Good day and welcome to the First Merchants Corporation Fourth Quarter 2018 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] We will be using user controlled slides for our webcast today. Slides may be viewed by following the URL instructions noted in the First Merchants new release dated Thursday, January 31, 2019 or by visiting the First Merchants Corporation Shareholder Relations website and clicking on the webcast URL hyperlink. This presentation contains forward-looking statements made pursuant to the Safe Harbor Provisions of the Private Securities Litigation Reform Act. Such forward-looking statements can often be identified by the use of words like belief, expect, or may and include statements relating to First Merchants goals, business plan, growth strategies, loan and investment portfolio, asset quality, risks and future costs and benefits. These statements are subject to significant uncertainties that may cause results to differ materially from those set forth in such statements, including changes in economic and business conditions, the ability of First Merchant to integration recent acquisitions and attract new customers, changes in laws, regulations and requirements of the Company’s regulators, the cost and other effects of legal and administrative cases, changes in the credit worthiness of customers and the impairment of collectability of loans, fluctuations in market rates of interest and other risks and factors identified in First Merchants fillings with the Securities and Exchange Commission. First Merchants undertakes no obligation to update any forward-looking statement whether written or oral, relating to the matters discussed in this presentation or press release. In addition, the company’s past results of operations do not necessarily indicate its anticipated future results. Please note this event is being recorded. I would now like to turn the conference over to Mr. Michael Rechin, President and Chief Executive Officer. Please go ahead.

Thank you, Andrew. Welcome everyone to our earnings conference call and webcast for the fourth quarter ending December 31, 2018. Joining me today for our call are Mark Hardwick, our Chief Operating Officer and Chief Financial Officer; and John Martin, our Chief Credit Officer. We released our results in a press release this morning at approximately 8:00 o'clock AM Eastern Time and our presentation speaks the material from that release. The directions that point to the webcast were also contained at the back end of the release and my comments will begin on page four a slide titled Full Year 2018 Performance. First Merchants earned a record net income of $159.1 million, a 65.6% increase over 2017's total of just over $96 million. Earnings per share totaled $3.22, a 51.9% increase over 2019's earnings per share of $2.12. Our total assets grew to $9.9 billion organically, 5.5% over 2017's total. Some of our performance measures are on the next bullet point line, a return on average assets of 1.64% spearheaded by a strong fourth quarter; 11.84% return on equity. A 50.21% efficiency ratio partially drove those earnings levels. Really nice balanced growth organically both in loans a 7% growth rate for the year $471 million in total; 8.1% for the full year in organic deposit growth, $582 million for the year. Lastly on this page, our tangible book value increased to $19.12 a share, 12.7% over year-end 2017 and then looking at some of our prior discussions with this group and associated with prior acquisitions, the growth in the tangible book value is either consistent with or ahead of levels forecasted at the timing of prior acquisitions relative to earn-back performance. Moving to page five, a subset of 2018 overall is the fourth quarter which is fresh information for today…

Thanks Mike. My comments will begin on slide seven. Total assets on Line seven as Mike mentioned increased $518 million or 5.5% since year-end 2017. Organic growth in total loans in line two increased $471 million or 7% since year-end 2017, and our bond portfolio on line one also increased 4.6% or $72 million during the year, really improving our liquidity position. The composition of our $7.2 billion loan portfolio on slide eight continues to produce very strong loan yields. The loan portfolio yield for the fourth quarter of 2018 totaled 5.41%, up from the first quarter of 2018 total of 4.86%, the second quarter 2018 total of 5.12%, and the third quarter total of 5.25%. The prime rate has increased by 150 basis points over the past seven quarters and our loan yields were normalized, where fair value accretion have improved by 89 basis points for a beta of approximately 60%. As the graph on the right illustrates 68% of our loans are variable with half repricing daily, demonstrating the asset sensitivity of our bank. On slide nine, our $1.6 billion bond portfolio continues to be high performing. Our portfolio yield of 3.54% is marginally higher than the previous three quarters of the year, while the unrealized loss is now just $8 million. Now on slide 10, non-maturity deposits on line one represent 83.5% of total customer deposits and those non-maturity deposits for 2018 grew by $527 million, or 9.2%. Customer time deposits on line two represent the remaining 16.5% of total customer deposits and increased by $190 million since 2017 or 18.1%. Now, as I mentioned our liquidity is quite a bit stronger and you can see on lines three and four where we had declines in broker deposits of $135 million and declines in borrowings of $163…

All right. Thanks Mark and good afternoon. I'm going to begin on Slide 20 -- 21 provide a year-end and quarterly update on the loan portfolio then review asset quality and the asset quality roll forward, cover the allowance and provisioning then close with a few remarks in the portfolio. So turning to Slide 21. The pace of loan growth picked back up in the quarter growing $138 million or 7.8% annually. The growth came from commercial and industrial loans combined with commercial owner-occupied real estate on Lines one and four which grew by $71 million and $25 million respectively. Strong C&I activity was spilled over from the third quarter along with robust quarterly closings resulted in the combined $96 million of C&I-related loan growth. Construction loans were down $123 million on Line two as they moved into the portfolio on Line three, resulting in CRE non-owner-occupied or investment real estate, increasing $104 million. From rounding out the slide, public finance and other commercial loans on Line seven increased by $39 million, while consumer mortgage -- consumer and mortgage added an additional $15 million on Line two. All combined, this led to loan growth of 1.9% for the quarter and 7% for the full year. Let's turn to Slide 22. Asset quality remains solid for the quarter. On Line one, non-accrual loans were up $5.7 million. And to provide a little color here, behind the increase, there was a local skilled nursing home developer in the Central Indiana region and they had a national presence experienced some problems that resulted in our having to move roughly $8 million project to non-accrual. In contrast though moving down the slide to other real estate owned or ORE it declined $6.7 million in the quarter with $6.3 million coming from the sale of…

Thank you, John. I'm going to move to page 27. Slide 27 gives us a refresher look at some pro forma information that we compiled and shared at the announcement of the Monroe Bank & Trust opportunity and the associated map that shows a retail configuration. So, you wind up with the company post-closing and our work is proceeding as planned with the targeted late first quarter closing for what would be on a combined basis an $11.1 billion balance sheet $7.8 billion [ph] in loans, $8.7 billion in deposits. Next page a little bit more on Monroe, page 28. Kind of gets to the strategic fit of the company in a vibrant marketplace with dominant hometown deposit market share and overall and exceedingly attractive low cost deposit base with a just under 70% loan-to-deposit rate which is a great fit for our company and allows that portion of what will be First Merchants to exercise their commercial activity with the funding that they bring to the company. Overall, really just a nice profile for us. We like the strategic fit. We like the cultural fit with the senior management of that company that'll look to begin their careers as part of First Merchants and as we prepare for the integration work as it's just ahead of us. As I might've mentioned earlier, we look forward to a close here before the end of the first quarter. Moving on to slide 29 and looking forward. Kind of our game plan remains similar to that in the past. That's a straightforward grow market share in markets that you're comfortable with in our core banking business. The second line talks about optimizing our retail and commercial deposit strategies. I'm particularly proud of the management of our funding costs through a commitment on…

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Kevin Reevey of D.A. Davidson. Please go ahead.

Good afternoon.

Good afternoon to you Kevin.

So congratulations on a great quarter and on your anniversary.

Appreciate the feedback.

First question relates to the margin. If you could walk us through how you're thinking about the margin in 2019 MBT they bring a lower cost of funding to the mix. They have a lower loan-to-deposit ratio at the same time in 2019. It looks – are you going to pick up some PAA from them and then there is some PAA rolling-off from your prior deals. So how should we think about the NIM in 2019?

Well, I think maybe a little discussion about the fourth quarter is important before we go into the remainder of the year. We had about $97 million of excess public money on average for the quarter and those dollars are typically our higher-priced deposits. And because it's all related to tax receipts, property tax income in the State of Indiana increases the county deposits pretty aggressively. So it muted our net interest margin for the quarter by about 3.5 basis points, so a little stronger net interest margin at the core level than what we reported. So I feel like we've continued to see marginal increases as rates have gone up. At this point, we're kind of anticipating no further increases for the remainder of 2019, which puts us in a little bit more of a defensive mode than where we have been over the last couple of years. So if rates stabilize, we'll continue to see some pressure on the depository side of the balance sheet as we have some lag effect of deposit rates and we should be able to continue to see some nice continued reinvestment rates that are strong in a bond portfolio. But our forecast for the year is generally a flat net interest margin year-over-year and one that I think we're going to have to work diligently to make happen.

And Mike is it flat on a GAAP basis as well as on a core basis?

Yeah. I mean, I think we're expecting about $11 million of fair value absent Monroe and that's modestly down from what we had this year, but as we build in Monroe we think that we're going to end up with some additional fair value accretion and a really strong net interest income to bring into the – into our company. Where deposit costs are really low we have the ability to re-price their loan investment portfolio and so we think net-net it's – that we should be able to maintain our current levels.

And then moving along to the loan portfolio how should we think about loan growth organically in 2019 and kind of the area that you anticipate will drive that growth?

Kevin this is Mike. John might have an ad-on thought to mine. I'm looking at some of the material that our Chief Banking Officer provides on pipeline and I referenced in my earlier remarks that we kind of had three quarters out of four that really were at the high end of what we think of as annualized ranges. We've used the term mid-single digit -- mid-to-high single digit levels. We wound up at 7% for the year. We are kind of forecasting the same. Now at some point we're going to -- through the majority of the year have Monroe as part of the company and I know that they're going to bring their own momentum into ours, but I still feel like the pipeline suggests that that 7% to 8% range looks very achievable and so as we sit here today finishing out November, December for 2018 staring here early into the first parts of first quarter of 2019 feel good about the ability not only to provide that on the loan side, but to fund it with core deposits as well.

Great, thank you very much

You are welcome. Thank you, Kevin.

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

Hey guys, good afternoon.

Good afternoon, Nate.

Just wanted to touch on capital, I know you guys want to keep some excess capital on board for some cash components of potential acquisitions down the road but kind of just given where capital levels accreted to over the course of 2018 it seems like you guys will still have plenty so just any updated thoughts or perhaps a buyback or any updated thoughts on kind of where the payout ratio could go just given kind of the profitability outlook of the company?

This is Mark again. I think our dividend expectations should be -- the increase should be in line with what we've done historically. And then obviously our balance sheet we're continuing to have kind of mid to single digit -- mid-to-high single-digit growth rate which requires about one-third of our earnings. So it really comes down to cash and acquisitions and whether or not we do anything with buybacks. The acquisition that we have in front of us there're a couple of P/E firms that are part of this acquisition and we're continuing to have dialogues to see how much -- how long they intend to stay in the stock and we're also having some discussions at the board level about the logic of buybacks so no decisions at this point but something that we'll continue to keep the market apprised to as we move forward.

Got it. That's helpful. And then maybe just turn to credit. John I'd just be interested to hear some additional color on the non accrual loan that you guys had in Indiana that was tied to -- I think you said it was a skilled labor facility or something like that so just any additional color on kind of what happened there? if it was more of kind of just an operational issue or if you're seeing anything within that space specifically that's causing some credit issues there I suppose?

Yes. That comment I was probably talking pretty fast was actually skilled nursing and I think the issues that we felt was particular operator. We're specific to that operator. While the space itself continues to perform and it has its own dynamics what we saw in this particular borrower was specific to it.

Okay got it. And then I'd just be curious to get an update on kind of where your guy’s private equity sponsor finance portfolio stands in terms of both leverage loans and just that portfolio specifically?

Yes. Just a second here. So the leverage loan portfolio sits at -- quantitatively sits at about $310 million while the sponsor finance business is like $250 million plus or minus.

Got you. And John well I got you just any kind of internal thoughts on what you're seeing within those two portfolios?

You know what, for the most part they performed -- well they performed very well. I know and been reading a lot of the media and a lot of the -- some of the larger banks and the issues that they've been having. We really haven't seen that through the portfolio thus far. So we're normally at the lower end of the leverage spectrum, so it's not like, we're leveraging at 6 times or to the hilt, we're generally playing a little bit more conservatives as we grow the book.

Understood, I appreciate the color guys. And congrats on a impressive 2018.

Thank you very much.

The next question comes from Damon DelMonte of KBW. Please go ahead.

Hey good afternoon guys. How is it going today?

Good. Thank you, Damon.

So the first question just wanted to talk a little bit about expenses. First on this quarter it looked like the other noninterest expense item -- line item was up almost $1.5 million from last quarter. Mark was there anything there that's kind of onetime or we should be excluding going forward?

We had a few items that this year that -- in the fourth quarter that were extraordinary. Incentive compensation for the year was about $600,000 higher than what would be a normal run rate based on our performance about $300,000 of that was expensed in the fourth quarter. We had a little over $180,000 of expense that showed up -- that shows up in other related to a name change. If you recall we bought Lafayette Bank & Trust all the way back in 2001 and we continued to run that as -- that market as a DBA and we made those changes in the fourth quarter, wrote-off some of the signage expense and all the expenses to change the name in that marketplace, so that was a onetime event. And then we had about $250,000 of M&A-related cost that are primarily a number of different things, but legal, it would probably lead the way of that $250,000 travel etcetera. There are a lot of expenses related to the merger that we had in the fourth quarter that totaled $250,000, so about $0.75 million of onetime items in the fourth quarter of 2018. We're anticipating that we return back to more normalized levels in 2019 and absent Monroe, we kind of were at about $225 million plan level for all of 2019.

Okay. Great. That's helpful. Thank you. And then with regards to the loan growth opportunity that you're seeing in 2019, can you talk a little bit about the construction portfolio. Just wondering what the demand and appetite is for that type of borrower? Wondering if it still remains strong or are you seeing a bit of a pullback?

Yes, this is John. We are seeing a little bit of a pullback. I didn't include it on this earnings slide, but from last quarter I showed $1.2 million in commitments. We're down about another $115 million in the fourth quarter. So it is seeing a little bit of a pullback.

Okay. And then is that indicative of a slowing trend in the economy you think or maybe just something to do with tariffs or any idea what's around?

Yes. So given where we are with the construction portfolio, we've taken what I'd consider a more conservative or discontinued approach for the next incremental opportunity. So it's us as much as it is anything.

Got it. Okay. That's great. And then I guess the last question Mark on the tax rate, you still good at around 16.5% on a normalized basis?

It's probably on the go-forward basis more like 17% and some of that is related to the state income tax expense on a go-forward basis. We have a number of strategies that we've deployed and we've kind of outgrown some of our tax strategies relative to the state income tax.

Got it. Okay. That's all I had. Thanks a lot. And congrats on a nice quarter.

Thanks, Damon.

Thank you.

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

Thanks, Andrew. Very brief appreciation for all the folks that listened in to track the progress of First Merchants to include those that provided the questions. We move into 2019, excited about our core business, excited about the teammates, the clients and the momentum that we feel is going to come out of Monroe Bank & Trust. Culturally, the leadership of that company have spent hours and hours outside of what I would call integration work, matching cadence with our company. And it feels very good to us at this point. So we look forward to their contribution knowing that some of the heavy lifting is yet in front of us. But with our experience in having companies join us look optimistically about what the economy has for us throughout the Midwest to include that new market. Look forward to talking to you in a couple of months when our first quarter is completed. Thank you.

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