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First Merchants Corporation (NASDAQ:FRME)
Q3 2021 Earnings Call
Oct 26, 2021, 2:30 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Good afternoon and welcome to the First Merchants Corporation 3Q 2021 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions]

Before we begin, management would like to remind you that today's call contains forward-looking statements with respect to the future performance and financial condition of First Merchants Corporation that involve risks and uncertainties. Further information is contained within the press release which we encourage you to review. Additionally management may refer to non-GAAP measures which are intended to supplement but not substitute for the most directly comparable GAAP measures. The press release available on the website contains financial and other quantitative information to be discussed today as well as reconciliation of GAAP to non-GAAP measures. After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to Mark Hardwick, CEO. Please go ahead.

Mark Hardwick -- Chief Executive Officer

Anthony, thank you for your diligence, the introduction, and for covering the forward-looking statement on page two. Good afternoon and welcome to First Merchants third quarter 2021 conference call. We released our earnings today at approximately 8 A.M. Eastern Standard Time. Hopefully, you have all found your way to our slide presentation. But if not, you can access the slides by following the link on the second page of our earnings release.

On Page 3, you'll see today's presenters and our bios to include President, Mike Stewart; Chief Credit Officer, John Martin; and Chief Financial Officer, Michele Kawiecki.

Page 4 is a one-page snapshot of the First Merchants' geographic footprint and a few relevant financial highlights for your review. We feel our year-to-date return on assets of 1.43% and return on tangible common equity of 16.35% reflect the strength of First Merchants' overall balance sheet and earnings model. Our Moody's investment grade of A3 was reaffirmed during the quarter on September 24th, 2021. This investment grade is important to us as we focus on the level of process, formality, and sustainability that exists within our company.

Now, if you would turn to Slide 5. As my quote in the press release states we are having a record year, powered by strong balance sheet growth and high levels of profitability. Net income for the quarter totaled $52.8 million or $0.98 per share. In addition year-to-date earnings totaled $157.8 million or $2.92 per share during the first nine months of the year. Typically -- or tactically I should say we had a busy quarter represented by three bullet points on the top half of page five. We are pleased with our quarter-to-date and year-to-date loan growth and you'll hear more about that later in the call. And we also completed the successful rollout of our new Online Account Origination platform powered by Terafina and NCR product. And we opportunistically repurchased nearly $21 million of First Merchant stock in the open market during Q3.

Now, Mike Stewart will provide some color on our lines of business before Michele and John review the financials and our credit statistics.

Mike Stewart -- President

Thank you, Mark and good afternoon to all. As you look at the next two slides, I plan to provide an update on our line of business results and their contributions within the quarter. Since nothing has changed within our strategy and key line of businesses which is on page six, I want to focus on page seven titled Region and Line of Business Third Quarter Results Highlights.

The top of the page offers a breakdown of the core loan growth by our business units. Overall, we grew total loan portfolio by an annualized rate of 6% with each business group contributing to the growth. All these percentages exclude the balances of PPP loans and have been annualized. The private wealth and consumer groups grew at an 11% and 28% rate, respectively. This compared to a 4% and 5% growth rate in the second quarter. And as we talked about last quarter, our private wealth team is now fully integrated into each of our markets and their connectivity with the commercial team continues to drive our growth in PWA relations and that loan activity.

Our consumer loan balances grew in the quarter based on increases of in-branch originations of around 5% and that's from both units, dollars, and increases in utilization rates. Augmenting this growth was a small consumer HELOC purchase of nearly $40 million. All combined the annualized growth rate was at 28% which is a little higher than normal. This is the second consecutive quarter of organic growth as our consumer spending remains robust -- as the consumer spending remains robust and stimulus deposits are being spent. For our mortgage portfolio, we continued to experience increases in construction and purchase volumes which drove the balance sheet growth of 2%. The pipeline for mortgage originations remained strong at the end of September, and even with the recent increases of the 10-year treasury rates volume remained strong.

Our total non-PPP commercial loan portfolio grew in the quarter by a 4% rate. And if you remember last quarter that growth rate was in excess of 10%. What is interesting in this quarter was the C&I segment which grew more than 10% with the investment real estate footings declining during the quarter. The C&I growth is coming from several factors, the new commercial bankers that have joined First Merchants across our markets. We continue to add smart talented bankers in each of our four primary states with upper middle market asset-based and investor real estate being a focus.

Commercial and industrial businesses are now expanding in plant and equipment to meet the growing demand and their line of credit utilization is also increasing in this quarter. Succession events through dividend recaps ESOPs and strategic partnerships are driving M&A activity and we have expertise and are connecting with all those events. The investment real estate new business generation has remained strong but its being offset with the liquid secondary market, the low cap rates, low interest rates, and tax considerations quickening the pace of refinances and asset sales. Overall, the economic and business climate in all of our markets is good. Companies are navigating supply chain and labor issues. Our team remains engaged with and prepared for the capital needs of the businesses as we continue to outwork our competition.

In summary, again after adjusting for PPP, the total loan growth for the third quarter of the bank's portfolio was 6%. And the pipeline looks to be able to deliver the continued growth in subsequent quarters and affirms my expectations on that mid to high single-digit annual growth rate that we talk about over time.

A few comments on deposits growth in the quarter. Overall, our deposit balances grew around 5% annualized down from the 8% in the second quarter. The growth of the commercial deposit base of nearly 6% outpaced the decline in consumer deposits and both segments were primarily influenced by the various economic stimulus programs. Consumers were net users of prior quarter's economic impact payments and municipalities and other public institutions continue to be net recipients of stimulus dollars. As Michele will highlight next, our deposit costs continue to decline again in the quarter nearly -- or shared nearly equally between both our consumer and commercial business units.

So, you go back to the map on the top left side of the Page of 7. That map represents the demographics of the growing economic environment the heart of the Midwest that drives our growth and a stable source of talent to lead our business efforts across all of our business lines. And again, like I shared last quarter, I've continued to visit our markets and have witnessed the reemergence and acceleration of the business activities our bankers and our communities and the business climate remains good.

So, I'm going to turn the call over now to Michele, who will provide a more complete review of the quarterly results and operating metrics, before John walks us through the soundness of our portfolio.

Michele Kawiecki -- Chief Financial Officer

Thank you, Mike. My comments will begin on Slide 8.

We had another quarter of meaningful balance sheet growth which you can see on lines one through four as total assets increased $137.6 million or 3.7%. The deposit growth of $145 million coupled with PPP loan forgiveness created liquidity of $370 million, of which $125 million was used to fund loan originations and the remaining liquidity was invested in the bond portfolio. You will see on Line 17 that net income declined $2.8 million from the second quarter. You will recall that the second quarter included onetime gains on a large sale of mortgage loans that totaled $2.9 million. Taking that into consideration along with the PPP fee income decline from last quarter reveals another good quarter of core incremental earnings growth. This result led to a strong efficiency ratio for the quarter of 51.18%. Lines 18 through 20 show our profitability ratios which are showing a nice upward trend starting from the third quarter of last year, with the return on tangible common equity this quarter at 16.33%.

Slide 9 shows our year-to-date results. Line 23 shows year-to-date earnings per share of $2.92, a $1.01 increase over the same period in the prior year. The efficiency ratio for the first three quarters of 2021 was a low 50.10%.

Now, I'll move on to slide 10 which shows highlights of our investment portfolio. The top right graph shows the trend in the portfolio yield. The yield on the portfolio declined only 3 basis points during the quarter, so yield compression has slowed. The portfolio contributed $26.3 million of interest income on a fully tax equivalent basis this quarter, an increase of $2.2 million over prior quarter. The current tax equivalent purchase yield noted in the bottom left is approximately 2.2%. With the roll-off yield for the remainder of 2021 and throughout 2022 averaging at 2%, we shouldn't see any additional margin pressure from the investment portfolio assuming buy yields hold up.

Slide 11 contains the highlights of our loan portfolio. In the bottom left corner you will see the stated third quarter loan yield increased 2 basis points over last quarter to 4.07%. Excluding the impact of PPP loans, loan yield was 3.77%, a decline of only 1 basis point compared to last quarter. Yields on new and renewed loans this quarter averaged 3.23%. Our loan portfolio continues to remain approximately two-thirds variable.

Slide 12 shows the details related to our allowance for credit losses on loans. On the bottom left of the slide is a roll forward of our allowance balance. During the quarter, we had charge-offs of $600,000 and recoveries of $800,000 which on a net basis increased the allowance balance modestly and we did not book any provision expense this quarter. Therefore, the ending allowance for credit losses on loans was right at $200 million. The coverage ratio trend is shown on the graph on the top left. Our coverage ratio at the end of Q3 is 2.21%, up from 2.19% from the prior quarter. Excluding PPP loans, the coverage ratio is 2.26%, down from 2.29% last quarter.

Now, I will move on to Slide 13. On the bottom left you will see our company's cost of deposits declined another basis point this quarter, averaging 18 basis points. This is half the cost of the deposits in Q3 2020 which were at 36 basis points. We generated average deposit balance growth of $225 million on a linked quarter basis, yet interest expense from deposits continues to modestly decline.

Slide 14 shows the trending of our net interest margin. Line one shows net interest income on a fully tax equivalent basis of $110 million. When you back out non-core interest income items such as fair value accretion on line two and the impact of PPP loans shown on line three, our core net interest income totals $100.3 million. Compared to the prior quarter total of $97 million, the increase in core net interest income was $3.3 million. Stated net interest margin on line six totaled 3.2% for the quarter. Adjusting for fair value accretion and the impact of PPP loans brings us to a core net interest margin of 2.99% which is only down 1 basis point from last quarter's core NIM of 3%. So we are seeing stability in our margin.

On Slide 15, non-interest income totaled $28.5 million for the quarter, with total customer-related fees of $23.2 million which was down $3.7 million and was due to the large one-time gain on the sale of mortgage loans recognized last quarter that I mentioned earlier. This quarter we also recorded a large BOLI gain of $1.3 million which has reflected in other income and saw continued recovery on service charges on deposits.

Moving to Slide 16. Total expenses for the quarter totaled $71.4 million which is $2.1 million more than Q2 expenses of $69.3 million. In the bar graph on the far right, you see the increase in salaries and benefits which is driven by higher base salary expense and incentive accruals booked during the quarter. The increase in other expenses totaled $13.2 million and is largely due to higher marketing spend and contributions made during the quarter.

Slide 17 shows the strength of our capital ratios. The tangible common equity ratio at the top of the page is stated at 8.94% but is 8.82% without the impact of PPP loans which is in line with our internal TCE target. At the bottom, you will see the Common Equity Tier 1 ratio and the total risk-based capital ratio remain at high levels reflecting the safety and soundness of our organization.

That concludes my remarks. I will now turn it over to our Chief Credit Officer, John Martin to discuss asset quality.

John Martin -- Chief Credit Officer

Thanks, Michele and good afternoon. My comments start with Slide 18, where I will review the loan portfolio including the industry concentrations and the PPP loan program. I'll provide an asset quality update and then close with an asset quality roll forward before turning the call back over to Mark.

Turning to Slide 18. For the quarter, the portfolio experienced continued loan growth as Mike Stewart mentioned in his earlier remarks. Total loans grew $126 million when factoring in the $218 million in PPP loan forgiveness in the quarter. Excluding the changes in PPP loans grew at a 6% annualized pace led by the C&I portfolio which encompasses on this slide lines one through three, CRE construction and home equity loans.

Driving C&I growth was a number of new relationships for the quarter as well as an increase in C&I line utilization from 38.4% to 39.7% or an increase of roughly $115 million. Line utilization continues to remain lower compared to pre-pandemic levels, where utilization was in the mid-40% range. We did feel some headwinds in the investment real estate portfolio as Mike mentioned, as the demand from the permanent market was strong and resulted in a number of our mini-perm loans being taken out early. On lines nine through 12, we had growth in our consumer and mortgage portfolio, up $60 million in both first lien and HELOCs as both the purchase and refinance market remained strong.

And then on line 14, we ended the quarter with $198 million or roughly 1600 of the PPP loans remaining, that represent either loans that have been converted to amortization or await a forgiveness request or processing.

Slide 19 highlights our asset quality. Our trends continue to be stable to improving with NPAs plus 90 days past due on line five, down $6.2 million. This left 90 days plus -- or excuse me, NPAs plus 90-day loans to loans plus ORE lower at 58 basis points. Classified loans on line seven are those with a well-defined weakness. They continued to decline this quarter down $39.1 million, ending the quarter at 1.6% of loans. Driving that change in classified loans were both changes in C&I as well as the resolution of two nonperforming senior living credits exiting the portfolio.

And finally, net charge-offs on line nine resulted in a small net recovery in the quarter as we were paid out of an approximately $200,000 balance from a former A B TDR left from the recession The Great Recession with modest offsetting charge-offs. And finally, at the bottom of this slide, the remaining COVID deferrals have declined $14.6 million or four commercial loans, as the borrower deferments end. The terms of these deferrals will either end in the fourth quarter or be resolved on these names in due course.

In summary, asset quality remains stable and improving during the quarter. And while the operating environment on the other side of the pandemic remains challenging with supply chain issues and labor and hiring challenges, we are seeing companies quickly adjust.

And finishing up on Slide 20. I've again included the asset quality roll forward which reconciles changes to asset quality. On line two, we resolved the two aforementioned senior living non-accrual credits, totaling $23.4 million having fully reserved for the loss in prior quarters, while in line three we added two significant non-accrual credits of $20 million. The first borrower is a commercial contractor, while the second is an agri business related company to grain storage and marketing. We have specifically reserved roughly $3 million on each credit. Dropping down to line 13. These changes accounted for virtually all of the $6.2 million in asset quality for the quarter with only minor changes in the other categories across nonperformers. That's all I have Mark.

I'll turn it back over to you.

Mark Hardwick -- Chief Executive Officer

Great. Thanks, John. You'll see in the deck Slides 21 and 22 are consistent with prior quarters. And they just show a nice track record going back a little over 10 years of First Merchants' performance.

And then, if you look at Slide 23, it's a document that highlights some of our priorities. As you think about having a vision and a mission and kind of strategic imperatives this is a good list of the things that we're focused on that should carry us through the next several years. And at year-end I'll cover these in more detail.

So at this point, we're really ready to take questions. And Anthony you can open up the line for us.

Questions and Answers:

Operator

We will now begin the question-and-answer session. [Operator Instructions] Our first question comes from Daniel Tamayo of Raymond James. You may go ahead.

Daniel Tamayo -- Raymond James -- Analyst

Hi, good afternoon, everyone. Maybe I will start on expenses. We're seeing a lot of, obviously, wage inflation hearing a lot about that impacting hiring practices and dollars. What are you seeing there? And how do you think that's going to impact your expense growth next year without maybe talking about guidance but just kind of high level? Thanks.

Mark Hardwick -- Chief Executive Officer

Yes. Thank you, Daniel. Look wage inflation and the pressure related is real. We are definitely feeling it in more of our entry level positions. There's increased vacancy rates and we've increased our minimum wage to $15. We have some insurance adjustments that are going to take effect to the first of next year that are trying to provide some relief and will allow us to attract talent at some of the entry level position; so it's real and we're feeling it. But I would say as we forecast into next year, we still have in mind kind of a 2% to 4% growth rate for expenses in 2022. And we're finding ways to be more efficient in other areas as we just adjust and adapt to this new environment. That also includes increased digital transactions etcetera. So, it's a good question; it's real and I just think it's part of the job that we have to manage the company in the most efficient way possible.

Daniel Tamayo -- Raymond James -- Analyst

Thanks, Mark. And as a follow-up to that assuming in 2022 that we do have some -- you mentioned finding other ways to cut cost but assuming that that might run a little bit higher than normal and that we do not get an increase in interest rates, do you think you can still maintain an efficiency ratio in the low 50s as you've done in the past?

Mark Hardwick -- Chief Executive Officer

Yes, we do. We're pretty far along in the budget process this year. We've met with every line of business and every administrative unit to review their strategies or tactics for the year. We've drafted our plan and -- I mean, we feel like our efficiency ratio consistent with our strategy is going to stay in the low 50s.

Daniel Tamayo -- Raymond James -- Analyst

Great. I'll stay back. Thanks for answering my questions.

Mark Hardwick -- Chief Executive Officer

Yes, thank you.

Operator

Our next question comes from Terry McEvoy of Stephens. You may go ahead.

Terry McEvoy -- Stephens -- Analyst

Good afternoon, everyone.

Mark Hardwick -- Chief Executive Officer

Hi, Terry.

Terry McEvoy -- Stephens -- Analyst

Maybe a question for Michele. How should we think about the size of the securities portfolio and overall your thoughts on managing excess liquidity?

Michele Kawiecki -- Chief Financial Officer

Well, this quarter we saw the liquidity growth slowing some and so although we -- as Mike Stewart said we are seeing some stimulus money still come into public entities, we think overall that's going to slow and our growth on deposits is going to normalize. And when that happens, that excess liquidity that we have will be plowed right back into loan growth and so we don't anticipate a whole lot more growth in the investment portfolio from excess liquidity going forward.

Terry McEvoy -- Stephens -- Analyst

And then, as a follow-up maybe just -- as a follow-up on that last question on expenses. In the third quarter, they came in call it $1.5 million above kind of the high end of the range that was talked about three months ago. And Michele I think you said something about marketing and maybe some other items that drove the third quarter increase. I guess what are your thoughts specifically on the fourth quarter? Is $68 million to $70 million the right way to think about that, or has there been a bump up in the third quarter that will trend -- or continue into the fourth quarter?

Michele Kawiecki -- Chief Financial Officer

I think the wage inflation will have it running more toward the third quarter levels of $71 million to $72 million.

Terry McEvoy -- Stephens -- Analyst

Great. Thank you.

Michele Kawiecki -- Chief Financial Officer

You're welcome.

Operator

Our next question comes from Damon DelMonte from KBW. You may now go ahead.

Damon DelMonte -- KBW -- Analyst

Hey, good afternoon, everyone. Hope that everybody is doing well today.

Mark Hardwick -- Chief Executive Officer

We are. Thanks, Damon.

Damon DelMonte -- KBW -- Analyst

Good to hear. So, first question the commentary around the margin was pretty positive. Michele are you feeling comfortable that you guys can kind of hold this line here the 2.99% to 3% for the core margin level, or are you even maybe more a little bit more optimistic that you could see a little bit of a rise as we go through the end of 2021 and into 2022?

Michele Kawiecki -- Chief Financial Officer

Our outlook is that the margin will be stable. A lot of the pressure that we saw on the previous quarters was due to all that excess liquidity and with that liquidity coming to more normalized levels, we think it will be stable. I'd probably be a little shy to say that I think that it could increase just because we're still seeing quite a bit of competition on loan pricing but we feel good about where we're at.

Damon DelMonte -- KBW -- Analyst

Got it. Okay, great. And then I think John was giving the commentary on the commercial line utilization rate and I didn't quite catch all that. If you could just repeat the percentage of this quarter versus last quarter that would be great.

John Martin -- Chief Credit Officer

Sure. So, the line utilization so it's basically foray in the line utilization, it's 38.4% to 39.7% which given our commitments resulted in a $115 million lift for the quarter in C&I alone.

Damon DelMonte -- KBW -- Analyst

Got it. In C&I alone, OK. Perfect. And then I guess just lastly kind of bigger picture Mark. I'd love to hear your updated thoughts on M&A, there's been some decent size deals across the Midwest in the last few months and kind of what your thoughts are on -- are you in a better position to try to capitalize from market disruption, or do you think there's other smaller community regional banks that you guys do partner with to make yourselves a larger entity? Thanks.

Mark Hardwick -- Chief Executive Officer

Yes, I don't think our opinion on it has really changed. Mike Stewart spends every day focused on organic growth. It seems like the rest of us spend every day making sure our efficiency ratio stays intact because we think those two things are ultimately what drive higher performance. And M&A is a part of what we've done historically. You see the track record. I would say maybe things are a little more active in the second half of the year like they normally are. I think if a banker went back and tried to plot M&A activity I think it's always heavier in the second half of the year. But my view and my opinion of it is really the same as it's always been. We focus on organic growth, efficiency, performance, and M&A is an organic strategy that has to be opportunistic and has to provide shareholder value. So, no real change in our view.

Damon DelMonte -- KBW -- Analyst

Okay, great. Thanks. Appreciate the color. Thank you.

Mark Hardwick -- Chief Executive Officer

Thank you, Damon.

Operator

Our next question comes from Scott Siefers with Piper Sandler. You may now go ahead.

Scott Siefers -- Piper Sandler -- Analyst

Hey, guys. Thanks for taking the question. I just wanted to go back to the loan growth commentary. I think in some of your earlier prepared remarks you noted, some hirings that had helped to generate some of that growth. How much of the growth would you say, is coming from that increased line utilization that you referred to a couple of times and how much from new hires? And what is the market in your view for attracting new talent?

Mike Stewart -- President

It's Mike Stewart here. Good question. We -- I'll start backwards. The market, I would say for us is pretty attractive. In some of our core markets, there are disruptions that still happen with some of the larger banks or some of the other M&A activity. And with our reputation and our -- growth in our global commercial product set it's been a good place for those commercial bankers to lend. It could be asset-based lenders investor real estate lenders, upper middle market lenders, taking advantage of our syndication capabilities now. So, we've been able to add those type of quality bankers in -- like I referenced in each of our four states. They are contributing. Once they get on board, it usually takes I would say two quarters and they start to contribute in a pretty consistent manner. You asked specifically, how much would that growth come from that, or the organic growth from that versus the line utilization. And I think, if you take the line utilization out but some of that line utilization comes from new names which these bankers are contributing as well. It's a good question. I have to do a little bit more work to give you the percent.

Mark Hardwick -- Chief Executive Officer

And I can also provide a little bit of additional color. Our commitments for the quarter which come from new names increased from $2.75 billion to $2.98 billion. So call it a couple of hundred million dollar increase in our line commitments. So that's being generated by new names new commitments to existing customers generated by bankers. It's not just purely existing lines existing draws.

Scott Siefers -- Piper Sandler -- Analyst

Perfect. Okay, thank you very much for the -- yes, that's great. And then Michele, you had made a comment a moment or two ago regarding loan price and competition in response to a question on the margin. I was hoping that, you guys might be able to speak to in just a bit more detail to sort of the intensity of pricing competition and what your bankers are telling you about pricing versus competition on structure and stuff like that?

Mike Stewart -- President

Yes, it's Mike Stewart again. I'll speak to that too, because connected to it in a very intimate way. I would say, all of our banking competitors realize that asset growth is of utmost importance. So competition on pricing is real. And we see it in all different forms and functions. And I would say that, we've been able to in general not have to compete on structural aspects. At sometimes, I'm wondering on any certain deal specific, if that's true but on a global point of view, it is still from a competitive point of view pricing. That's why I think Michele would be hesitant to answer the other question with would we see margin increasing. I just think that we're going to stay very active and price accordingly. We like to use incentive-based pricing. So if risk profiles change over time the pricing would adjust accordingly. We try to stay relatively short on our types of tenor so we get to take a look at those, so we can rebalance when time goes on but I think that's -- it's just competitive.

Scott Siefers -- Piper Sandler -- Analyst

Okay, perfect. Thank you guys very much.

Mark Hardwick -- Chief Executive Officer

Thanks, Scott.

Operator

Our next question comes from Brian Martin of Janney Montgomery. You may now go ahead.

Brian Martin -- Janney Montgomery -- Analyst

Hey, good afternoon, everyone. Just a couple for me. Just -- Mark just going back to your M&A point or just capital maybe just kind of your appetite. You talked about the buyback maybe just the appetite for buyback. And then just on M&A, just separate -- I guess, when you look at the opportunities that are out there today whether it be something like Hoosier or more of the bank side, is anyone more active on your front or -- I guess on that front and then just on the buyback?

Mark Hardwick -- Chief Executive Officer

I would -- well, we're active in buyback space opportunistically, and have a real kind of stated goal to keep tangible common equity at our target of 9% to drive higher returns on tangible common equity. So I think we've been successful there. And on the M&A front, I'm not sure, if I totally heard the question. But I would just say, if something were to progress we have interest in using cash in the transaction as part of the capital management. Maybe that's where you were headed.

Brian Martin -- Janney Montgomery -- Analyst

Yes. I was just more -- just is it a whole bank deal, or are you more interested in doing something like you did with Hoosier Trust on that side?

Mark Hardwick -- Chief Executive Officer

Yes, no more traditional. I mean Hoosier Trust was a unique opportunity. But I don't think we'll see those types of opportunities as frequently as we might hold bank opportunities. So we're still focused on transactions that look really similar to what we've done in the past.

Brian Martin -- Janney Montgomery -- Analyst

Yes. Okay. And then the last two for me or just maybe one for John. Just on PPP just the recognition of the remaining fees. Is it -- the bulk of that probably comes fourth quarter, or have you seen some of that slow down?

John Martin -- Chief Credit Officer

Yes, we would expect that the bulk of the remaining is going to come in the fourth quarter.

Brian Martin -- Janney Montgomery -- Analyst

Got you. Okay. And then maybe just one for Michele was just on the outlook for margin just I guess can you remind us from an asset sensitivity standpoint how you guys would I guess just what your thoughts would be on how the margin dynamics might change from what you mentioned earlier?

Michele Kawiecki -- Chief Financial Officer

Well, we look out over the next 12 months we're assuming that margin will be stable. I mean we are asset sensitive. Certainly, our balance sheet always has been. But we're still looking for stability with hope that there could be some increase.

Brian Martin -- Janney Montgomery -- Analyst

Okay. And just remind me I mean the percentage of loans that are variable rate that would move?

Michele Kawiecki -- Chief Financial Officer

Two-third.

Brian Martin -- Janney Montgomery -- Analyst

Two-third. Okay, perfect. Okay, thank you for taking the questions.

Michele Kawiecki -- Chief Financial Officer

You're welcome.

John Martin -- Chief Credit Officer

Thank you, Brian.

Operator

Our next question comes from Daniel Tamayo of Raymond James. You may now go ahead.

Daniel Tamayo -- Raymond James -- Analyst

Again, just a couple of follow-ups for me. First on the deposit service charges had a nice little increase in the quarter obviously after they fell off during the pandemic. But how are you thinking about that line going forward with potential regulatory changes? And just what are your thoughts there would be great? Thank you.

Mark Hardwick -- Chief Executive Officer

Yes. I mean the component that is NSF and OD we just continue to make sure that we're kind of taking the lowest risk approach. And kind of every year looking for ways to make sure that we're as conservative as possible. So outside of that I think there are service charges that are clearly just connected with core deposits that we have. That is a focus of our organization. I mean we think -- we talk all the time about growing commercial loans and growing core deposits and core deposits come with some level of service charges. So -- but yes there's definitely some risk in the OD space and we're just trying to make sure every practice we have is at low risk as possible.

Mike Stewart -- President

And inside that service charges there's a lot coming through the form of ATM usage as well. So they're both increasing.

Daniel Tamayo -- Raymond James -- Analyst

All right, great. And then, last one for me for Michele here. So you've commented in the past of a bias to keep the loan loss provision at zero or above given the outlook for credit is very strong at this point and reserves still remain comfortably over 2%. Any update to that, or do you think that will remain the focus going forward? Thanks.

Michele Kawiecki -- Chief Financial Officer

I think our bias remains the same. But we acknowledge that we could be under some pressure in the near-term depending on what the unemployment rate is and the Moody's outlook. But at this point we would still -- it would still be our bias just to grow into that number.

Daniel Tamayo -- Raymond James -- Analyst

All right. I appreciate it.

Michele Kawiecki -- Chief Financial Officer

Thanks, Daniel.

Daniel Tamayo -- Raymond James -- Analyst

Thank you.

Operator

This concludes our question-and-answer session. I would like to turn the conference back over to Mark Hardwick for any closing remarks.

Mark Hardwick -- Chief Executive Officer

Anthony, thank you and to all of our participants. We always appreciate your interest your connectivity your willingness to listen to our performance and most of all your investment. So your engagement is appreciated. Look forward to talking to you next quarter. Thank you.

Operator

[Operator Closing Remarks]

Duration: 40 minutes

Call participants:

Mark Hardwick -- Chief Executive Officer

Mike Stewart -- President

Michele Kawiecki -- Chief Financial Officer

John Martin -- Chief Credit Officer

Daniel Tamayo -- Raymond James -- Analyst

Terry McEvoy -- Stephens -- Analyst

Damon DelMonte -- KBW -- Analyst

Scott Siefers -- Piper Sandler -- Analyst

Brian Martin -- Janney Montgomery -- Analyst

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