Earnings Call Transcript
FIRST HORIZON CORP (FHN)
Earnings Call Transcript - FHN Q2 2020
Operator, Operator
Good morning and welcome to the First Horizon National Corp. Second Quarter 2020 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Ellen Taylor, Head of Investor Relations. Please go ahead.
Ellen Taylor, Head of Investor Relations
Thanks so much. Good morning, everybody, and thanks very much for joining us. We know it’s the end of what's been a really busy week. On our call today, are CEO, Bryan Jordan; and CFO, BJ Losch, who will provide an overview of our results and then we will be happy to take questions. We're really pleased to have Susan Springfield, our Chief Credit Officer with us to assist in that effort. Our remarks today will reference earnings presentation which is available at ir.fhnc.com. I should note that we will make forward-looking statements that are subject to risks and uncertainties and you should review the factors on Page 2 of our presentation and on our SEC filings that may cause our results to differ from those expectations. Our statements reflect our views today and we aren't obligated to update them. We will also address our adjusted results in our remarks which are non-GAAP measures and you should absolutely review the GAAP information in our supplement and on Page 3 of our presentation. With that, I'm going to hand it over to Bryan.
Bryan Jordan, CEO
Thank you, Ellen. Good morning, everyone. Thank you for joining us all. In this most unusual environment, pandemic-related economic slowdown, we've had a very good quarter and I'm very proud of the work that our team has accomplished. On July 1, we closed our Merger of Equals with IBERIABANK. This merger creates a leading franchise with strong demographics and the ability to drive efficiency and create significant shareholder value. Given the disruption created by the COVID-19 pandemic, our associates across the expanded platform have been working tirelessly to support clients and communities by originating PPP loans, providing loan deferral assistance, waiving fees, all while effectively managing risk. At the same time, they have continued to ensure that execution on the IBERIA integration as well as the branch acquisition remain on track. Our expanded franchise strengthens our geographic reach and depth provides improved ability to better serve our customers and community, provides enhanced growth opportunities and gives us scale to compete more efficiently. This quarter, we delivered solid results with strong PPNR growth driven by strong fee income performance and good expense discipline, as our counter-cyclical businesses helped mitigate environmental headwinds. Our fixed income business delivered strong results and NII remained relatively stable as we grew average loans led by loans to mortgage companies and the PPP portfolio. During the quarter, we built our loan loss reserve by $93 million, raising our allowance to loans coverage ratio to 1.6% or 2% excluding lower risk loans to mortgage companies and the PPP portfolio. We're continuing heightened monitoring and review of the loan portfolios in order to evaluate the impact of COVID-19 on our customer base and ensure that we are prudently managing risks, while helping support customers and the economy overall. BJ will give you details about economic assumptions supporting our reserve level, but I believe that we're taking an appropriately cautious view. In the quarter, we further bolstered our capital with debt and preferred share issuances. As expected, our CET1 ratio increased over 70 basis points linked quarter to 9.3%, which positions us well as we look towards the second half of 2020. While we acknowledge that the macroeconomic backdrop and industry landscape remain very challenging, we believe our combined company remains well positioned to drive enhanced shareholder value over the medium-term. With that, I'll turn it over to BJ to take you through the details.
BJ Losch, CFO
Great. Thanks, Bryan. Good morning, everybody. Happy Friday. As I'm sure you know, but as a reminder, our MOE with IBERIA closed on July 1. Therefore the 2Q results I'll be discussing are for First Horizon standalone. Later I'll give you some highlights of IBERIA standalone results for the quarter, as well as some key legal day one impacts from the merger closing that you should expect to see in our 3Q results. With that, let's start with some highlights of our second quarter adjusted results. As Bryan mentioned, we delivered strong PPNR growth which was up 13% linked quarter and 2% year-over-year. Despite the challenging interest rate environment, macroeconomic backdrop revenue was up 7% in the quarter and 11% year-over-year driven by strong fee income growth with stable net interest income results. We think this quarter in particular really highlights the benefits of our counter-cyclical fixed income and mortgage warehouse lending platforms that are helping mitigate some of the headwinds that we're seeing across the banking industry. We generated nice balance sheet growth and continue to manage our deposit costs down and given the environment we continue to be highly focused on expense discipline. Of course, CECL is the factor driving provision costs higher for the banks overall. And as we updated our models for the further downdraft in the economic outlook compared to March, we built our loan loss reserves by an additional $93 million or $0.23 a share. Moving to Slide 7, you can see that solid loan growth and disciplined deposit pricing helped us generate modest NII growth in the quarter despite a 26 basis point decline in the margin. As a reminder, our asset sensitivity is most highly correlated to one-month LIBOR which was down 105 basis points on average during the quarter putting significant pressure on loan yields. In addition, because of strong customer liquidity, the NIM was pressured further by excess cash balances which created an additional nine basis point drag on the margin. At the same time, we continue to lower our deposit costs overall, which were down 40 basis points in the quarter and the margin benefited from the addition of over $2 billion in PPP loans and the associated fees which helped offset some pressure from lower accretion. As we look forward, while it will be challenging to offset the additional headwinds from the rate environment, we will continue to look for opportunities to bring deposit pricing down further and more efficiently manage the balance sheet while still maintaining a prudent stance on liquidity given the uncertainty in the overall landscape. Looking forward, we could see the NIM compress further possibly in the mid-teens range, primarily due to the addition of the Truist branches. Those branches will provide about $2 billion of additional excess funding which will further improve our liquidity profile, loan, and deposit ratio, and profitability over time, but will temporarily depress the margin while we find ways to put the excess funding to work over the next few months. Briefly on Slide 8, fee income was up 18% linked quarter and 31% year-over-year. The fee income growth was driven by strength in fixed income and deferred compensation, offset by lower deposit card and other bank fees given impacts from COVID. While a more traditional banking fee income lines were challenged in the quarter as others have seen across the industry. Given that some of our markets have begun reopening, we did start to see some improvement at the end of the quarter in debit card and ATM volumes, as well as a pickup in wealth. Fixed income revenue in particular was up 19% linked quarter and 77% year-over-year as we saw strong sales activities and a turnaround in trading results following the challenging conditions that occurred in March. As a result, the team delivered average daily revenue of $1.6 million during the quarter compared with $1.3 million in the first. Given the overall landscape we believe that fixed income business remains very well positioned to capitalize on its extensive distribution platform and experienced salesforce to drive continued solid results. On Slide 9, quickly cover expense trends, as we may remain committed to a highly disciplined approach to managing the cost base. Given the swing in market valuations, we saw an increase in employee compensation costs driven by a $20 million increase in deferred comp related to market changes which is offset by increases in other income. Outside of this, our results benefited from lower stock-based compensation, FAS 91 deferrals, and lower operating costs overall largely tied to the impact of the shutdown. Importantly though we were able to take an additional $3 million of costs out in connection with our IBERIA merger during the quarter as was IBERIA. So overall, we have achieved a total of $10 million in merger savings between the two companies over the first half of this year meeting our expectations we set back in November when we announced the transaction. We continue to be very confident in our ability to generate the merger cost savings of $170 million over the next 18 months. On Slide 10 and 11, we provide a view of our loan growth and funding profile. As I mentioned, we generated healthy average loan growth of 11% linked quarter and 18% year-over-year driven by loans to mortgage companies which were up on average $1.7 billion linked quarter reflecting strong refi volume due to low rates. We also picked up $2 billion in PPP loans as well. And the balance of the C&I portfolio saw declines tied to lower line utilizations from the peak that occurred in early April as commercial customers' position started to improve in the wake of government programs and reopenings resulting in a reduction in the defensive draws that we saw in the end of the first quarter. As Bryan mentioned, customer sentiment remains cautious and we do expect only modest loan growth at best for the second half of 2020. At the same time, we've continued to work to further enhance our funding mix and capital stack; deposits were up 11% linked quarter driven by strength in DDA and savings. In the Regional Bank, we saw customer deposit rates paid decrease to 24 basis points from 59 basis points. Overall, we lowered our interest-bearing deposit cost 52 basis points in the quarter to 38 basis points. And while the mix of our deposit base will be a little different going forward than in the last rate cycle with the addition of IBERIA and the Truist branches, we do think it's helpful to note that in the third quarter of 2015, our interest-bearing deposit costs ended at 15 basis points. We also felt that in the face of continued economic uncertainty, it was important to continue to augment our capital and liquidity stacks. Since April, we've issued $1.25 billion of senior sub debt and preferred securities. We issued $800 million of holdco senior debt, prefunding a $500 million maturity coming due in December, $450 million of bank sub debt, and $150 million of holding company preferred. On Slide 12, you'll see that as expected, we had a nice bounce back in our capital position from unusually low first quarter levels that were driven by outsized period end loan growth primarily from loans to mortgage companies. The CET1 ratio was up over 70 basis points to end the quarter at 9.3%, while total capital increased 170 basis points to 12.5%. Our strong PPNR sub debt and preferred issuances and a reduction in risk-weighted assets drove our capital levels higher and give us ample cushion as we prepare for the future. While there will be many moving parts next quarter obviously as we close both the IBERIA transaction and the Truist branch acquisition sitting here today, we would expect our CET1 ratio to be in the low nines in the third quarter. Additionally, on Slide 13, you can see we ended the quarter with really healthy levels of reserves, allowance for loan losses totaled $538 million or over eight times annualized net charge-offs. We built the reserve by $93 million entirely attributable to anticipated further deterioration in overall macro trends. We think it's important to note that while our models most heavily weighted the Moody's May 27th baseline scenario; we supplemented it with alternative scenarios and did very detailed portfolio reviews of industries currently affected by the pandemic. We also incorporated additional factors such as the re-emergence of COVID cases, additional geographic data, impact of stimulus programs, and overall economic uncertainty. For your reference, we have a detailed table in the Appendix that shows reserve coverage by portfolio. Our coverage again excluding PPP and loans to mortgage companies which have exceptionally low to no loss content and stands at around 2% on a standalone basis. Moving to Slide 14, you can see that overall the asset quality picture still remains relatively benign. While we continue to monitor our loan portfolios carefully, the net charge-off to average loans ratio came in at 20 basis points, with the losses this quarter driven primarily by two credits, one loan in energy and the other in the franchise finance portfolio. We've given some details on deferrals at the bottom of the page and as you can see total deferrals of both commercial and consumer portfolios were $3.8 billion representing low percentages of customer accounts overall. Interestingly, more than 40% of customers that asked and received deferrals have made at least one payment since being on deferral status. We will continue to work proactively with these and all of our customers and monitor the portfolios carefully. Let's shift now to Slide 15 and look at IBERIA results and expected impacts from the closing of our MOE. First we provide IBERIABANK standalone second quarter financial highlights on Slide 15. We plan to file pro forma financials for the combined company later in the quarter, but thought it was important to provide some information to continue to illustrate the power of the new expanded and more diversified franchise. IBERIABANK also delivered solid PPNR which was up 7% linked quarter. Net interest income was relatively stable as loan growth of 7% linked quarter was more than matched by 8% deposit growth helping to mitigate some of the interest rate headwinds. IBERIA generated record fee income up over 30% in the first quarter and over 45% year-over-year fueled by strong momentum in mortgage origination income with a healthy mortgage pipeline at the end of the quarter. Of course, provision expense in the quarter was up significantly as well given the impact of the updated outlook in the macro environment. But now let's move on to cover our expectations for the impact of the merger accounting on Slide 16 and 17. As of July 1, we updated our estimates for the marks on the portfolio based on the current landscape and a detailed review of those portfolios. You can see on Slide 16 that we expect to record a total of $720 million or 3% of loans, including total marks of $560 million for credit and interest rates/liquidity, and $160 million of non-PCD double count. The $720 million of total initial marks will show up as follows: approximately $460 million of it will go into the allowance for loan losses; approximately $260 million, $160 million related to the non-PCD discount and the $100 million of interest in liquidity mark will be an initial reduction of capital but will retreat back through net interest income over time. And at the bottom of the slide, we have laid out for you our current estimate of the timing of that accretion coming back into income and capital. In the table at the top of the page, you can see that we now currently estimate that a little over half or about $12.6 billion of the portfolio will be considered purchase credit deteriorated PCD with the remainder of the portfolio designated as non-PCD. It's important to note that the PCD designation as defined by CECL does not mean that the loans are bad, and it's not intended to be an indication of perceived loss content associated with the portfolio. So the initial marks will reduce our CET capital by about 20 basis points at close. On Page 17, you can see the current estimate of the merger accounting adjustments which will result in a roughly $500 million non-taxable gain that will be recognized through the income statement in our third quarter results with a roughly $2.8 billion addition to tangible common equity. On Page 18, we provide a reminder of the $170 million in expense savings that we're targeting for the combined company in connection with the merger. And as I mentioned earlier, we have achieved around $10 million so far in the first half of the year with $6 million in this quarter alone. We expect to have an exit run rate at the end of 2020 of 25% of our targeted cost savings and we are well on our way to achieving that. Our integration efforts are on track and we are confident in our ability to deliver on the savings and the benefits of the merger with a strong belief that we will be able to exceed our targets. So with that, Bryan, I'll hand it back over to you.
Bryan Jordan, CEO
Thanks, BJ. With our strong balance sheet, business mix, including our counter-cyclical businesses, our strong capital base and liquidity, they will all serve us well in this difficult environment. We have maintained underwriting standards that are very strong and built a diversified portfolio focused on profitability. Despite the economic headwinds, we're uniquely positioned to capture merger opportunities with enhanced scale, better efficiency, and improved earnings power to create shareholder value. We will continue to assist our associates' communities and client's efforts to overcome COVID-19's impact and revitalize the economy. Thank you to all of our associates for your outstanding commitment and efforts in dealing with these unprecedented times. With that, Andrea, we will now take questions.
Operator, Operator
We will now begin the question-and-answer session. And our first question will come from Brady Gailey of KBW. Please go ahead.
Brady Gailey, Analyst
If you look at loan growth, excluding the mortgage warehouse and excluding PPP, I think period-end balances were down a little linked quarter. Maybe just comment on I saw utilization went down. Maybe just comment on 2Qs loan growth kind of ex-warehouse and ex-PPP? And then BJ, I heard you say you expect modest loan growth at best for the back half of the year but maybe just a little more color on how you're thinking about loan growth going forward?
Bryan Jordan, CEO
Hey, Brady, this is Bryan, I'll start and then Susan or BJ can pick up. The loan growth on an absolute basis outside of PPP and mortgage warehouse was down a little bit. Most of that was driven by what you saw in the significant line draws that occurred late in the first quarter in the March timeframe when the economy started shutting down more broadly, those lines paid down. If you look at the loan growth through the second quarter, you could characterize it as BJ did earlier reasonably modest. Most of the new loans were to existing customers and tended to be at levels that would be very low relative to say the last 18 months or two years. So our expectation is that we will have some activity that the line draws have sort of worked their way through the system and will continue to support customers both existing and opportunities to take on customers in the marketplace. But we don't expect a tremendous amount of loan growth throughout the rest of this year at least until we get to the other side of this pandemic.
Susan Springfield, Chief Credit Officer
Only thing I would really add, Brady, is we remain very focused as we always have on full relationships and so continuing to work with our clients and some prospects that we brought in through the PPP program. But we remain, as you can imagine, very prudent in our underwriting, have a higher level of review for new extensions of credit. But we do believe on that there could be some limited opportunities, but as Bryan said would expect loan growth would remain in the lower range certainly compared to the last 18 to 24 months.
BJ Losch, CFO
Yes, I would just add one more thing. Brady, we're definitely open for business. It's not that question. It's just lower activity from clients looking to extend credit because of the pandemic. There's just obvious caution across portfolios, but we'll continue to look for good opportunities to grow customer relationships.
Brady Gailey, Analyst
All right, that's helpful. Then next on your common dividend. I think there's been some investor focus on your dividend post. When we saw the CCAR results but you didn't earn the dividend last quarter, you earned it this quarter, but the payout ratio is pretty high. If you include the $500 million gain next quarter you will earn it by multiples, but how are you thinking about the stability of your dividend going forward?
Bryan Jordan, CEO
Hey, Brady, this is Bryan again. The board considers the dividend every quarter. And we looked at the rules that have at least been publicly made available from the Fed and our modeling and our outlook indicates to us that we will be in a position to continue to recommend our dividend to the board of directors. I would say that as a backdrop, while we are confident in it, we don't know what we don't know about this economy and it's important that the board not only looks at the dividend, but looks at capital and capital adequacy long-term. So that could change but based on our modeling, based on our outlook, based on our understanding of the rules in the Fed framework, we feel very confident that we will be recommending to our board that they consider continuing the dividend at current levels.
Brady Gailey, Analyst
Okay. And then finally a quick one. Yes, BJ it was helpful to have the forecast for the yield accretion for the next few years. But that is just probably the scheduled yield accretion right, that doesn't include any unscheduled, so reality is with some payoffs, you'll probably see numbers a little higher than that. Is that the right way to think about that?
BJ Losch, CFO
Yes, that's correct. Yes, it's going to be based on our assumed timing and you're right. If there's an acceleration then there could be a change much like we've seen in other transactions, Brady.
Operator, Operator
Our next question comes from John Pancari of Evercore. Please go ahead.
Rahul Patil, Analyst
Hi, this is Rahul Patil on behalf of John. I just had a question around the loan mark. So I know in mid-April, you had provided an update around the loan mark. And I believe the total mark around that time was around $500 million to $550 million. And one could argue that the macro has kind of worsened since mid-April through the deal close in July. How come that did influence the credit market? I'm looking at the total mark at $560 million right now? How come that did influence the credit market? And then also, it looks like the rate mark of 40 bps is sort of consistent with the level that you had announced back in November 2019. And I'm just wondering like how did that not influence your rate mark because it looks like that also stayed at 40 bps, so just a couple of clarification questions around that?
BJ Losch, CFO
Sure. It’s been quite a journey trying to gauge marks from November of last year to now. As you mentioned, we provided interim updates throughout that period. In November, our credit marks were around 1.2% and the interest rate mark was about 40 basis points, totaling 1.6%. The interim update you mentioned showed a slightly increased credit mark, but a much higher interest rates and liquidity mark, which I believe carries more significance. When we released that update a few months ago, it was during the peak of the liquidity crisis and market fears before the Federal Reserve’s programs were fully implemented. Therefore, our assumptions for liquidity and interest rate marks were notably higher. Since then, market conditions have improved and the liquidity and interest rate marks have decreased, but our expectations for credit have worsened. Overall, our credit mark is now approximately 40% higher than we anticipated back in November. Interestingly, the interest rate and liquidity marks have remained relatively consistent. As reflected in the table, the distribution between the PCD and non-PCD has also shifted significantly. In summary, we are confident that our teams have conducted thorough evaluations and are establishing strong reserves for our allowance. We have additional capacity for loss absorption, projected to add back approximately $260 million to our income over time. We are very comfortable with our estimates.
Rahul Patil, Analyst
Okay. And then just a question on the First Horizon's standalone expense base. So I believe it was like six months ago, your expectations for First Horizon's expense base was around $280 million, $285 million per quarter. And I'm looking at 2Q numbers on a core basis; it came in around at $318 million. So that $30 million differential obviously partly driven by this stronger fixed income business performance, but how much of that differential in your expense base do you expect to normalize in coming quarters? Or should we kind of expect like that $320 million is like the normal sort of run rate for First Horizon assuming fixed income kind of stays strong?
BJ Losch, CFO
Yes. So how I'll describe it is the increase that you're talking about is all related to two things. One is, as you mentioned, fixed income variable compensation which comes with additional revenue that we gain, so there's a 50% net positive benefit to our pretax income from that additional expense. And this quarter, we had deferred compensation expenses that were up quite materially in the quarter as well. We don't expect those to continue. That will certainly moderate. So we still believe that we'd like to see fixed income remain strong which we think it will. So I would, if I were you take out the deferred compensation impact in this quarter. And then once we start to look at our companies on a combined basis start to layer in the merger-related cost saves and we expect to see meaningful declines over time in our expense base.
Bryan Jordan, CEO
BJ, one more that I would add to that list is the provision for unfunded credits, which was $11 million this quarter, $9 million last quarter vis-a-vis a year-ago was essentially zero.
BJ Losch, CFO
Thank you. Yes.
Bryan Jordan, CEO
Those two are quite significant. They are related to the pandemic in terms of potential credit losses for unfunded commitments, which affects our expense base.
BJ Losch, CFO
Yes, that is a great point. I just want to bottom line reiterate we have done an excellent job of managing our expenses. And so the increases here are all related to either support of additional revenue and pretax income were the two things that Bryan and I discussed and we are continuing to focus very, very strongly on expense discipline.
Operator, Operator
Our next question comes from Jared Shaw of Wells Fargo. Please go ahead.
Jared Shaw, Analyst
Yes, let's start by looking at the margin and the growth in cash, along with the anticipated additional cash growth from the Truist and IBKC deals. How should we view the deployment of that cash, whether into securities or in terms of customer deposit usage? As we progress through the next few quarters, how should we assess the net cash position?
Bryan Jordan, CEO
Yes. So as I said in my earlier comments, we think that initially in the third quarter, the addition of the net $3 billion of funding from Truist is going to depress the margin maybe in the mid-teens range. And over the next few to several months, we're going to figure out ways to deploy that in terms of either securities, loan growth, managing down other higher-cost deposits, etc. So we expect that to be a temporary type depression of the margin. And so said a different way, if the Truist acquisition was not being completed in the quarter, we would think the margin would be relatively stable to just down modestly as opposed to down in the mid-teens because of the addition of the excess cash.
Jared Shaw, Analyst
Okay, great. And then can you talk a little bit about the deferral extension processing as that initial 90-day period hence how are you approaching extension there? And do you expect to be able to get either additional credit enhancements or any type of beneficial term restructuring as those go forward?
Susan Springfield, Chief Credit Officer
Hi, Jared. Regarding the deferrals, we are nearing the completion of the first round of 90-day deferrals that our customers requested, and we are currently evaluating these on a case-by-case basis with our commercial clients, discussing potential sources of cash and support. Often, we are securing additional guarantees or asking guarantor owners to invest more equity while considering different structural elements. We have conducted thorough reviews of our portfolios, as BJ highlighted in his presentation slides, focusing on specific loans across various portfolios. We have addressed over 70% of the higher-risk portfolios and are communicating with our bankers about their clients' feedback. At this moment, we do not expect nearly as many second-round deferral requests as we had in the first round. We anticipate that only a couple of sectors, specifically certain restaurant franchise finance companies and some hotel borrowers, may see second-round deferrals similar to those in the first round. Feedback from the past 30 to 45 days suggests that we aren't seeing a significant increase in requests. We are closely monitoring the evolving COVID situation across different states, but many of our customers are reporting strong liquidity and cash reserves, aided by lower operating expenses and the benefits from government programs like PPP, idle, and CARES grants. We are pleased to support our customers during this challenging time, but currently, the second round of deferrals seems to be a considerably lighter request compared to the first round.
Jared Shaw, Analyst
That's great color. Thanks. And just finally for me, as we look at going forward, if we do see additional macro deterioration based on the Moody's models, should we assume that you all are more willing to use qualitative overlays with the additional credit protection from the MOE or should we expect to see that the macro impact from any future deterioration would be a similar impact?
Susan Springfield, Chief Credit Officer
In the second quarter, we implemented a significant qualitative overlay on various portfolios that could be affected by COVID, building on what we did in the first quarter. For instance, we added this qualitative overlay to portfolios in sectors such as not-for-profit, senior living like nursing homes and assisted living, as well as healthcare. We placed an even greater emphasis on other areas such as restaurants, entertainment, hospitality, retail, and energy. We thoroughly assessed those areas, particularly during the borrowing base redeterminations and hedge strategy evaluations. We believe we have established a solid qualitative overlay in the second quarter, and we will continue this approach as we assess CECL. Currently, we feel well-prepared for the portfolios we manage, and we will keep monitoring this in the upcoming third quarter. Our process is robust, combining the Moody's methodology with our subject matter expertise, along with insights gained from our thorough analyses.
BJ Losch, CFO
And I would add to what Susan said that as we evaluated the loan marks on the IBERIA portfolio, we did the same thing. We used qualitative overlays where we needed to do, particularly around stress sectors as Susan outlined. So we feel like we had fulsome marks and we have very healthy reserves on the First Horizon standalone.
Bryan Jordan, CEO
This is Bryan. It's a challenging time for estimating loan loss reserves, and we are all working to understand how CECL applies in reality. It seems ill-timed and overly burdensome. However, if you look beyond the loan portfolios and consider various components, you can see areas where trouble is on the horizon, which Susan effectively highlighted. There is a significant gap between approximately $17 million in net charge-offs and around $540 million in loan loss reserves. We anticipate that despite the current performance of borrowers, there are numerous directions this economy might take. What if we face more shutdowns or a reversal of prior shutdowns? What happens if Congress and the administration fail to provide another round of essential stimulus? What are the implications if the Fed changes its liquidity programs? At present, the economy is performing better than expected, and borrowers are doing better than anticipated. We attribute much of this to the substantial efforts of the Treasury and the Fed through programs like Main Street Lending, which, while not fully utilized, provides liquidity programs, along with PPP and stimulus payments. Consumers remain relatively strong, and credit card volume has increased since the economy began to reopen. Overall, we maintain a cautious outlook for the remainder of the year. However, upon speaking with individual borrowers and examining specific aspects of the portfolio, conditions are improving more than expected at this time. For example, in the quick-service restaurant sector, businesses have mostly returned to pre-pandemic levels, and in some cases, comparable sales are up 10% to 20%, depending on the specific business. The current situation reflects a variety of narratives, making it a peculiar moment to closely analyze potential loan loss reserves and projected loan losses.
Operator, Operator
Our next question comes from Steven Alexopoulos of JPMorgan. Please go ahead.
Steven Alexopoulos, Analyst
Bryan, does it stay with the reserve conversation this being an odd time based on everything you're looking at now, do you think the majority of the reserve building under CECL is now behind you?
Bryan Jordan, CEO
Well, clearly from an accounting perspective, we take the information we have and we book what we think are life of loan losses. And so if the economy plays out consistent with that set of assumptions, yes I think so. But as I said earlier in talking about the dividend, we don't know what we don't know about how this virus plays out. It's a medically driven crisis. And until we get a solution to that, it's hard to know how it plays through the economy. But I think we have based on all the information we have available to us, booked sufficient reserves to cover losses in the portfolio as it stands today.
Steven Alexopoulos, Analyst
And as we get to the second half and some of these deferrals are transitioning into default. Is it likely you'll then need to establish a specific reserve? Or is the plan to start using these qualitative overlays that you're building into the reserve today?
Bryan Jordan, CEO
Well, I think clearly that we built some of these reserves in the qualitative reserves in anticipation of specific problems. So our intent would be to use those as they evolve, yes.
Steven Alexopoulos, Analyst
Okay, thank you. Now, shifting focus to fixed income, it was encouraging to see ADR surpass the previous range. I'm curious about how ADR performed throughout the quarter and whether you believe it can maintain these levels. Thank you.
Bryan Jordan, CEO
Yes, ADR transitioned or trended positively throughout the quarter, we finished the quarter very strong and I would say a very good start to the third quarter as well. We do think it is sustainable. And some of it is sort of the extension of the comments we made about loan growth to the extent macro loan growth is not good across the industry, there are more opportunities for securities and securities portfolios and financial institutions and the question came up about cash on balance sheet that's happening across the industry. So that's good for the business. The average daily revenue this quarter was impacted a little bit by the reversal of what we call negative splits and the end of the third excuse me end of the first quarter being reversed. Another name would be portfolio gains or trading gains and losses that occurred. But average daily revenue has looked good, the trends look good. And our outlook for the remainder of the year is that our fixed income business will continue to serve as a or the countercyclical buffer that we've always believed it to be.
Operator, Operator
Our next question comes from Brock Vandervliet of UBS. Please go ahead.
Brock Vandervliet, Analyst
Hey, good morning. Nice to see some of the clouds begin to part here. Following on Steve's question; I do worry about in securities because the performance has been so good. It's repeatedly beaten our expectations and wanted to just go back to your comments, Bryan, and I mean is this more of a kind of flat from here sort of set up into the back half which would still be very, very strong or do you think you could actually climb it out from here?
Bryan Jordan, CEO
I think my outlook would be that, that you sort of if you were going to forecast it out, you wouldn't show a lot of growth and you wouldn't show a decline in a whole lot, it would be sort of in the area sort of the average where it's been the last couple of quarters.
BJ Losch, CFO
Yes, so by the way, I don't know why Bryan gets the good question on strong fixed income and I get the tough question on NIM. So I would expect that the core NIM continues to be pressured through the back half of the year. I mean that we've got hopefully loan yields stabilizing a bit. We still have some room as I talked about earlier on deposits and deposit rates paid; we still think that we can bring those down. But the reality is we're going to continue to have a high-class problem of excess liquidity that we're going to have to work through. So that's going to be the depression in the margin. I wouldn't translate that into material declines in overall NII because we've got accretion coming through, even if the margin is compressed by excess liquidity, it goes into excess balances at the Fed and is largely a wash. So it's again continued, it's going to be challenged, but we've got opportunities to mitigate it, both in the net interest income line as well as what Bryan just talked about the counter-cyclical businesses that we've got a fixed income, loans to mortgage companies and as a combined company, the mortgage origination platform that IBERIA has which had a record quarter in the first quarter and then soundly beat that record quarter in the second quarter. So we have multiple levers that we think can offset some of these headwinds. And we'll work hard to mitigate as much as we can.
Operator, Operator
Our next question comes from Ebrahim Poonawala of Bank of America Securities. Please go ahead.
Ebrahim Poonawala, Analyst
Just wanted to follow-up on the NIM, BJ you earlier mentioned that ex Truist you expect the NIM would be relatively stable to just going down modestly. So just wanted to put some numbers around to make sure we get this correct. The com 284, you expect a mid-teens decline, so let's call it about 270. Is that a decent place when we reflect Truist, reflect IBERIA, we reflect PPP for now in terms of where the core NIM should be around that 270. And then maybe it might have some upside as we deploy that liquidity as PPP runs off, or is there more downside to that core NIM relative to a 270 number?
BJ Losch, CFO
Yes, so I had said mid-teens and our core NIM is 280 in the quarter. And when I've been speaking about what I thought the second half of the year looked like, I'm obviously contemplating not just standalone. I'm contemplating the IBERIA merger, the Truist acquisition, and the puts and takes it goes. So yes, I think it's mid-teens primarily from the liquidity, the excess liquidity that we will see from Truist.
Ebrahim Poonawala, Analyst
Sorry, about 265 in actual spending. And then what's your view on PPP running off, do you expect most of this to be forgiven by the end of the year?
BJ Losch, CFO
Yes, we do.
Ebrahim Poonawala, Analyst
Okay, got it. And would you have like what pro forma earning assets or what the quarter end earning assets were for both the balance sheets, just trying to get a sense of what we should expect in terms of the size of their balance sheet looking out into 3Q with all these things added?
Susan Springfield, Chief Credit Officer
So pro forma loans for both First Horizon, IBERIA together if you look at 6/30 without PPP is about $55 billion. And so I know you asked for all earning assets. But I thought I'd go and give you the loans, obviously that's without PPP. We had a combined PPP portfolio of about $4 billion, a little over $4.1 billion. So if you include PPP total loans on a pro forma basis at the end of June are about $59 million.
Bryan Jordan, CEO
Yes, I've got, even I've got earning assets of just roughly $74 billion.
Ebrahim Poonawala, Analyst
That's helpful. And just one separate question I guess for Susan. So you've talked a lot about credit and what you've done and the uncertainty of the macro. At this point like when you looked at the loan portfolio, are you still making decisions based on portfolio-level details as you mentioned the restaurant, finance hotel? Or would you say you have a good handle on granularly looking at these loans customer by customer, I think Bryan alluded to, just to get a sense of is this still a model based exercise, or do you have a good sense around and comfort around customers' ability to withstand if things don't get materially worse which would imply a decent drop off in terms of credit provisioning relative to what we've seen in the first half?
Susan Springfield, Chief Credit Officer
In addition to examining the overall portfolio, we are analyzing data at the individual loan level. Our bankers are continually updating this information based on customer feedback, and we are also gathering extensive market insights regarding various franchises in the franchise finance sector, as well as hotel occupancy rates and average daily rates, all on a customer-specific basis. We will maintain this approach. As we discussed last quarter, we are confident in the disciplined underwriting practices we've implemented since the last financial crisis, which holds true for both Legacy First Horizon and Legacy IBERIA, especially in our commercial real estate sector, including hospitality, where average equity is around 40%. This provides us, and our customers, with a significant safety net during unprecedented events like the COVID pandemic. Some customers experienced full occupancy during the Memorial Day holiday and the period from June through July 4, particularly in the restaurant and hotel portfolios. Our hotel properties primarily consist of smaller, local hotels aimed at family and some business travel, with minimal exposure to large convention hotels. We also noted that average restaurant tabs increased as customers opted for takeout, purchasing more than they typically would in-person, likely considering leftovers. We continue to collect information through market data and direct conversations with customers about their experiences. I'm encouraged by the resilience shown by our clients during the complete shutdown and subsequent reopening, as we've witnessed significant improvements rapidly. We are monitoring recent additional shutdowns closely, but with resilient clients and careful underwriting, we believe we have adequately reserved for potential lifetime losses based on current information.
Bryan Jordan, CEO
I would add to the resiliency. Customers have been very creative in the way they've adapted to an unusual set of circumstances and you see customers adapting their business models to meet changing circumstances. And it really is amazing. And if nothing else, it is a testament, an overall testament to the strength and creativity of the economy in the U.S.
Operator, Operator
Our next question comes from Garrett Holland of Baird. Please go ahead.
Garrett Holland, Analyst
Good morning, thanks for taking the question. Just had a near-term one on expenses. What's a good range for core expenses, as you think about Q3 over the back half of the year?
BJ Losch, CFO
Standalone or combined?
Garrett Holland, Analyst
The combined will be great.
BJ Losch, CFO
Yes, I will defer to our IR team to follow up with you on that because there are many moving parts related to the merger and other one-time items, and it would be better to provide that information in a different format.
Garrett Holland, Analyst
Understand. I guess just bigger picture, I know the deal just closed, but you sound very positive on its potential. And clearly, the environment has changed though since you announced the transaction, just how would you recast earnings power or advise thinking about the return potential for the combined company in this type of environment?
BJ Losch, CFO
Well, I think the way I would characterize it is short-term. I think we and everybody else are focused on safety and soundness right healthy reserves, strong capital levels, strong liquidity, and funding profiles. Beyond that it's controlling what we can control. And what we can control is, particularly in this environment, our support of our countercyclical businesses, our deposit pricing discipline, and huge lever of course for us is taking costs out of our combined organization in a very material way over the next several quarters. So, I think those things will position us very well in terms of our ability to maintain profitability over the next several quarters. Beyond that we’re very convicted and optimistic about the opportunity we have long-term as a combined organization. We've got the cost saves that will come in; we are in very attractive markets. We're continuing to build diversified business mix with countercyclical businesses, our enhanced scale will help. So over the medium and long-term, we still feel like we can generate top-tier profitability over the long-term and we're building a company to position us well to do that.
Bryan Jordan, CEO
Hi Garrett, this is Bryan. It's challenging to interpret the numbers from November compared to now because CECL changes everything. However, as we discussed, both businesses are experiencing strong PPNR, and we are seeing excellent activity within our franchise. We believe there is significant leverage at play. In fact, during the initial weeks following the merger, we have seen referrals for our asset-based lending business. Although we haven't accounted for any synergies yet, we expect these to positively impact revenue. I am confident that we can achieve our commitments of over $170 million, with the potential to increase that amount over time. This is crucial in the current environment, as we could not address these costs individually without merging the two organizations in a no premium Merger of Equals. We have the potential to create over $170 million in pretax run rate savings annually, which can be realized. This is significant and will be a major driver in the next 18 months. As BJ mentioned, in the long run, we will be well-positioned with the markets we serve, our capable bankers, our customer base, and our strong balance sheet, providing us with excellent growth opportunities. In the short term, we have various strategies to implement through our counter-cyclical businesses and cost savings that will significantly enhance shareholder value.
Operator, Operator
Our next question comes from Jennifer Demba of SunTrust. Please go ahead.
Bryan Jordan, CEO
Hi, Jennifer.
Susan Springfield, Chief Credit Officer
Good morning, Jennifer.
Jennifer Demba, Analyst
Good morning. Just talk about your criticized loan trend from sequentially and where you're seeing the most increase. And then can you also talk about what you're expecting in terms of near-term net charge-off levels over the next six months. I know that they stayed quite low in the second quarter. Thank you.
Susan Springfield, Chief Credit Officer
Jennifer, regarding criticized loans, I will first discuss First Horizon standalone and then I'll provide some insights on a combined basis as well.
Ellen Taylor, Head of Investor Relations
Operator, could you mute that please.
Susan Springfield, Chief Credit Officer
We saw an increase of about $100 million in criticized loans from the previous quarter, with IBERIA contributing just under $200 million. Overall, there was a total addition of approximately $290 million in criticized loans, with around $190 million being related to energy across both portfolios. Both companies adopted a cautious stance while reviewing their energy portfolios and took necessary steps to grade those loans appropriately. On a percentage basis, First Horizon's criticized loans rose from about 2.8% to 3.5% of the portfolio, not including PPP loans in that calculation. When looking at the combined portfolios, criticized loans were about 3.2% of the total at the end of the quarter, up from roughly 2.4% at the end of the first quarter. While we did observe an uptick in criticized loans, I do not have a specific forecast for net charge-offs. Given the increase in criticized loans and the current economic climate, I anticipate net charge-offs in the third and fourth quarters, although I cannot provide a precise forecast due to existing uncertainty. However, as previously stated, due to the CECL framework, we believe we are adequately reserved for lifetime losses in the portfolio based on our current knowledge and the comprehensive assessments we've conducted, particularly regarding the higher-risk segments.
Bryan Jordan, CEO
Yes. And I would say just to add; Susan talked about that the majority of the increase being energy and energy being one of the near-term portfolios that we would obviously be most focused on. Our coverage of the combined energy portfolio will be around 8%. So we significantly increased the reserves on those portfolios through both the marks and on the standalone side. So, that's one of the places that we leaned in along with the other sectors that Susan talked about earlier.
Operator, Operator
Our next question will come from Casey Haire of Jefferies. Please go ahead.
Casey Haire, Analyst
Yes, thanks. Good morning guys. So you guys give us an update on the fixed income business but the mortgage warehouse unless I missed it, what's the outlook there? It seems like it could have legs given where mortgage rates are going and any color on the split between refi and purchase as well as where deals are today?
Susan Springfield, Chief Credit Officer
So mortgage warehouse refi purchase is about 65% refi in the second quarter, which is kind of what you would expect with rates, we keep thinking they've hit their low point and they go down again. So there's been good activity there. Yields in the second quarter were about 3.61% for that mortgage warehouse portfolio. So as we have over the last three years added customers to the customer count in mortgage warehouse. But I'll let BJ talk maybe about the outlook for mortgage warehouse.
BJ Losch, CFO
Yes, Casey, if you recall in the first quarter, we saw a significant increase in the last five weeks, with period-end balances peaking at around $5.8 billion. These balances remained quite high due to strong activity throughout the quarter, with average balances for loans to mortgage companies increasing notably from first to second. The period-end balances decreased to over $4 billion. The business fluctuates with the flow of mortgage originations and the mix of purchases and refinances. As we move into the third quarter, we anticipate continued strength in the business and expect to see growth from the period-end balances of $4 billion, likely aligning with the average balances we observed in the second quarter.
Garrett Holland, Analyst
Thank you. Bryan, I have a broad question for you. When you announced this deal in early November, the situation was quite different. It seems like things are progressing well from both a capital and cost-saving perspective. However, are there any strategic considerations regarding First Horizon or the IBERIA loan vertical, or changes in portfolio strategy that you are contemplating due to the significant shifts in the environment since November?
Bryan Jordan, CEO
There are no significant changes. We're still very confident about the benefits of the transaction, and I'm extremely pleased with how the team has collaborated. The progress has been impressive, and even though we had the initial four months to come together in person since March, we have been connecting through WebEx, Zoom, and other virtual platforms. The team has united and is performing very well. Additionally, we're identifying opportunities to leverage our portfolios and businesses across both organizations. As I mentioned, ABL, along with the mortgage and title businesses that IBERIABANK provides, presents great potential. We'll make some adjustments, as we notice that energy commitments dipped slightly this quarter, comprising about 4% of the portfolio on a combined basis. We're prepared to scale back our sales as the economy adapts to the pandemic and the post-pandemic environment. Overall, we remain confident in the opportunities that lie in merging these two organizations. I'm pleased that we've moved past the initial stages and are engaged in the hard work ahead. This is an exciting time, and I believe we'll create significant shareholder value through the combination of these two companies over the next 18 months.
Operator, Operator
Our next question comes from Christopher Marinac of Janney Montgomery Scott. Please go ahead.
Christopher Marinac, Analyst
Good morning. How are you? I wanted to ask about the branch acquisition. Bryan, do you view it any differently now compared to last fall, considering our current situation and the high liquidity that BJ mentioned earlier?
Bryan Jordan, CEO
Well, I think you raised an accounting and an economic point; excess deposits today are sort of different in a zero-rate environment. But from a strategic standpoint, I think it is a home run transaction for us and we're very, very pleased with that transaction. As BJ mentioned earlier that conversion and acquisition is going on this weekend. So those customers and those branches will be converted over the weekend. And what it will do is overnight we'll do 30 years of branch building in the Carolinas in terms of average branches would call it $80 million in deposits and give us meaningful share in the middle part of North Carolina. And back to what we said in 2017, when we merged with Capital Bank, it was we wanted to have a meaningful presence in the Carolinas and to pick up a top five presence in the triangle, excuse me in the Triad area, Greensboro, Winston-Salem, High Point, and to pick up meaningful share in Durham and Chapel Hill, the Triangle area in North Carolina is significant. And so from a strategic standpoint, if we started building these 30 branches, we couldn't create branches of this quality in 20, 25 years. This is just a quality franchise and we were lucky to partner with SunTrust, BB&T now Truist to acquire these branches. So we're proud of what we're building in Virginia, Carolinas, and Georgia with this transaction.
Christopher Marinac, Analyst
Okay, great thanks for that. And I guess when you have the systems fully converted; you can do more with those branches too. Right, so we could start thinking about it in that context.
Bryan Jordan, CEO
Yes, absolutely. But the systems will be converted Sunday morning. So everything will be done this weekend. So we'll hit the ground running. People have worked really, really hard over the last few months and it's one of the reasons we deferred, we wanted to be in a position to do adequate customer communication, adequate training, we've got ambassadors in all of these banking centers from the First Horizon perspective, who will be helping with systems and technology and things like that over the next couple of weeks. But we're going to hit the ground running and these branches, financial centers, banking centers will be part of the First Horizon franchise this weekend and we'll hit the ground running Monday morning.
Susan Springfield, Chief Credit Officer
It really does help. I mean obviously having additional banking centers improves our ability not only to reach additional consumers but small businesses and middle market companies still like to see a branch presence and so it enhances the work that our bankers have already done in calling on and bringing in business from all the areas where we'll have expanded presence in a few situations presence that we didn't have before. So we look forward to that in addition to serving consumers, but also the business side.
Operator, Operator
This concludes our question-and-answer session. I would like to turn the conference back over to Bryan Jordan for any closing remarks.
Bryan Jordan, CEO
Thank you, Andrea. I appreciate all the hard work that our associates are doing. And as I mentioned, the branch conversion, but there's an awful lot of merger plan and integration, and most importantly taking care of our clients and our community. So thank you for your hard work. Thanks, everybody for joining us on the call this morning. We appreciate your interest in our company. We're very well positioned and we're going to create a tremendous amount of shareholder value with the consummation of the branch transaction and our Merger of Equals. If you need additional information or have any further questions, please feel free to reach out to any of us. Ellen Taylor, Aarti Bowman, and let us know. We'll be happy to help you. I hope you all have a great and wonderful safe weekend. Thank you.
Operator, Operator
The conference is now concluded. Thank you for attending today's presentation and you may now disconnect.