Umpqua Holdings Corp (UMPQ) Q4 2020 Earnings Call Transcript

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Umpqua Holdings Corp (UMPQ)
Q4 2020 Earnings Call
Jan 21, 2021, 1:00 p.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning and welcome to Umpqua Holdings Corporation Fourth Quarter Earnings Call. I will now turn the call over to Ron Farnsworth, Chief Financial Officer.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Okay. Thank you, Chris. Good morning and thank you for joining us today on our fourth quarter 2020 earnings call. With me this morning are Cort O'Haver, the President and CEO of Umpqua Holdings Corporation; Tory Nixon, President of Umpqua Bank; 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 fourth quarter and full-year 2020 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 atumpquabank.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 law. For a list of factors that may cause actual results to different 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 L. O'Haver -- President and Chief Executive Officer

Okay. Thanks, Ron. I will provide a brief recap of our performance and then pass to Ron to discuss financials. Frank Namdar will discuss credit and then we'll take your questions.

For Q4, we reported earnings per share of $0.68, setting a company record for the second consecutive quarter. This was an increase of $0.11 or 19% from the $0.57 we earned in the prior quarter and an increase of $0.32 or 89% from the $0.36 we reported in the fourth quarter of 2019. These earnings were driven by another quarter of incredible production in our home lending division. PPP fee accretion is nearly 15% of PPP loans were forgiven by the SBA during the quarter and for the fourth consecutive quarter a healthy decline in the cost of our interest bearing deposits.

Turning to the balance sheet items. Loan balances in Q4 were down $647 million or 3%, due largely to process PPP loan forgiveness, the transfer of $78 million in indirect auto loans to -- auto loans to loans held for sale and anticipated pay offs in the residential real estate portfolio. Regarding deposits, we generated strong growth in non-interest bearing DDA this quarter of $158 million or 2%, which once again afforded us the opportunity to reduce higher cost time deposits, which reduced by $402 million or 12%.

On a net basis, deposits were down $46 million and essentially flat with the totals from the prior quarter. In addition, our cost of interest bearing deposits improved from 49 basis points to 38 basis points, a reduction of 11 basis points from the prior quarter amount. For the year, loan balances increased $584 million or 3%, driven by PPP production, which is partially offset by line of credit pay downs. Year-over-year, commercial line of credit outstanding balances were down 29%, not as a result of customer attrition but due to customers using available liquidity to pay down lines.

Also for the annual period, deposit balances increased significantly by $2.1 billion or 10%. This was attributable to growth of $2.7 billion of non-interest-bearing DDA, $500 million in interest bearing DDA, $240 million in money market and $440 million in savings. The planned run off of $1.8 billion and higher cost time deposits was primarily a driver in the substantial reduction in interest expense year-over-year.

Regarding capital, we are pleased to announce to our shareholders -- we were pleased to announce to our shareholders in November a dividend of $0.21 per share, remaining consistent with historical payments. We'll announce the timing of our next dividend soon.

Before passing to Ron, I want to give a quick update on Next Gen 2.0 initiatives. Within balanced growth, we have an unique opportunity to take advantage of the positive brand awareness of our PPP work and the results generated to attract both customers and talent. Umpqua's high touch client-centric approach is highly attractive to customers as we're seeing in the robust new relationships we're attracting.

In addition, as I said many times before, because of this approach, Umpqua provides a unique opportunity for bankers to be supported by a platform with all the products and services of much larger institutions while being supported by our relationship focused culture. As a result, we've initiated an ambitious talent acquisition plan to attract top talent in key markets across our footprint and look forward to augmenting the terrific bench we've built over the last several years.

We're also seeing positive trends emerge in our fee income products, including a growing pipeline, strong price optimization and, this past month, the highest amount of customer spend transacted through our commercial card product in the company's history.

Finally, on balanced growth, we feel optimistic regarding loan growth in 2021. Economic activity within our footprint is picking up and recent prospecting efforts has resulted in significant increases to our pipelines, which has returned us to pre-pandemic levels.

Our human digital technology initiatives continue at full steam ahead. In Q1, we will be leveraging the nCino platform to execute the new round of PPP that was just introduced and in fact starting -- we started taking applications just this week. It's early but our technology platform is already allowing us to meet PPP demands with less human involvement compared to last year. This is important as it allows our bankers more time to continue their focus on organic customer growth. Also worth noting, we're preparing to launch our integrated receivables product for commercial customers. We're working with our FinPac partners to add additional APIs to our catalog. And finally, we'll be upgrading our online banking user experience for commercial customers later this quarter.

With regards to operational excellence, we remain on track to meet the cost save guidance that was provided last quarter. Specifically, the sale of Umpqua Investments is scheduled to close late this quarter and I'm excited to formally begin the strategic partnership with Steward Partners. We also completed the sale of three store locations in December, in addition to the four store sale that was completed earlier in the fall, bringing the total store rationalizations in the second half of 2020 to seven. On January 12th of this year, we announced plans to consolidate another 12 locations by the end of Q2 of 2021. We remain on track to hit our goal of 30 to 50 store rationalizations by the end of 2022.

As previously mentioned, we are addressing the consolidation of back office space to fit both the new working habits of our associates and reduce non-interest expenses. This past quarter, we reduced back office real estate footprint by four properties totaling 45,000 square feet and $1.8 million in savings that started on January 1st of this year. Each quarter, we will provide updates on all Next Gen 2.0 strategic levers as we continue to modernize the bank, advanced customer experience and technology initiatives and improve operating leverage.

In summary, and as I mentioned at our earnings release yesterday, Umpqua's results in 2020 are a testament to the tremendous strength of this company. Despite significant disruption and numerous challenges last year, our associates rose to the occasion time and time again. Their incredible adaptability, resilience and passion has made a profound difference for our customers and communities, and I couldn't be more proud of each and every one of them. I believe reputations are built in times like these and I am confident the work we did this past year will set us up for future success.

And now, Ron, take it away through the financials.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Okay. Thank you, Cort. And for those on the call who want to follow along, I'll be referring to certain page numbers from the earnings presentation.

Page 11 of the slide presentation contains our summary quarterly P&L. Our GAAP earnings per share for Q4 was a record $0.68, higher than the prior record $0.57 in the third quarter, driven by PPP fee recognition, continued strength in home lending, no provision for loan loss and a low tax rate. Excluding MSR and CVA fair value adjustments, our adjusted earnings were $0.70 per share this quarter. On the PPNR front, excluding fair value charges, our PPNR was $154 million in Q4 or $598 million for the year, up 26% from the $476 million in 2019.

Turning now to net interest income on Slide 12. Net interest income increased $18 million or 8% from Q3, driven primarily by a lift in PPP fee recognition and a 24% decline in interest-bearing deposit costs. Shown here is the quarterly interest in fee recognized from the PPP loan program.

Taking that to Slide 13, our total net interest margin increased to 3.35%. The margin excluding discount accretion and PPP effects was 3.12%, an increase of 12 basis points from Q3, related again to the fee recognition and a continued decline in our cost of funds.

A couple other notes on margin. The bottom of the page shows the impact from the bond premium amortization, which was down slightly from Q3. And driving a portion of the NIM lift was the continued reduction in the cost interest bearing deposits, falling another 11 basis points to 0.3%. For the month of December, our interest bearing deposit cost was 0.35%. We expect continued reductions in funding cost over the coming quarters.

Moving now to non-interest income on Slide 14. Home lending finished the year with record results benefiting from and acting as a natural hedge too in lower interest rate environment, plus a non-interest revenue of $79 million in Q4 and $271 million of revenue for the year. Ex-mortgage, the other big moving parts for this quarter was a continued rebound in service charges and higher other SBA loan sales gains. And miscellaneous income on the bottom of the page included the gain on store sales for Q3 and Q4.

For more on mortgage banking and shown on Slide 15, and also in more detail in the last two pages of our earnings release, for sale mortgage originations remain robust to $2.1 billion, an increase of 49% from the fourth quarter a year ago and just under the Q3 record amount. This reflects our position into capitalizing higher refinancing demand with lower long-term interest rates. The for-sale mix was 85%, above our 80% target. And the gain on sale margin remained strong this quarter at 4.71%, above our long-term trends of the low to mid-3% range based on better pricing with constrained industry capacity and solid log pipelines.

Historically, the second and third quarter represented the high watermark for the year in production volume and pricing with some drop off into the winter quarters. However, given the nature of this downturn, continued low rates and strong demand for housing across our markets, we expect overall mortgage activity to remain quite good for the next several quarters. Specifically, production in Q4 was a 50-50 split on purchase versus refinance compared to the 40-60 split for the full year.

We are encouraged by the purchase activity as the most recent trends were closer to what we experienced a year ago pre-dropping rates where purchasing accounted for 55% of the production. And as of quarter end, we serviced $13 billion of residential mortgage loans and MSR is valued at 71 basis points.

Turning now to Slide 16. Non-interest expense was $211 million in Q4, up from $190 million in Q3. The moving parts on the right side of this page noting the increase was non-recurring this quarter. The increases were related to higher variable performance comp with this year's results, deferred compensation liability increases in part due to the drop in rates, some software technology extra costs as we simplified various customer facing systems, a charitable foundation contribution as we decided as a company is only 5% of our total expected PPP fees and other expense.

Offsetting this was a decline in home lending direct costs with a slight drop in total production volume this quarter. Going forward, we expect first quarter 2021 expense to be below the Q3 2020 level with reductions later in the year as we remain focused on our Next Gen 2.0 strategy.

And for a minute, I want to take you back to Slide 11 and talk tax rate. Our effective tax rate this quarter was negative 5% related to the quarterly tax accounting intricacies stemming from the goodwill impairment back in Q1. The effective tax rate will be back at the 25-ish-percent level in 2021.

Okay. Now let's go to the summary balance sheet beginning on Slide 17. We are intentionally holding higher levels of interest bearing cash, given the volatile environment, ending the quarter at $2.2 billion, but in the average balance was up 13%. This higher level of cash cost our NIM 3 basis points but gives us significant feature optionality for funding loan growth or deleveraging certain liabilities.

Loans decreased 3% net for the quarter or 2% on average balances. Within this, PPP loan balances ended at $1.75 billion and forgiveness was received on approximately $0.25 billion during Q4, resulting in about 40% of the overall decline in loans this quarter. Deposits remained flat on ending at average. Within deposits, we had continued increases of 2% in non-interest-bearing demand and 4% in interest-bearing demand, allowing with a 3% increase in savings deposits. Offsetting this was a 12% decline in higher cost loan deposits.

Broker declined $100 million in Q4, leaving us with just $150 million in broker deposits, which will leave in the first half of 2021 with the sale of Umpqua Investments. Our total available liquidity, including off-balance sheet sources, at quarter end was $11.5 billion, representing 39% of total assets and 47% of total deposits.

Frank will cover the loan book in a few minutes, but I want to take your attention forward to Slide 22 on CECL and our allowance for credit loss. Our CECL process incorporates a life of loan reasonable and supportable period for the economic forecasts for all portfolios with the exception of C&I, which uses a 12-month reasonable and supportable period, reverting gradually to the output mean thereafter. Hence, these forecasts incorporate some level of economic recovery in 2021 and beyond, as most economic forecasts revert to the mean within a two- to three-year period.

As noted, we use the November Moody's baseline economic forecast versus using the consensus forecast the prior two quarters. We changed to the baseline in Q4 given the market and outlook volatility post-election and viewed it [Phonetic] as more up-to-date versus a lagged consensus forecast. We expect to move back to the consensus forecast in early 2021 given the updated economic projections.

As a result of using the baseline, there was no provision for credit loss in the fourth quarter. Within our ACL as of year-end, we had no net qualitative overlays above or below the model results. Net charge-offs for Q4 remained low at $20 million, much lower than the models from last year's adjusted And the majority of net charge-offs this quarter related to small ticket leases that were past due following rolling off their deferral period, which we expected and discussed with you last quarter.

We do expect a similar amount of small ticket leases and charge-offs coming up in Q1, and these have already been fully reserved for in our ACL. The ACL at quarter-end was 1.60%, noting this ratio was 1.74% excluding the government guaranteed PPP loans. And these are economic forecasts driving the reserve. It will simply take the passage of time to see if net charge-offs follow as modeled. But to-date, the models have simply overestimated the actual net charge offs, given at least a lag of three quarters.

Two final comments on CECL. First, future provisions or recaptures on expected credit loss were based on changing economic forecasts, which could worsen or improve from the quarter end forecasts used. And second, we have elected the full five-year regulatory transition option for CECL.

Lastly, on slide 23, I want to highlight capital. Noting that all of our regulatory ratios remain in excess of well-capitalized levels and all the regulatory ratios increased again over the prior quarter, our Tier 1 common ratio was 12.3% and our total risk-based capital ratio was 15.6%. The bank level total risk-based capital ratio was 14.6%, which is the basis for our calculation of $558 million in excess capital.

This excess capital increased $115 million over the past quarter with our strong results net of the dividend. We constantly forecast and stress excess capital both in base and severe scenarios. And with what we know today based on the economic forecast, we are very comfortable with our capital and liquidity position given the uncertainties over the near to intermediate-term horizon. This level of capital gives us several opportunities to enhance returns for shareholders in the future, be it stronger organic loan growth or even the potential for share repurchases to improve future EPS.

The key items I want to reiterate as I wrap up my prepared remarks include; first, the significant available liquidity we have of $11.5 billion; second, our allowance for credit loss stands at 1.74% of non-PPP loans; and lastly, our significant level of excess capital with our Tier 1 common ratio of 12.3% and total risk-based capital ratio 15.6%.

And I will now turn the call over to Frank Namdar to discuss credit.

Frank Namdar -- Executive Vice President and Chief Credit Officer

Thank you, Ron. I will also be referring to certain page numbers from our earnings presentation for those who want to follow along. We have updated our deferral information as of December 31st on Slide 4. Total loan balances that were on deferment at the end of the year represent 2.4% of the loan book. We continue to work with customers within the guidelines of federal programs such as the CARES Act as well as individual state mandates. We will continue to work with our customers on deferrals when they are needed and are very happy with our cure rate thus far of 87%. On a portfolio basis, we are reporting 0.9% deferrals in commercial; 1.3% in commercial real estate; 1.7% in FinPac, 0.4% in consumer; and 6% in residential real estate.

On Slides 5 and 6, we again show specific segment totals and relevant characteristics for portfolios that have been impacted by COVID-19. The following segments are highlighted; hospitality at 2.4% of our portfolio, air transportation at 0.6%, restaurants at 0.6%, and finally gaming at 1.6% of our portfolio. Deferral information is also highlighted within these segments.

Hospitality obviously remains an area that we continue to watch closely. Occupancy levels have increased to the 40-ish-percent level and with our extended stay on limited service properties continuing to perform above this level with occupancies ranging from 68% to 80%. As I have stated previously, this portfolio is of low leverage with a very strong overall sponsorship to borrowers we have history with.

Slide 23 depicts our loan portfolio, its geographic diversification and select underwriting criteria for each major area. The loan book remains granular in nature and we are confident in our conservative and disciplined underwriting practices.

Slide 24 reflects our credit quality statistics. Our non-performing assets to total assets ratio decreased 3 basis points to 0.24%. Our annualized net charge-off percentage to average loans and leases increased 11 basis points to 0.35%. As Ron mentioned just a minute ago and as disclosed previously on our third quarter call, this increase was due to approximately $18 million in leases that came out of deferment and were unable to resume regular payments. We have identified another pool of approximately $18 million of leases that will also be charged off in Q1 and then we expect the FinPac portfolio to begin to return to the historical levels of 3% to 3.5% in Q2 2021.

I'll now turn the call back over to Cort.

Cort L. O'Haver -- President and Chief Executive Officer

Okay. Thank you, Frank and Ron for your comments. And now, we'll take your questions. Chris?

Questions and Answers:

Operator

Thank you. [Operator Instructions] The first question comes from Jared Shaw of Wells Fargo Securities. Your line is open.

Jared Shaw -- Wells Fargo Securities. -- Analyst

Hi, guys. Good afternoon. I guess, Ron -- maybe just first, I just had a question on the PPP fees. Can you remind us, are you looking those based on the assumed average life or when we look at that $29.2 million, is that just the acceleration of what you actually received on forgiveness?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

The total includes accretion within the underlying book over the life of the portfolio using the effective interest method. But there's about $16 million pop in Q for the -- a good chunk of that was related to the acceleration of remaining fees or unaccretive [Phonetic] fees for the loans that were forgiven. So, to the extent we have more loans forgiven, say, in Q1 and Q2, whatever net remaining deferred fee at that point in time will also be accelerated.

Jared Shaw -- Wells Fargo Securities. -- Analyst

Okay. So that $16 million was just what actually was received for forgiveness?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

The majority of that was, not all of it.

Jared Shaw -- Wells Fargo Securities. -- Analyst

And then, can you let us know how your -- what your positioning is for Round 2 and what you think you could see for volume out of that?

Torran Nixon -- President, Umpqua Bank

So, hey, Jared, this is Tory Nixon. So, we -- obviously we opened up -- actually we started really on Monday. We integrated a technology nCino to help us with forgiveness and with this newest round of PPP stimulus. As of this morning, it is -- we have 3,767 applications for about $517 million. Average loan amount is about $37 million. I think, one of the -- I'm sorry -- $37,000, sorry. I think it's important to note that this time around with our technology, we're going to use about 80% less people in kind of working through the process and providing the help and support for our customers and our communities than last time.

Jared Shaw -- Wells Fargo Securities. -- Analyst

Okay. That's good color. Thanks. Ron, I guess, shifting over to the margin and the outlook there, loan yields have held up pretty well. How should we expect margins sort of ex-PPP to trend over the next three quarters and the ability to still, I guess, maybe lower deposit pricing?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Yeah. I mean, that's definitely our goals internally with ex-PPP up at $312 million base. Bond yields seem to have stabilized, and you have a mix with a lot of our portfolio that impacted so much of it last year with higher premium paper that was refi and taken the hedge fund. But I do definitely expect to see continued drop in our customer spend and deposits. Again, I said it's 35 bids for the month of December. So you can do the math on what that can look like in Q1.

So near-term, we expect to be around this level. And then beyond, say, the next quarter or two, which will include some -- on top of that level some PPP fee acceleration along with continued accretion for not only round one but also round two. Beyond that, we're very much looking forward to seeing a continued organic loan growth, pressure on loan-to-deposit ratio, touch PPP back up into the 90% range to help stabilize and grow that margin ideally over time.

Jared Shaw -- Wells Fargo Securities. -- Analyst

That's great color. Thanks. And then, just finally for me, looking at the excess capital, both the dollars and just the rates, I mean, you're clearly in a strong position. It seems like you clearly have enough to handle any growth that we should expect over the next year. I guess, why not be more aggressive now with capital management taking advantage of maybe an opportunity in buybacks or, I guess, what's the other thoughts in terms of looking at M&A and maybe growing non-organically?

Cort L. O'Haver -- President and Chief Executive Officer

Yeah, great comments. I mentioned in the prepared remarks, if you look back at 2020, round about $200 million of that excess capital growth was a result of the non-PPP loan drop, which we expect to come back utilized. But even absent that, you're right, there's plenty of opportunities to be aggressive on the capital deployment side and share repurchase is definitely one of the options on that front. I will also just mention that would be a process to we would go through with the regulators for approval, just given the negative retained earnings, but we'll definitely see that potentially over the course of the year.

Jared Shaw -- Wells Fargo Securities. -- Analyst

Okay, thanks. I'll step back.

Operator

Your next question comes from Jackie Bohlen of KBW. Your line is open.

Jackie Bohlen -- KBW -- Analyst

Hi, good morning.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Hey, Jackie.

Jackie Bohlen -- KBW -- Analyst

I just wanted to touch on the broader points of growth. Looking at some of the disclosures in the prepared remarks, I'm thinking about the presentation we had last quarter that gave the 8% to 12% growth. And I apologize that this is a little bit multi-layered. But the quarter had its movement with indirect transfers and some FFR pay down. But then you talked about the talent acquisition that you're looking to do. So just the pushes and pulls that you see and how you're feeling about the growth outlook that you laid out last quarter?

Torran Nixon -- President, Umpqua Bank

Jackie, this is Tory again. I think, as you kind of position in the question, it's multi-faceted. We -- there's a couple of things happening. Certainly I think that we have some general uptick in the economy over the course of '21, and we feel good and confident about that. We've got a -- we've been very successful over the last couple of years in acquiring some significant talent in the bank. And we will continue to do that through the course of '21 and '22 in all of our major metropolitan markets, but also in some of our more rural legacy Umpqua Bank markets.

We spent quite a bit of time on the prospecting front, built the pipeline up quite significantly both in our middle market and our community banking lines of business. So we feel really good about the activity level that we've seen by the field and the pipeline that we've built over the course of certainly in Q4. And I think we've demonstrated previously we've been able to grow the company on the lending side, and we will continue to do that and bring new relationships into the bank.

Cort L. O'Haver -- President and Chief Executive Officer

Hi, Jackie, it's Cort. Like Tory just mentioned, we've always grown the company. And I get the optics and the pressure that you all see with the balance sheet. I think we all would agree 2020 is an interesting year for commercial customers. And like I mentioned -- and Tory, I don't know if you mentioned it, in commercial loans, kind of retrading, if you will, coming down during the year, mostly because of liquidity that borrowers had yadi-yadi-yada. And those customers still remain here today. And we have traditionally grown this company.

We feel very, very good of what we see in our pipelines. And just a quick story, and I'm not going to use names, we were talking right before the call. And I think it's worth noting the power of PPP in this round, we picked up a significant relationship here in the Portland market from a bank you all cover, making $0.5 million PPP loan and picking up a $20 million loan relationship.

So, as we continue to work that series of new customers of the bank and as companies continue to see a greater outlook, the elections behind us, you clearly can see the end of the pandemic sometime this year. And as enthusiasm builds, you will see commercial loan draws, you will see the pipeline that Tory has built, and you will see the conversion of these PPP customers, new customers of the bank that we got in round one, let alone round two, convert to on-balance sheet, both depositors and borrowers.

And we feel extremely pleased of all the effort that this bank put into PPP round one. And it won't take as much effort in PPP round two, but we still think that there is a significant lift in this banks as growth potential in '21 and going into '22.

Jackie Bohlen -- KBW -- Analyst

And Cort, would you say that some of the single family run-off is tied to selling a larger portion of production, meaning that there's not as much flowing into the portfolio?

Cort L. O'Haver -- President and Chief Executive Officer

I'm sorry to interrupt you. We made a strategic decision in '19, it's been a while now, to go more into agency sale and get out of portfolio for a lot of reasons. And it was the right decision, albeit we're suffering a little bit on the balance sheet. And I know you guys don't like necessarily the revenue generation off of the secondary market activities, but it's driving significant revenue gains.

Now, albeit we're giving up something on the balance sheet, but we see a lot of opportunities, more relationship opportunities on the balance sheet. It was a planned strategy in '19, and it just came a little quicker. So we are -- it was expected in Q4. And we see -- we're very strongly, like Ron mentioned, that the for-sale volume is going up, which is a good indication as long as volumes or -- excuse me, the housing stock stays out there for sale. But we're coming into a strong part of the season. So, yes, it was a planned event. We made plans for that in '19, and it just was a little bit more than we expected in Q4, but doesn't worry me.

Jackie Bohlen -- KBW -- Analyst

Okay. Great. Thank you. That's all incredibly helpful. And I just have one quick little housekeeping item for Ron. Just wanted to know how much of the gain on sale from the -- was in the quarter of the three stores?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

That was approximately $4 million.

Jackie Bohlen -- KBW -- Analyst

Okay. Thank you.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Great, thank you.

Operator

Your next question comes from Michael Young of Truist Securities. Your line is open.

Michael Young -- Truist Securities -- Analyst

Hey, thanks for taking the question.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Good morning, Michael.

Michael Young -- Truist Securities -- Analyst

Maybe wanted to start, Ron, just on the net interest income outlook. I think NIM is kind of hard to predict at this point given the high levels of liquidity and all the noise with PPP, etc. But maybe just looking at core, kind of, NII dollars, it seems like we've kind of bottomed out with the portfolio growth, loan portfolio growth from here. We should see kind of expansion maybe in both margin and dollars of revenue. Is that kind of the outlook you have as well? And any additional color you'd add to that?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

I think you nailed it. I mean, that is definitely the goal of the plan. And I say, the only other addition I'd put on there is that excess level of interest bearing cash gives us a lot of optionality for deleveraging higher cost liabilities, right? Ideally we'll turn around and put that into loan growth. But even over and above, recapturing the low balance decline this past year as a growth this year, there still are several high costing liabilities including term debt we can pay down with that. So those are all part of delay.

Michael Young -- Truist Securities -- Analyst

Okay. And maybe switching over to the other side on expenses, I don't know if it's better to talk about it from an efficiency ratio perspective or maybe even an absolute dollar target, given kind of high levels of mortgage continuing into 2021. But as we move forward, do you feel like it's still kind of a mid-50s efficiency ratio that we should be expecting on an operating basis with all the technology adaptation and efficiency that's been gained there and real estate reductions? Or do you have anything tighter in terms of a firm dollar amount that we might exit the year at? Any color there would be helpful, I think, as we think about progression throughout 2021.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Yeah. I think you nailed it. I mean, the mid-50s is that's where the goal over time. And again, I wanted to talk about Q4 change off of Q3. I expect Q1 will be below Q3 levels, and then you'll see the impacts over the balance of the year from the Next Gen 2.0 we talked about. Home lending will be a wildcard depending on how strong that remains over the course of the year, but [Indecipherable] is definitely a long-term goal.

Michael Young -- Truist Securities -- Analyst

Okay. And then, just last one, you've touched on kind of capital return and share repurchase. I think historically you guys have been a little more philosophically opposed to that, but capital levels are pretty high now. It doesn't seem like M&A is a near-term interest. So, just any other kind of thoughts on how you're thinking about kind of discussing that with a Board and/or regulators in terms of magnitude or timing or anything else that is kind of in your thought process there?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Yeah. I mean, definitely, near-term, with the growth in excess capital gives us a lot of options, but share repurchase definitely has the potential we're looking at. And again, I will have to note that that will require regulatory approval, which we'd expect would be seamless process we go through, just given the excess amount of capital we generate, we expect to continue to generate. And dividends continuing obviously the first priority, but I also want to get back to, on the organic growth side. I'd love nothing more, and we expect to see return of that excess capital will be realized here in '21 with return of non-PPP loan growth.

Michael Young -- Truist Securities -- Analyst

Okay, thanks. I'll step back.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

You bet. Thank you.

Operator

Your next question comes from Jeff Rulis of D.A. Davidson. Your line is open.

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

Thanks, good morning. Just wanted to follow-on the expense front. Just to map the -- what I assume are somewhat onetime, the software impairment and charity, is that in occupancy and other respectively?

Cort L. O'Haver -- President and Chief Executive Officer

Correct.

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

Okay. Great. And if we could -- I know there's some lumpiness to the initiatives in the current year with the sale of Umpqua Investments and a third of the branch is coming on -- or to be completed by the end of Q2. Just if we think about 50% of the cost saves over the balance of the year, do you think that's fairly even over the course of the year, if we're tracking it? Or is it lumpy, back-end loaded? How would you -- if you characterize those savings throughout the year, how would you put it? Yeah, we'll definitely see a pickup in Q2, just given the timing of the US sales, store consolidations will be later, really more Q3 items. Underneath the covers, though, there are several other initiatives that we working the way over the course of the year. So really, when we talk about half of the $39 million to $56 million of overall reduction being realized in '21, I think that's a good outlet over the course of the year. Really key is going to be looking at '22 compared to '21, having half of that in the bank at the start of '22. So there will be some moving parts, and US is probably the biggest one that we'll kick in in Q2. Okay. That -- Ron, just to clarify that. You're exiting Q1 at a run rate? Or it will -- Q2 will be a good read on Umpqua Investments out of those?

Cort L. O'Haver -- President and Chief Executive Officer

Q2 would be a good read on Umpqua Investments The [Indecipherable] will close over the course of the year.

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

Got it. Okay. And then, Cort and Tory, you both have referenced the pipeline and the build there. Hopeful or just hoping to get maybe the specific dollars, where the pipeline sits as it came into the year versus year-over-year. And maybe even what that figure was as it bottomed in the pandemic, just to kind of get a relative sense of what that pipeline was.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Yeah. Sure, Jeff. So if we think about all different lines of businesses combined, we were about $3 billion in the loan pipeline at the end of '19. And we've kind of dipped down, I think, to a low of probably just a shade under two and are now back up to three. So we've kind of -- and most of that increase has been in the last three months. So, Q4 was a big lift in that dollar amount. And it was primarily centered or it is primarily centered in our middle-market and community banking business, or kind of C&I customer relationship business up and down the West Coast.

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

Got it. So I guess another way to put it. I guess if you're entering the current year, in the engine, if you've got some other leads on PPP that maybe you didn't have year-over-year, maybe the outlook on growth is potentially -- we could have not foreseen the pandemic. But you could say year-over-year, a brighter outlook than when you entered '20. Is that correct?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

I would say, yes. I felt -- I think we all did at the end of '19, we had a lot of momentum going into company, certainly on the C&I side, but really across the company that certainly pandemic hit kind of took some of the -- obviously wind out of the sale. I feel confident that we are back to where we were at the end of the '19 and there are some other things in our favor. I think, we spent a lot of time in the last couple of years hiring some very significant talent in the company that has gotten, had some success, and -- but we'll be more successful in the future.

And I think -- and we also have some leads on some additional talent. So as we've mentioned earlier, I think, in the script, that we're going to look to hire some folks in those two lines of businesses over the course of the year over the course of the year to continue to kind of expand the story of Umpqua Bank and what we do and what we've done and continue to build it.

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

Great. Thanks, Tory

Operator

Your next question comes from Steven Alexopoulos of JPMorgan. Your line is open.

Steven Alexopoulos -- JPMorgan -- Analyst

Hi, everybody. I wanted to start on the PPP loan fees. So if I look back to the third quarter, you had around $51 million of unamortized processing fees, right, on PPP loans. And then here in the fourth quarter, PPP loan balances fell by $200 million, so it's around 10%. But you're recognizing $24 million of the PPP processing fees. Why was that so high in the quarter? Does that imply that there's around $25 million of unamortized processing fees left from round one?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Why do we run that on the balance sheet that only create it again over the handful of the next few quarters. And part of that was an effective interest method on the accretion. So it's not a straight line accretion over the loss of the loans.

Steven Alexopoulos -- JPMorgan -- Analyst

Okay. So does that imply a large drop in PPP balances, Ron, coming in 1Q?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Again, that'll be really dependent upon forgiveness, which we expect forgiveness to pick up Q1 and Q2 compared to Q4 levels.

Steven Alexopoulos -- JPMorgan -- Analyst

Okay. There's about $25 million of remaining unamortized processing fees?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Ballpark, yes.

Steven Alexopoulos -- JPMorgan -- Analyst

Ballpark, OK. Thank you. And then, if I shift to mortgage, if I add back the MSR valuation adjustment, mortgage revenue declined around $14 million quarter-over-quarter. You guys called out in the slide deck, $1.8 million reduction in direct home lending expenses around 13%. Why has home lending cost not come down more in the direction of what's capital revenue? Is there more of a lag there?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Well, again, the comparison there would have been Q3 where the gain on sale margin was north of 5%. So it has nothing to do with the expense as expense is based off the volume. So the better comparison from an expense standpoint would be off of the volume, which declined slightly from Q3 to Q4, but still was added [Phonetic] up to $2.1 billion in the fourth quarter. I'd say that the pricing gains were over the top of any volume changes, right, just from a revenue standpoint on the expense, again, tied to the volume.

Steven Alexopoulos -- JPMorgan -- Analyst

Okay. That kind of make sense. And then, final question. So you guys have been active on store consolidations, clearly your plan is to remain active. Given that the Umpqua stores were such a unique part of the historical story, what's the customer's feedback then from the branches you guys have closed down so far?

Cort L. O'Haver -- President and Chief Executive Officer

Hey, Steven, it's Cort. Our feedback to-date, obviously you're always going to disenfranchise some customers. So I don't want to minimize that. We have had some customer loss. But quite frankly, I think we have reported this in prior quarters. We've actually done a heck of a job well beyond what we forecast when we look at store consolidations impact to deposits. Our retention rate is greatly higher than what we forecasted. And it's primarily due to the outreach and our go to application, right.

So we outreach every customer in a consolidator store or closed store, we talked to them, we onboard them on Go-To, and get them digital mobile products that they need it. In some communities, we leave a high function ATM or something that's pretty darn close to a full-service store plus Go-To. So the feedback has actually been better than you would expect for consolidating stores five to 10 miles away. Once again, it's not to say that we don't have some disenfranchised customers. As you know, I do have a phone in my office that is in every store, and any customer at any time can dial 8 on that phone and call me.

And I'm being very, very transparent and truthful. I've had very few calls, I'm going to say, of the 60 or 70 stores we've closed since I've been sitting in the corner office, I've probably had less than 10 -- seriously less than 10 calls on our stores that are negative. I probably had no way even 30 [Phonetic] about the handling of that process both from the associate experience and the lead back with technology.

Steven Alexopoulos -- JPMorgan -- Analyst

Well, it's great color.

Torran Nixon -- President, Umpqua Bank

This is Tory. Real quick. This is Tory, real quick. I'll give you a couple of statistics, which is kind of interesting to support kind of the Go-To pieces. Our teller transactions are down 26% year-over-year, and our Go-To messaging is up 122%. So there's just a number of connections through Go-To messaging that's occurring. Some of that is just certainly kind of behavior and activity. But a lot of that is, to Cort's point, us connecting with the Go-To banker as we consolidate a store.

Steven Alexopoulos -- JPMorgan -- Analyst

Thanks for the color, I appreciate it.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Thanks so much.

Operator

Your next question comes from Brett Rabatin of the Hovde Group. Your line is open.

Brett Rabatin -- Hovde Group -- Analyst

Hey. Good morning, everyone.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Hey, Brett.

Cort L. O'Haver -- President and Chief Executive Officer

Hey, Brett.

Brett Rabatin -- Hovde Group -- Analyst

Wanted to ask a question around the reserve and just thinking about credit. We obviously haven't had the need to make provisions for two quarters now, so there's been some reserve release, and part of that's the loan portfolio obviously hasn't grown. It seems to me like if some of the more distressed portfolios continue to improve that there would be a good argument for a solid amount of reserve release over the next few quarters. Can you just talk about maybe the qualitative factors that I use Moody's, but just qualitative factors on the CECL reserve? And then just kind of thinking about reserve release as we go through the year, assuming things do improve and some of those more impacted portfolios.

Cort L. O'Haver -- President and Chief Executive Officer

Yeah. Maybe just in terms of the end of it, yeah, we do see continued improving the forecast. We do -- we would expect to see the potential for some recapture or decline in the expected loss. Just frankly, the charge-offs haven't been anywhere near where the models have expected. Now the volatility over the course of the past year has been one thing to try to use it up [Phonetic], this accounting standard in the same year. So we went to a baseline in March just gives consensus with lagged, not useful, Move back to consensus in Q2 and Q3, went back to a baseline in Q4 given the election and significant outlook -- volatility on the outlook. So, I do expect -- again, moving back to consensus here in -- early in '21. If we do see again some instability, which I'm sure everybody is very much looking forward to. Yeah, there's a potential for recapture and again, it's going to come down to the fact that the charge-offs just anywhere near what the models have predicted, yeah.

I would say, we'd expect as an industry, there should be a credit amount as an industry. It's just -- we're not seeing it. We've got the volatility we have within our FinPac leasing portfolio, but that's been usually covered by the reserves. So we feel good about [Indecipherable] for '21.

Brett Rabatin -- Hovde Group -- Analyst

Okay. And just thinking about the remaining deferrals, I mean, do you expect them to be active with a second round of PPP and seeing how are you managing these running deferrals in terms of our liquidity? What's been the experience in terms of particularly the hotels and restaurant portfolio?

Frank Namdar -- Executive Vice President and Chief Credit Officer

Hey, Brett, Frank Namdar. The deferral activity overall has really slowed down dramatically. There is not much going on right now. For -- most of the deferral activity is occurring within the residential space. And I think we have one loan that is currently in process for a deferral in the C&I and real estate portfolios combined. So that's plateaued.

And obviously all of our customers are absolutely welcome to apply for a PPP loan and they will be evaluated in that context. But to-date, we're just very pleased with, I'll say, the cure rate of the deferral activity we've seen thus far.

Brett Rabatin -- Hovde Group -- Analyst

Okay. And then maybe one last one, I mean, Cort, you were pretty optimistic that as you go through the year, that Umpqua has always been a growth story and that you are going to be able to grow, would it be fair to say then that you think you'll be able to replace the PPP loans -- I guess, I'm just trying to think about the portfolio at the end of '20 versus the end of '21. I mean, would your presumption be that it would be higher than it was at the end of '20 at the end of this year?

Cort L. O'Haver -- President and Chief Executive Officer

So -- I'm sorry, Brett. Ask the question. Should you -- with our organic -- I'll call it, non-PPP portfolio be bigger than it was going into this year? Is that what you just asked?

Brett Rabatin -- Hovde Group -- Analyst

No, I'm sorry. I'm sorry. Maybe I didn't ask the question well, Cort. I'm just thinking about replacing kind of the earning assets, so to speak. So $21.8 billion at the end of 4Q '20 we see organic growth cannot replace essentially the PPP portfolio as that rolls off this year.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Look, I may answer as best I can, I mean, our intent to continue to grow the bank at the pace prior to pandemic that we used to exhibit on a linked-quarter basis, seamless and very vibrant. I'm not going to answer your questions fully, Brett. So I'm just going to tell you right now and I'm not trying to, but we've seen a significant lift in our pipelines. Like Tory mentioned, there is -- if you don't convert a $3 billion pipeline to on-balance sheet footings in 90 days, it just doesn't happen, you know that. I mean, these are commercial loans and there's some lag time. So we're going to continue to do what we've always historically done and convert that into a fully integrated customer relationship.

What I'd love to replace all of the PPP runoff, the new runoff and grow on top of that or heck, yeah, I'd love to. But we're going to do what we've always done in our credit and bring in the right customers, work the PPP both first and second round and we're going to grow it at whatever that pace turns out to be. Sorry, I just -- I'd love to tell you what the number is, I can't do it.

Brett Rabatin -- Hovde Group -- Analyst

Yeah. Well, I don't mean to put you on the spot there. I just wanted to get a color around that and that that was helpful. Thanks so much for all the color.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

I appreciate. I appreciate being put on the spot, I love that. I just don't think I can answer.

Operator

Your next question comes from Matthew Clark of Piper Sandler. Your line is open.

Matthew Clark -- Piper Sandler -- Analyst

Hey, good morning. Maybe getting back to the reserve question, if you think about your reserves on loans, HFI, ex-PPP and ex -- unfunded commitments, it's about 1.64%. I mean, in a post-CECL world, I guess, where do you think that -- or where do you feel comfortable having that reserve bottom out over the next year or two? And maybe said another way, what's kind of the average reserve, you're setting aside on new production, depending upon the mix, or at least the mix you expect to put on going forward?

Cort L. O'Haver -- President and Chief Executive Officer

Good question, Matt. Obviously I can give you more probably ex-pandemic recession because CECL will be with us for the balance of our careers. But my gut would tell me, I'd be back where we thought coming into '20 we'd be at, which was around 1%. Which if you think about a long-term horizon or trend on charge offs, it's probably 4 to 5 times net charge-offs on the basis 20 to 25 bps, given the size and structure of our portfolio. So that'd be my gut for post return to normal economic utopia, etc. We'll see how it plays out.

Matthew Clark -- Piper Sandler -- Analyst

Okay. Great. And then, maybe -- I don't -- I know you guys don't isolate it in your slide deck and most other bank I don't think do either. But in terms of your office exposure, can you just remind us what that exposure looks like from a regional perspective and size perspective? And then, any updated kind of thoughts on the health of that portfolio?

Frank Namdar -- Executive Vice President and Chief Credit Officer

Hey, Matt, it's Frank. Yeah, so the total office exposure that we have institutionally here is just under $400 million. The great majority of it -- the great majority of it, Southern California and kind of the Puget Sound region of Washington, so very good markets per se that we are in.

Again, no deferral activity arising out of that. What does it look like going forward? That's a question asked all the time. And all that I can say is, it will look different. There's a school of thought that fewer people in offices but larger offices to accommodate kind of these hoteling-type concepts, so more to come on that as we move forward through this pandemic and beyond.

The hospitality portfolio continues to perform quite well. We've only got a couple, three or four properties that are on deferral. And at this point, the sponsorship behind those is quite strong and can continue to support those properties. Now with the extension of the CARES Act, I mean that helps us and other financial institutions dramatically in our ability to help these companies and sponsors continue to bridge the gap until the vaccine gets in plan, and we see some recovery there.

Torran Nixon -- President, Umpqua Bank

Matt, this is Tory. Let me just add one piece to that. I mean, our office portfolio, we've got very strong sponsorship, very low leverage and we're not looking to build a pipeline with office properties. So it's -- we have -- as Frank said, we have $4 million but it's not something we're trying to increase at all.

Matthew Clark -- Piper Sandler -- Analyst

Understood. Great. Thank you. And then, last one for me. Just on the pipeline, can you remind us what's the probability of a loan closing for it to be considered in a pipeline? And when you back tested, what's the success rate of converting within the pipeline?

Torran Nixon -- President, Umpqua Bank

That's it. That's a very difficult question to answer because it's unique for each line of business. So, depending on the line of business, there's a different -- really a different success rate and probability of closing and a time line from beginning to end. It's much quicker in our small multifamily business, where it can be 30 to 45 days. In the larger real estate space, it can be two to three months. In the C&I space, it could be everything from 30 days to 90 or 120. So just it really varies.

When we look at the pipeline, there's two ways we look at it. We look at it with a probability waiting and then unweighted. And so, kind of use a formula here as much data as we can to forecast growth for each month and each quarter. So, this pipeline that I referenced earlier, I mean, there has been a lot of growth. It's spread out among -- all of the different lines of business with a heavier concentration in the C&I space. So I think we'll see certainly some success and growth in Q1 and more so in Q2 and Q3 and Q4. So we'll have, I think, our trajectory up as we go forward in the year.

Matthew Clark -- Piper Sandler -- Analyst

And just curious, what's that probability weighting, on a weighted basis?

Torran Nixon -- President, Umpqua Bank

I can't give you an answer that is for across the entire pipeline, right. I could drill down. I'll have a front, I can drill down and try and do it by line of business.

Matthew Clark -- Piper Sandler -- Analyst

That's OK. I thought you had it. No worries. Thank you.

Torran Nixon -- President, Umpqua Bank

No, I don't have in front of me.

Operator

Your final question comes from Michael Young of Truist Securities. Your line is open.

Michael Young -- Truist Securities -- Analyst

Hey. Thanks for the follow-up question. Ron, you'll have to forgive me, but I'm going to try to put a finer point on the -- maybe expense dollar amount. I think, in the past, you've kind of alluded to maybe a 4Q run rate to exit the year. I know a lot of this is going to be variable based on actual mortgage production volume, given that we're starting at such a high point. But as we think about the moving pieces, maybe to your original guidance of $190 million or lower, kind of in line with 3Q levels to start the year, then we've got to think about a $14 million reduction from the sale of Umpqua securities piece headed into 2Q.

And then the bulk of the additional cost saves coming in, in the second half of the year for branch reductions plus potentially a return to more normalized mortgage volume. Seems like we could maybe exit the year in the fourth quarter at a much lower dollar run rate, maybe closer to $700 million to $710 million kind of annualized run rate as we exit the year? Is that there or are there pieces that I'm missing there?

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

I think you nailed it.

Michael Young -- Truist Securities -- Analyst

Okay. Well, it was easier than I thought. And then, maybe Cort, just kind of high level, maybe just putting kind of a bow on all the communication and kind of objectives for the year. Could you just kind of really just tell us what you're focused on, what you hope to achieve this year now that kind of the -- hopefully the fog of war has lifted a little bit and just what you're focused on?

Cort L. O'Haver -- President and Chief Executive Officer

I actually appreciate it. That's a great way to end up. I don't know if they rank necessarily in order, but first of all, executing on Next Gen 2.0, like we rolled out at the end of third quarter, which we've got great momentum on and probably hasn't caused me a lot of worry, but I worry about everything. So continuing to execute it on that, including the consolidations and the sale of UI, all those individual pieces would be probably the first priority.

I think, supporting Tory and his efforts, and Frank too, bringing that pipeline through and booking that, including the second round of PPP, and all the things we're doing to support our communities, making sure they'll be execute on that. I think the question that was asked a couple of times, what do we do with our excess capital? I appreciate Ron's answers. We understand where your questions are coming from and spending some time, more time than we've probably spent in prior years because we've been able to actually use that excess capital for organic growth.

I understand where the questions are coming from. So we're spending some time studying that and with all the answers that Ron gave you in his prepared remarks and answers to questions. And then quite frankly, I'm a big believer in looking out five or six quarters. So I'm already working on next year there. Where are we going to end up this year? Where do we have momentum? What do we need to do to continue? What do we need to get more efficient and more profitable?

So I've already moved on to 2022, much maybe to some your chagrin, but we have great momentum right now. I feel very, very good. But the Next Gen 2.0, the excess capital and our optionality, but Tory has been able to do. So that's how we look at it. That's how I look at.

Michael Young -- Truist Securities -- Analyst

Okay, thanks.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Got it.

Operator

That was our final question. I will now return the call to Mr. Farnsworth for closing remarks.

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Okay. I want to thank everyone for their interest in Umpqua Holdings and attendance on the call today. This will conclude the call. Goodbye.

Operator

[Operator Closing Remarks]

Duration: 63 minutes

Call participants:

Ronald L. Farnsworth -- Executive Vice President and Chief Financial Officer

Cort L. O'Haver -- President and Chief Executive Officer

Frank Namdar -- Executive Vice President and Chief Credit Officer

Torran Nixon -- President, Umpqua Bank

Jared Shaw -- Wells Fargo Securities. -- Analyst

Jackie Bohlen -- KBW -- Analyst

Michael Young -- Truist Securities -- Analyst

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

Steven Alexopoulos -- JPMorgan -- Analyst

Brett Rabatin -- Hovde Group -- Analyst

Matthew Clark -- Piper Sandler -- Analyst

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