Good morning, and welcome to the Alerus Financial Corporation Earnings Conference Call. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. This call may include forward-looking statements and the company's actual results may differ materially from those indicated in any forward-looking statements. Important factors that could cause actual results to differ materially from those indicated in forward-looking statements are listed in the earnings release and the company's SEC filings. I would now like to turn the conference over to Alerus Financial Corporation Chairman, President and CEO, Randy Newman. Please go ahead.

Thank you. Good morning, everyone, and thank you for taking the time to join or listen to our call today. I'm very proud to report another quarter of incredible financial results and even more proud of our team members and how they continue to focus on serving our clients through holistic advice and unparalleled service. Our diversified business model built on decades of execution continues to set us apart in both performance and total shareholder returns. These key attributes of our company have also become a competitive advantage in attracting talent. During the quarter, we added one of the best SBA teams in the country to our talented employee base. With our strong commercial base of clients and the expertise and experience of this team, we believe this product will continue to help differentiate Alerus and the value we bring to our business clients. Strategically, we are laser-focused on organic growth led by our Chief Revenue Officer, Ryan Goldberg, who is joining us on the call today. The investments we have made in our sales force both in training and technology, we believe, will set us apart in bringing in new clients as well as expanding relationships with our significant client base of more than 18,000 business clients and over 0.5 million consumer clients. During the second quarter, production levels on all products were strong and we continue to see momentum building in our pipelines and PPP. Low line utilization, higher than historical prepayments and continued extraordinary levels of liquidity have been a sustained headwind. In addition to growth, we are also concentrating on expense management, process improvement and driving efficiencies in our organization. We are so impressed with our talented team members of the company, who are reinventing how we do business throughout all areas of product lines, finding ways to replace manual processes with robotics, automation and soon, artificial intelligence. These efforts will improve the profitability of our business units and just as important, provide a better client experience that allows us to scale effectively, as we continue to grow both organically and through acquisitions. Speaking to acquisitions, our Colorado transaction continues to go very well from a client and employee integration standpoint. Results are right in line with our modeling. The synergies we can extract in our business model are remarkable and afford us an opportunity to be a player in a very competitive M&A space. We continue to build on our acquisition pipeline on the fee income and banking side, with proactive outreach to potential partners as well as exploring opportunities of companies that are currently looking for a sale or exit. In summary, another great quarter and strong shareholder returns. Our business model, our strategies and our strong foundation of capital and robust allowance levels have Alerus positioned for continued success.

Thank you very much, Randy. The second quarter continues to build on the successes our business and financial advisors realized during the first quarter. The team remained focused on proactive client interactions, understanding how Alerus can assist in building a better financial future for each business and consumer client, and then recommending the most appropriate solutions on an individualized basis. Wealth management revenue increases can be attributed to sales of businesses, which are creating liquidity events for the owners, offering additional value-added services to retirement plan participants, such as 401K rollovers and remaining focused on having discussions with clients who are seeking more attractive returns in this low interest rate environment. Looking at retirement services, we have been very pleased with the progress we are making in our group, with the acquisition of new plans and expanding the services that our clients are obtaining from Alerus in the areas of fiduciary, administrative and health and welfare solutions. Looking at lending performance, our new consumer and business loan originations are in line with our internal expectations, but the balance sheet benefit has been muted by lower than expected line of credit utilization and larger prepayments and balance reductions, which can be attributed to the excess liquidity that borrowers have access to currently. Second quarter loan volume was stronger than what we saw in the first quarter and continues to trend in a positive direction. The loan pipeline is building, attributed to identifying client opportunities with multiple entry points into our expanding Alerus client base. We're very pleased with the SBA team that has recently joined Alerus during the second quarter. They have integrated well into the company and the impact of their expertise is already being realized, with new SBA loan volume being closed. SBA lending is an exceptional opportunity for us. Coming out of the PPP process, there is much more awareness of SBA programs and a willingness of borrowers to consider these options where the previous sentiment was not necessarily as favorable. In addition, for many businesses rebounding after the worst of the COVID pandemic, this provides a set of solutions that can mitigate certain risk components of a lending application, allowing us to provide more options to make loans in our market. Through our focus on segmentation and talent identification strategies, we plan to add advisors and lending segments of focus that have expertise with C&I and CRE relationships in the communities we serve.

Thank you, Ryan. Good morning, everyone. I'll spend just a few minutes this morning highlighting some highlights of another truly excellent quarter of results. First and foremost, Alerus's pre-tax pre-provision results continue to outperform our peers and a key differentiator in our performance ratios is notably driven by Alerus's non-margin dependent annuitized earnings, which have no credit risk and require significantly less capital allocation. As PPP forgiveness accelerated during the quarter and liquidity levels remained at all-time highs, our NIM contracted further than expected; however, the Alerus business model and diversified earnings continue to deliver exceptional returns to our shareholders. On the fee income side, I'll start with the Alerus mortgage division, which continues to execute at an exceptional level. Origination, pull-through, and gain on sale margins had another strong quarter. The revenue results were weighed down by the decline in fair value of the hedge, which is what we expected and have guided to over the last several quarters. We are seeing our business return to the purchase side. Historically, refinances make up only about 20% to 25% of our origination volume. The second quarter for Alerus was our highest quarter ever of purchase volume, and application trends are reflecting a return to that purchase side. We expect third quarter volume to remain strong but trend down from second quarter levels, with fourth quarter volume returning to a more typical Q4 production level. On the retirement, health and welfare benefits revenue side, it continues to be strong with earnings of accretion from our recently completed acquisition. We expect the run rate to settle in around $17.5 million for the rest of the year, assuming that market conditions hold steady. Our wealth management revenue was up 24% on a year-over-year basis. As Ryan mentioned, these impressive results were driven by record levels of new business and production as we have invested in numerous financial advisors over the past four years. We are pleased with our continued success in adding talent to grow and expand solutions in our massive consumer client base.

Thank you, Katie, and good morning everyone. The second quarter marked progress in moving toward our new normal. We have adopted a flexible approach to our work environment, allowing many of our employees to work from home long-term. As vaccines became more widely available in the spring, we implemented our phased return to office plan, reopening our offices and returning those employees who will work from an Alerus office. We expect all phases of the plan to be complete in September. As of July 23, $155 million in PPP loans remained on the books, comprised of $51 million in first-round loans and $104 million of second-round loans. $319 million had been forgiven through that date. Remaining payment deferrals totaled just under $6 million or 0.3% of outstanding guaranteed balances. These are almost entirely in our one-to-four family first lien portfolio. Asset quality metrics remain strong during the second quarter. Nonperforming assets increased during the quarter due to two loans moving to non-accrual: one commercial loan and one commercial real estate loan. In addition, real estate owned increased as we took possession of collateral securing a long-term workout loan. I would characterize this as normal migration in the portfolio, not specifically attributable to the impact of the pandemic. We recorded a net recovery of $6,000 for the quarter. No provision was recorded during the quarter due to strong credit metrics and a decrease in loan balances. The level of the reserve continues to be driven by qualitative adjustments due to economic uncertainty. The ratio of the allowance to total loans excluding PPP loan balances was 2.02% at the end of the quarter and the allowance to nonperforming loans was 485%. As Ryan noted, low line utilization and prepayments due to high levels of liquidity continue to be headwinds to loan growth. As of June 30, utilization on our C&I lines was under 20% compared to 23% on March 31, and a historical seasonal utilization rate normally in the mid to high 30% range.

The first question comes from Jeff Rulis of DA Davidson. Please go ahead.

Question on the loan growth side, wanted a couple of things, I wanted to check in on the Indirect portfolio, how much more - the size of that and what's left to kind of run-off?

Sure, Jeff. This is Karin. We've got about $37 million left in that portfolio and we've been seeing about $6 million to $7 million a quarter run-off on that.

And maybe Karin or Ryan, you talked about the SBA team, and I guess just sort of the inflection point if we continue to see that indirect had a modest drag on the portfolio, just want to check in on inflection, you got some SBA, a team there and just thinking about kind of the balance of the year, what net growth could look like absent PPP?

Ryan, do you want to take that?

Sure. Thank you, Jeff. So what I would tell you at the start is, we have some expectations as we go forward with our SBA team. They are off to a faster start than we expected. I think this is attributed to the quality of the group that we have brought in. They're working hard to establish the foundation within Alerus for this particular program. We're seeing really a broad-based set of loan opportunities that have come into our team for evaluation. They're already starting to close business. We're optimistic about what the rest of the year would look like and believe that this will just be the catalyst as we move into the next couple of years.

And so the overall portfolio - I know that you said payoff activity is tough to peg, but in terms of the net balance of loans kind of - do you look at a net growth position in the second half, given?

We do. There's a variety of different things that we have options to pull in terms of levers for us to achieve some of the growth, but our expectation is in the low single digits for growth when you look at all of our lending asset classes on an aggregate basis. We're not exactly sure where each of the line items will play out at this point in time. Some of that's going to be opportunistic. Some of it's going to be environmentally driven, but that's what our expectation is at this point, that low single digits for the rest of the year and that's what we're aspiring to based on the different initiatives and activities that I mentioned in my earlier comments.

Thanks, Ryan and Katie, I just wanted to kind of back into the mortgage banking a bit. I'm surprised, gain on sale is increasing and your volumes remain pretty strong. That's a - it's a pretty significant - I know you've indicated some of the MSR adjustments, but the net line, could you remind me what kind of - where you've guided to on that. I heard your comments about Q3, Q4 kind of volumes coming in, but the net number, any guide, I kind of maybe lost track versus the previous quarters.

Yes, no problem. Thanks, Jeff for the question. So from an origination standpoint, I think we'll go under 400 for the third quarter, but probably in the upper 300s. We do expect the gain on sale margins to drop. This was probably a high level watermark for us and then we do have probably around $2 to $3 million of hedge to unwind for the rest of the year. And so, I would consider that in the headwind also.

Is that per quarter or just remaining?

In total.

Okay. So that's a significant - I mean, relative to that, you took this quarter that's going to minimize quite a bit and or, so the net figure may be, you can hold up pretty well. If I'm reading that correctly.

Yes, we, in regards to - we'll see. We obviously had a significant headwind in the revenue this quarter, but with the drop in originations plus that continued headwind, we'll see the mortgage revenue drop probably around $8 million or so, settle in there, we think.

The next question comes from Nathan Race of Piper Sandler. Please go ahead.

Maybe hoping to get some color on the outlook for RB&S revenue going forward. I imagine some of the market strength that we saw in the second quarter contributed to the solid sequential growth in that your line in 2Q. So, just curious if you could parse out how much of that growth was related to that appreciation in the market versus just kind of ongoing organic growth in that line and kind of the outlook for organic growth within RB&S over the back half of 2021.

Yes, good question, Nate. We think revenue there probably settles in around $17.5 million from a run rate basis, based on what we see today and where the market is today. And then on a go-forward basis, we look to grow that revenue in the low single digits.

And along the lines and thinking about RB&S going forward, I believe we saw some announcements during the last few months around some other acquisitions - other entities have done in that space, so I would love to hear your kind of updated thoughts on what you guys are seeing as it relates to future deals within that segment going forward and so forth.

Yes, this is Katie. I'll take that one. I mentioned in my opening comments, the competition for fee income acquisitions continues to be elevated, but our - with Alerus in our organization and the synergies that we're able to extract, we believe and we know that we can be very competitive in the M&A space. And so, we continue to see more opportunities from a reactive basis as just awareness of the company and our capital that's available to deploy becomes more widespread, as well as proactive outreach efforts continue to intensify with some urgency around our team, because of the competitiveness and the number of players that are attempting to enter the space or build scale.

Got it. Understood. It makes sense. Just a couple of housekeeping questions if I could, just thinking about the overall balance sheet size going forward, deposit inflows that you used in the quarter, and I imagine that's a function of just the macro factors that play these days and as you guys continue to execute on some mono Alerus synergy deposit growth, so just expectations for just the overall balance sheet size and if we should expect some continued growth with those strategies continuing to play out and even as the PPP forgiveness process and perhaps as you know, some clients' liquidity levels come down.

Right. From a balance sheet perspective, I think we're continuously surprised at the level of liquidity that maintains. We will continue to put more into the investment portfolio, move that up to $1 billion dollars. From a deposit balance side, we are seeing some outflows, as we did last quarter with our retirement money markets, but we are also at a low watermark for some of our public funds, which we don't have very much. So I don't believe we'll see any liquidity - at least we're not expecting any liquidity outflow at this time.

And then just one last one and I apologize if you guys already touched on this, but the other expense line was lower by about half, quarter-over-quarter, anything to speak of there and just thoughts on just the overall operating expense run rate in the back half of 2021.

Yes, I think that there's been some noise in that number in both quarters. And so I think that's more of an $800,000 to $900,000 run rate going forward in a typical quarter. And from an expense standpoint, with the mortgage origination volume declining, I think we would expect to drop another million of expense down in the third quarter and then potentially another million in the fourth quarter from that.

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

Thank you and thanks to everyone for joining our call this morning. Thank you for listening and asking questions. Our financial performance in 2020 was record-setting. The first and second quarters of 2021 have continued this pace. Although the industry is facing headwinds, our company, which has historically outperformed our peers, remains well-positioned for future success because of our diversified business model. We continue to see momentum building in our pipelines for new business and client expansion across all products and a high level of engagement within our team. We have a constancy of purpose that is embraced and magnified by our leadership team and we remain focused on working together to grow the company. This steady and strong foundation is allowing us to retain and recruit top talent, serve in the best interest of our clients, and deliver long-term value for our shareholders. We are very pleased with our performance year-to-date and thank all of our shareholders for their investment and our team members who work daily to positively impact our clients' financial potential. We thank you for your continued support and interest in our company. And again, thank you for joining or listening to today's call.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.