adding new funds. We also have a somewhat seasonal increase -- I'll call it, seasonal increase in the insurance income.

If you look back at the trend over time, the third quarter tends to be one of the highest quarters for our insurance business, due to commercial renewals and other aspects of that business. So we are seeing strong growth, and some of the other areas that are pretty obvious, I think, are mortgage banking. Gain on sale revenue has been very strong as well. And that's really driven by the low rate environment and a lot of the refinance activity that's taking place, and we've also increased the percentage of our mortgage business that we sell for the secondary market. We retained the servicing of the loans that we sell, but we do sell the loans into the secondary market, and we've been able to increase that percentage, which has also helped us increase the fee income recognition.

Marla Backer -- Sidoti & Company, LLC -- Analyst

Okay. Thank you. That's it from me.

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Thanks, Marla.

Martin K. Birmingham -- President & Chief Executive Officer

Hey, Marla. It's Marty. I just want to jump back in. I reviewed my notes and relative to infections, the hot spots that we have in our geographic footprint. The infection rate is around 4%, but generally in our entire footprint, it still remains low -- below 1% as far as COVID infection.

Marla Backer -- Sidoti & Company, LLC -- Analyst

Thank you.

Operator

Our next question comes from Damon DelMonte with KBW. Please go ahead.

Damon DelMonte -- KBW -- Analyst

Good morning, guys. Hope everybody is doing well. So my first question regarding expenses and kind of the outlook there, Justin, any insight on the trending level on data processing or any other categories, as we kind of look forward?

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Yeah. Thanks, Dave. And I appreciate the question. So the increase that we saw in the quarter, if I remember correctly, was somewhere around $600,000 in that computer data and processing category. I try not to get too specific to individual categories, because as you know, Damon, there are so many puts and takes in the expenses, seasonalities and things like marketing spend, etc., that just kind of bump around a little bit, but I will tell you that the total $600,000 is not a run rate increase.

There is some sort of one-time type expenses in there associated with the digital banking launch. If you can think about it as being about half of that increase, it's probably more run rate in nature. And what's interesting about the digital, I think it goes for probably all software these days. It's -- most of it's I'll call it subscription service-type software. You pay by volume. So we are going to see a little bit of volatility in that line item as well, just based on volume increases and decreases as we get moving with that platform. I will also tell you that, that platform is clearly delivering increased customer engagement. I'll just say that broadly. And it's significantly increased a lot of our capabilities. So we are anticipating to continue to be able to grow revenues as a result of that platform. We did a pretty lengthy business case on that particular digital banking platform.

So having said that, I'm willing to give you some guidance for fourth quarter expenses. From my perspective as I look at it pretty closely, we're thinking that we're going to hover around and plus or minus a couple of hundred grand, but hover around the $26 million mark for the fourth quarter expenses.

Damon DelMonte -- KBW -- Analyst

Okay. That's very helpful. Thank you, and good insight on the data processing. I appreciate that. My next question as we kind of look at the credit quality trends, they continue to be very strong. You took the reserve up 5 basis points or so, ex [Phonetic] the PPP loans, what's your thought process on where you go with provisions. So you got provision and reserve levels from here. Do you feel like you've built an adequate reserve level? I know -- caveat that with, I know that there's factors you have to consider and you'll see some modeling, but based on what you're seeing the underlying trends, do we look for a provision level, similar to like second and third quarter, or do you think you could actually go back to kind of 2019 levels where it was like maybe half of that?

Martin K. Birmingham -- President & Chief Executive Officer

Yeah, it's a conundrum. We've been obviously very cautiously optimistic as we keep saying about the performance of our book relative to deferrals, etc. But we've also been clear that the results of this pandemic have yet to really play out. So if you think about what happened in this quarter with the unemployment rate going down and as you know national unemployments are primary loss driver. It drove our quantitative model down. So the quantitative output that we got from our model said that we should be reducing reserves.

And frankly, as a company, we didn't feel comfortable, but that made [Phonetic] sense at this point, because we didn't feel comfortable that we really knew what things -- how things were going to play out. We obviously still don't know. What we did was we used our -- we already had developed our qualitative factors. They had been in place and then, when we saw this reduced forecast for unemployment, we had to make some adjustments from a qualitative perspective to ensure that we were recognizing the other factors that are driving reserve need outside of those of that unemployment forecast. And so, when we did that, it did help us better understand sort of that our reserve should in fact grow. And as you know, it grew by about 4 basis points on the quarter -- 4 basis points or 5 basis points on the quarter. As far as next quarter is concerned, it's -- that's a really difficult one to predict.

If unemployment rates go down dramatically from a forecast perspective, it could drive banks' models down so far that it's really difficult to even qualitatively hold the reserve where it is or increase the reserve. So it's just a really difficult thing to project for us just given where unemployment is and where it could go. Having said that, if it does the forecast go down that much, you would hope that that's driven by some really good news in the market that will be favorable to our portfolio. So it is difficult to predict. Damon, I appreciate the question. But unfortunately, that's about all I can give you at this point.

Damon DelMonte -- KBW -- Analyst

That's fair enough. That's good color. Wasn't CECL supposed to make this process a little better for everybody? Apparently not so. Okay. And then, just one more quick question if I can. So, when you talk about the margin outlook, the optimism of keeping it, it's kind of steady or flat here in the fourth quarter, does that take into account the impact from the sub debt raise that you guys did earlier in this month?

Martin K. Birmingham -- President & Chief Executive Officer

Yes, it does.

Damon DelMonte -- KBW -- Analyst

Okay. All right. That's all that I had. Thanks a lot guys. Have a good weekend.

Martin K. Birmingham -- President & Chief Executive Officer

Thank you, Damon.

Operator

[Operator Instructions] Our next question comes from Kevin Swanson of Hovde Group. Please go ahead.

Kevin Swanson -- Hovde Group -- Analyst

Hi, guys.

Martin K. Birmingham -- President & Chief Executive Officer

Hi, Kevin.

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Kevin, good morning.

Kevin Swanson -- Hovde Group -- Analyst

Good morning. I just wanted to maybe a follow-up on the credit discussion. I appreciate the color, but thinking about the stimulus and maybe a potential for a second round, do you think that it's simply delayed losses or do you think it's actually gone a long way and saving some of the businesses and kind of helping out?

Martin K. Birmingham -- President & Chief Executive Officer

I think it's had a very positive impact on the business. And I would say that the coordination between the legislative executive and Federal Reserve System has really been superb in terms of helping provide lead relief efforts. As Justin talked about in his comments, our balance sheet has been impacted with cash balances that are sitting there, so that I recognize that the proceeds of the PPP and cash is fungible. But I think our customers that have participated in that program are sitting on some liquidity and some dry powder, if you will, to navigate future challenges with the pandemic and which way it goes.

We are looking at our credits those that have been impacted, and it's going to come down to hospitality really probably for the most part, as well as some forms of retail. And we will look at these credits on an individual basis and determine ultimately the sustainability of those credits to bridge the pandemic and to kind of pick up where they were all acceptable credits pre-pandemic when it's over. And that's the process that we're going through. It's a work in process, and it's part of the uncertainty that Justin was talking about.

Kevin Swanson -- Hovde Group -- Analyst

Okay. I appreciate it. And then, maybe just one more, just thinking about LTVs assuming the portfolios at origination on those. Is there -- have you guys had any, I guess, price clarity whether it's a real market, sales or transactions that you can kind of say, OK, well, here's the new LTV number, the valuation for the business or is it still too difficult to see?

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

It's still probably too early, but one of the things we've talked about consistently, and we're seeing it through this even this call environment. We just don't have the highest and the lowest and the extremes of kind of the economic performance. And so, our underwriting -- underlying real estate values, whether you're talking about consumer individual houses, residential mortgage or the commercial properties, it trades in a very narrow range and is relatively stable. So -- but as we go through this process that I just described, we will get some very good discovery in terms of new appraisals and seeing what happens to the market, and our approach will be to try to manage through, if we end up providing bridges. Structures that help our customers bridge the pandemic would be to try to maintain the integrity of the loan-to-value ratios that are grounded and called for in our credit policies.

Kevin Swanson -- Hovde Group -- Analyst

Okay. Great. Thank you.

Operator

This concludes the question-and-answer session. I would like to turn the call back over to Mr. Birmingham for any closing remarks.

Martin K. Birmingham -- President & Chief Executive Officer

I want to thank everyone for their participation on the call this morning. I also want to acknowledge our associates once again for their hard work and commitment to helping us produce these results. And we'll look forward to continuing this conversation at the end of the fourth quarter. Thank you.

Operator

[Operator Closing Remarks]

Duration: 43 minutes

Call participants:

Shelly J. Doran -- Director of Investor and External Relations

Martin K. Birmingham -- President & Chief Executive Officer

Justin K. Bigham -- Executive Vice President & Chief Financial Officer

Alexander Twerdahl -- Piper Sandler Companies -- Analyst

Marla Backer -- Sidoti & Company, LLC -- Analyst

Damon DelMonte -- KBW -- Analyst

Kevin Swanson -- Hovde Group -- Analyst

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