Good morning, and welcome to the Mercantile Bank Corporation third quarter 2022 conference call. All participants will be in a listen-only mode today. Should you need any assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there'll be an opportunity to ask questions. To ask a question, you may press star, then one on your telephone keypad. To withdraw a question, please press star, then two. Please note that this event is being recorded. I would now like to turn the conference over to Julia Ward, Lambert Investor Relations. Please go ahead.
Good morning, everyone, and thank you for joining Mercantile Bank Corporation's conference call and webcast to discuss the company's financial results for the third quarter of 2022. Joining me today are members of Mercantile's management team, including Bob Kaminski, President and Chief Executive Officer, Chuck Christmas, Executive Vice President and Chief Financial Officer, and Ray Reitsma, Chief Operating Officer and President of the bank. We will begin the call with management's prepared remarks and presentation to review the quarter's results, then open the call to questions. Before turning the call over to management, it is my responsibility to inform you that this call may involve certain forward-looking statements, such as projections of revenue, earnings, and capital structure, as well as statements on the plans and objectives of the company's business.
The company's actual results could differ materially from any forward-looking statements made today due to factors described in the company's latest Securities and Exchange Commission filings. The company assumes no obligation to update any forward-looking statements made during the call. If anyone does not already have a copy of the third quarter 2022 press release and presentation deck issued by Mercantile today, you can access it at the company's website, www.mercbank.com. At this time, I would like to turn the call over to Mercantile's President and Chief Executive Officer, Bob Kaminski.
Thank you, Julia, and thanks to all of you for joining us on the conference call today. Today, our company released its September 30 financial results, and we are pleased to report another very successful quarter with noteworthy results in several important performance metrics and strategic initiatives. Strong profitability driven by an increase in net interest margin, trending to more normal levels from the lows of the past few years. Continued growth in many of our fee income categories. Continuation of steady loan growth in both commercial and the retail portfolios with consistent strength in our loan pipelines. Strong asset quality and diligent expense control. For the third quarter, Mercantile posted earnings of $1.01 per share on revenues of $49.6 million.
Earnings per share for the first nine months of 2022 are $2.48. This morning, we also announced a cash dividend of $0.32 per share payable on December 14th. Ray and Chuck will provide the details on the various aspects of our performance for the quarter in their comments coming up shortly. We have discussed during our communications over the past many quarters, the Mercantile team prides itself in a nimbleness which allows us to skillfully adapt very quickly to various external forces and conditions. We demonstrated throughout the pandemic, Mercantile management and employees were able to assess the conditions and then pivot to seamlessly transition to serve the needs of our clients and appropriately manage risk to ensure strong performance of our company for our stakeholders.
Now, during the current environment, we and our clients, and business partners are diligently working to continue positioning ourselves for optimal performance and results should economic strains emerge as a result of the actions taken by the Fed to slow the high rate of inflation. Currently, however, the most common experience remains supply chain delays and disruptions, in addition to mismatches in employment, supply, and demand. As of August 31st, Michigan's unemployment rate fell 0.1% to 4.1%. Over the past 12 months, Michigan has added 135,000 payroll jobs, and the unemployment rate fell by 1.9 percentage points from 6%. The largest employment gains have come from professional business services, manufacturing, leisure and hospitality, and education and health services.
Throughout 2022, the Mercantile strategic planning team has continued its focus on near-term tactics as we maneuver through this dynamic economic environment as well as our long-term vision and accompanying strategies for the future. We aim to enhance our sustainability as a high-quality, growth-oriented organization that can effectively craft and efficiently deliver best-in-class financial products and services to its clients. Our highly talented staff continually builds and develops relationships with clients and prospective clients with the resources and tools that our company provides. Data and analytics help our team assess client needs, who then craft and assist in the delivery of products and services at the customer's convenience. Identification of Mercantile caliber talent existing in new markets continues to be a strategy, a strategic priority for our management team as we look to grow the company through the creation of new opportunities.
This people-first approach is an important aspect of how we grow our company organically as we seek to enhance our penetration in our mature markets, as well as gain a stronger footholds in our newer markets. Finally, I'd like to thank the Mercantile team for their stellar efforts once again in the third quarter. Our company's performance has been strong in 2022, and we look forward to finishing the year with a solid fourth quarter, which will position us well for a successful 2023 and beyond as we continue to build and enhance shareholder value. Those are my prepared remarks. I'll now turn the call over to Ray.
Thank you, Bob. My comments will center around dynamics in the commercial and residential mortgage loan portfolios and non-interest income. We reported annualized core commercial loan growth of nearly 10% for the third quarter and 11% for the first nine months of 2022. This growth has been possible due to the efforts of our commercial lending team and their focus on relationship building and the community bank value proposition, and was achieved despite payoffs related to asset sales or planned refinancing activities of $158 million year- to- date. Our commercial backlog remains consistent with prior period as we continue to fund this impressive level of growth. The pipeline for construction commitments that we expect to fund over the next 12-18 months totals $169 million.
Presently, line of credit utilization is 36% compared to 33% a year ago. However, bank commitments in aggregate have increased $459 million over the past year. The portfolio is also well-positioned for the rising rate environment, as 64% of the portfolio is comprised of floating rate loans, up from 50% at March 31, 2021, accomplished largely through our swap program. Asset quality is pristine, with non-performing assets of 2.8 basis points of total assets and nominal amounts of past due loans. There were no additions to non-accrual loans and non-performing assets during the quarter. While we are proud of our strong asset quality metrics, we remain vigilant in our monitoring efforts to identify any sign of deterioration in our loan portfolio. Our lenders are the first line of defense to recognize emerging areas of risk.
Our risk rating process is robust, with an emphasis on current borrower cash flow in our rating model, providing sensitivity to any challenges evolving within a borrower's finances. All that said, our customers continue to report strong results to date and have not begun to experience impacts of a potential recessionary environment. We continue to closely monitor concentration limits within our portfolio. The mortgage business has slowed due to the rising rate environment and lack of available housing inventory in the markets we serve. Higher rates have led to more demand for adjustable- rate mortgages, and the lack of inventory has led to more construction lending activity. We hold each of these types of loans on our balance sheet, and as a result, residential mortgages have increased 63% over the prior year.
Compared to a gain on sale event and immediate recognition of income, a portfolio loan takes about 24 months to generate an equal amount of income. We continue to pursue share in the purchase market, with originations in the third quarter decreasing just 2% compared to the third quarter last year, despite the increase in mortgage rates since that time. Availability under residential construction loans has increased to $84 million this quarter compared to $54 million one year ago. Refinance activity is just 20% of last year's comparable quarter. Non-interest income for the third quarter is down 53% compared to the third quarter of 2021.
The primary contributor to the overall reduction was the previously described decrease in mortgage banking income of 73% and a reduction in swap income of 86%, which more than offset the 19% increase in service charges on accounts, a 29% increase in payroll services income, and a 7% increase in credit and debit card income. The optimization of our branch network is an ongoing endeavor that has yielded seven-figure annualized savings. Utilizing tools such as appointment banking, limited service branches, live ATM machines, and branch consolidations, complemented by investments in our remaining facilities, resulted in, in nominal deposit attrition of less than 1% in the impacted markets. That concludes my comments. I will now turn the call over to Chuck.
Thanks, Ray, and good morning to everybody. As noted on slide 10, this morning we announced net income of $16.0 million or $1.01 per diluted share for the third quarter of 2022, compared with net income of $15.1 million or $0.95 per diluted share for the respective prior year period. Net income during the first nine months of 2022 totaled $39.3 million or $2.48 per diluted share, compared to $47.4 million or $2.95 per diluted share during the first nine months of 2021.
Higher net interest income stemming from an improving net interest margin and ongoing strong loan growth, combined with continued strength in asset quality metrics and increases in several key fee income revenue streams. In large part mitigated a significant decline in mortgage banking revenue as industry-wide originations come off the record levels of 2020 and 2021, which were driven by low mortgage loan rates and resulting refinance activity. Our earnings performance in the 2021 period also benefited from lower loan loss provisions, reflecting improved economic expectations. Turning to slide 11. Interest income on loans increased during the 2022 period compared to the prior year period, reflecting an increase in interest rate environment and growth in core commercial and residential mortgage loans.
Our third quarter loan yield was 59 basis points higher than the second quarter and 49 basis points higher than the third quarter of 2021. The yield on loans during the first nine months of 2022 was relatively similar to that of the respective 2021 period, as the increase in interest rate environment impact didn't start in earnest until the second quarter of 2022, and the 2021 period was significantly impacted by PPP net loan fee accretion. Interest income on securities also increased during the 2022 period compared to the prior year period, reflecting growth in the securities portfolio to deploy a portion of the excess liquid funds position and the higher interest rate environment.
Interest income on other earning assets, a vast majority of which is comprised of funds on deposit with the Federal Reserve Bank of Chicago, increased as well during the 2022 period compared to the prior year period, generally reflecting the higher interest rate environment. In total, interest income was $12.2 million and $17.1 million higher during the third quarter and first nine months of 2022 when compared to the respective time period in 2021. We recorded a relatively small $0.1 million increase in interest expense on deposits during the third quarter of 2022 compared to the third quarter of 2021, in large part reflecting the recent increase in interest rate environment.
In comparing the first nine months of 2022 to the respective time period in 2021, we recorded a $1.3 million decline in interest expense on deposits as lower deposit rates more than offset increased interest-bearing deposit balances. Interest expense on other borrowed money increased during the 2022 period compared to the prior year period, in large part reflecting interest costs associated with $90 million in subordinated notes issued between December 2021 and January 2022. In total, interest expense was $1.0 million and $1.1 million higher during the third quarter and first nine months of 2022 when compared to the respective time period in 2021.
Net interest income increased $11.3 million and $16.1 million during the third quarter and first nine months of 2022, respectively, compared to the respective time period in 2021. We recorded a credit loss provision expense of $2.9 million and $3.5 million during the third quarter and first nine months of 2022, respectively, compared to a provision expense of $1.9 million during the third quarter of 2021 and a negative provision expense of $0.9 million during the first nine months of 2021.
The provision expense recorded during the 2022 period mainly reflected allocations necessitated by net commercial and residential mortgage loan growth, increased specific reserves on certain commercial loans, and a higher reserve on residential mortgage loans stemming from a projected increased average life of the portfolio, which were not fully mitigated by the combined impact of a reduced COVID-19 environmental allocation, net loan recoveries, and continued strong asset quality metrics. The third quarter of 2022 provision level was also impacted by increased allocations associated with forecasted economic and business conditions. Continuing on slide 13.
Overhead costs increased $0.5 million during the third quarter of 2022 compared to the third quarter of 2021, and were up $1.9 million during the first nine months of 2022 when compared to the same time period in 2021. Excluding a second quarter $0.5 million contribution to the Mercantile Bank Foundation, overhead costs were relatively unchanged during the 2022 period compared to the prior year period. In large part, increases reflect higher compensation costs. Continuing on slide 14. Our net interest margin was 3.56% during the third quarter of 2022, up 68 basis points from the second quarter of 2022, and up 85 basis points from the third quarter of 2021.
The improved net interest margin is primarily a reflection of increased yield on earning assets, in large part reflecting the increase in interest rate environment thus far in 2022. As I noted earlier, we recorded increased interest income on loans during the 2022 period compared to the 2021 period, which was achieved despite a significant reduction in PPP loan fee accretion. During the first nine months of 2022, PPP net loan fee accretion totaled $1.1 million compared to $8.5 million during the same time period in 2021. Our average commercial loan rate increased 156 basis points during the first nine months of 2022, a significant increase on a loan portfolio that averaged about $3 billion during that time period.
Our net interest margin continues to be negatively impacted by excess liquidity. However, as in the second quarter, the impact declined during the third quarter, in large part to a lower volume of excess liquidity, reflecting balances used to fund loan growth. The negative impact on our net interest margin from excess liquidity equaled 7 basis points during the third quarter of 2022, compared to 23 basis points during the second quarter of 2022 and 40 basis points during the first quarter of 2022. We expect the trend to continue to decline as excess monies continue to be used to fund future loan growth.
Given the asset- sensitive nature of our balance sheet, which includes 64% of our commercial loan portfolio comprised of floating- rate loans, any further increases in short-term interest rates would have a positive impact on our net interest margin and net interest income. Our cost of funds has not increased meaningfully during 2022, increasing four basis points during the third quarter and ten basis points during all of 2022 compared to the respective period in 2021. Despite the increase in interest rate environment, our deposit rates and those of our competitors were not meaningfully raised through the end of the third quarter, which we believe reflects a relatively low level of competition for deposits given the excess liquidity positions of most financial institutions.
However, as interest rates continue to rise and excess liquidity positions decline, we disbelieve deposit rate betas will ultimately return to historical levels. We remain in a strong and well-capitalized regulatory capital position. Our total risk-based capital ratio and all of our bank's regulatory capital ratios were augmented this past December and January with an aggregate $90 million issuance of subordinated notes, of which a vast majority of the funds were downstreamed to the bank as a capital injection. As of September 30th, our bank's total risk-based capital ratio was 13.4% and was $150 million above the regulatory minimum threshold to be categorized as well-capitalized. We did not repurchase shares during the first nine months of 2022. We have $6.8 million available in our current repurchase plan.
On slide number 18, we share our latest assumptions on the interest rate environment and key performance metrics for the remainder of 2022, with the caveat that market conditions remain volatile, making forecasting difficult. We are forecasting continued net interest margin expansion due to loan growth and the interest rate environment during the fourth quarter with fee income, overhead costs, and our tax rates remain relatively consistent to that of the third quarter. This forecast is predicated on several expected additional increases in the federal funds rate, including a 75 basis point increase in early November and a 50 basis point increase in mid-December. In closing, we are pleased with our operating results and financial conditions through the first nine months of 2022, and believe we remain well-positioned to continue to successfully navigate through the myriad of challenges faced by all of us.
Those are my prepared remarks. I'll now turn the call back over to Bob.
Thank you, Chuck. That concludes management's prepared comments, and we'll now open the call up to the question- and- answer session.
We will now begin the question-and-answer session. To ask a question, you may press Star, then one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. To withdraw your question, please press star then two. At this time, we will pause momentarily to assemble our roster. Our first question here will come from Brendan Nosal with Piper Sandler. Please go ahead.
Hey, good morning, guys. How are you?
Good morning, Brendan. How are you?
Good. Maybe just start off here on kind of the near-term margin outlook. I guess just digging a little bit more. You know, it looks like Fed funds will likely increase by a similar amount in the 4Q versus the 3Q, at least on a quarterly average basis. But looks like you're assuming a good bit less margin expansion in the fourth quarter versus the third quarter. I guess just, you know, to start off, what are the deposit pricing assumptions you're using in the fourth quarter for your margin guide? And then maybe just help us understand deposit pricing dynamics more broadly as we move through this rate environment.
Yeah. This is Chuck. I'll take a swing at that one. I think, and I'm sure you're hearing it with all the banks, you know, the cost of funds remains one of those big unknowns. I think that along with provision expense. You know, I think we've definitely have gone through a very unique time period where we have seen interest rates increase quite dramatically. For virtually all banks, or most banks for sure, haven't seen much of an increase in deposit rates. As I mentioned in my prepared remarks, we think a lot of that has to do with the excess liquidity that we've had. Now, clearly, we and with the industry have been using those funds to fund some strong loan growth, which we appreciate.
We believe that we're getting to the point where there is gonna be a significant increase in competition for deposits, especially if banks continue to grow like they have. As I mentioned in my comments, again, we do think that the betas will ultimately return to historical levels, which for us is somewhere between 40% and 60%, relationship with the change in the prime rate. You know, dependent on deposit type, of course. Really, up until the first week of October here, we really didn't do anything significant to our deposit rates throughout the entire year. There were certainly certain types and some large customers that we have been taking care of. From a broad standpoint, we didn't meaningfully increase deposit rates on a bank-wide basis until here early in October.
Looking at, you know, our rate comparisons, it appears that, you know, we basically have been doing what all the other banks from a competitive standpoint in our markets have been doing. I think from a forecast standpoint, we're projecting a 20 basis point increase in our cost of funds in the fourth quarter compared to the third quarter of this year, which I think we were only up about barely 10 basis points for the entire year. I think that's just the beginning of what we'll see as we go into 2023. Again, I think, you know, competition, as it always is gonna be a big driver of deposit rates.
If you know right now, it's just hard to forecast exactly what that's gonna look like. Again, we certainly expect the deposit rates to increase. The benefit that we have is both Ray and I discussed. You know we do have, you know as they call it an asset-sensitive balance sheet, you know, with 64% of our loans, which is you know, almost 90% of our assets, or 85% of our assets are floating rate. We'll continue to take advantage of further increases in interest rates on the yield side, and we'll just see how things play out on the cost of funds side. I think you know the question we get you know often is at what point do we think our margin's gonna peak?
I think the answer to that question is the quarter in which the Fed is done raising interest rates. You know, deposit costs are always lagging, if for anything, it's because of the CD product. I think that we will see deposit rates increase after the Fed is done increasing rates on their behalf.
Yeah, that's fantastic. Thank you, Chuck, for all of those thoughts and that color. Perhaps one more from me, just turning to capital. You folks have avoided the worst of the AOCI marks that others have experienced. Sitting on both strong regulatory capital and tangible common equity today versus, I think, a lot of the space. Maybe just update us on how you think about kind of putting that excess capital to work over the next, you know, couple quarters or year or so, whether it's, you know, the buyback dividend, organic growth or M&A. Just kind of walk us through those various uses.
Yeah, I think, you know, first and foremost, we wanna use the capital to continue our growth. As Ray mentioned, you know, our pipelines are really strong. We've got quite a bit of construction funding that remains. We’re looking forward to some strong net commercial loan growth. With the markets the way they are, we think that we'll continue to see, you know, growth in the residential mortgage portfolio. Maybe not quite as much as we saw through the summer, given the typical seasonality that we have here in Michigan and in the Midwest. First and foremost, we wanna use that excess capital to fund our loan growth as long as we can, you know, prudently underwrite, understanding, you know, the changing economic environments that we're gonna have to keep an eye on.
You know, clearly we think our stock, I think every CFO is gonna tell you their stock is underpriced, especially in today's environment. We have not bought back our stock this year. Really, it's again, mostly because we want to use, you know, every dollar, if you will, to fund that loan growth. We wanna make sure that we keep our cash dividend at the meaningful level as we have. We also wanna be somewhat defensive as well. You know, clearly, there's the expectation that the economy will slow. Clearly, that's what the Fed wants to happen. Just how that plays out is a big unknown. You know, if we wanna keep some dry powder there in the capital base just to weather any storm that may be coming our way.
We're in an excess capital position. We like to be there, and we don't want to do things to our capital position that puts us in a more difficult position, you know, if the economy, you know, it becomes more negative than what we all hope.
This is Bob. I'll add to that. At about 10 months ago now, we did our subordinated debt offering for the purpose of being able to support our pipelines and our growth, which have continued to be extensive. That really hasn't changed. Obviously, the concern about the economy is one that makes us covet our strong capital position if we're headed into potentially rocky waters as far as economic conditions. We feel really good about it. We're able to deploy our capital with our growth and continue on in a very strong position.
Fantastic. Thank you for taking it.
You're welcome.
Thanks, Brendan.
Our next question will come from Daniel Tamayo with Raymond James. Please go ahead.
Good morning, guys.
Good morning.
Good morning.
Just, you know, I guess more on the deposit side. You know, loan to deposit ratio is back up over 100%. I know you guys are comfortable on that level, but if you don't mind just reminding us where you're comfortable kind of taking that up to. I guess I'll leave it there, and then I'll follow up. Thanks.
Yeah. Danny, this is Chuck. I'll take that one. You know, yeah, I think historically we've been comfortable around 100%-105%. You know, one of the things that we always include internally is the sweep product, which is the repurchase agreements, which averages around $200 million. That to us is deposit money. It's strong relationships that we have, that obviously are swept into that repurchase agreement. That knocks the ratio down to about 95% or so. Clearly, you know, we see that the loan-to-deposit ratio is higher than typical. It's a ratio that really reflects the opportunities that we have on the lending side.
You know, it's just kind of that balance as to, you know, how we fund that potential and growth that we see day in and day out. How we use our Federal Home Loan Bank advances. You know, clearly that's the opposite that's going on there. We use that in a very meaningful way, obviously, not only to fund the asset side of our balance sheet but to make sure that we are managing our interest rate risk position, you know, from the longer term, which I would say is five years, you know, commercial real estate fixed portfolio that we've got. One of the things is, I think as you know, over the last couple of years, we've been diligently engaged in our back-to-back swap program.
You've seen, everybody has seen the swap income that results from that, which is great. Really, the impetus behind that is you know, to eliminate those five-year, seven-year fixed- rate commercial real estate loans, put them into a floating- rate loan. Obviously, the back-to-back swap program that benefits our customer wanting the fixed- rate. What that means is we don't have to utilize FHLB advances to manage that longer- term interest rate risk, which really frees us up from doing some things on the deposit side that maybe we wouldn't otherwise want to do. Lots of different things, you know, a lot of different ingredients going into the soup there.
The short answer to your question is 100%-105% we feel comfortable with, and that's where we endeavor, you know, to kind of cap it out at that level.
That's a great answer. I appreciate that. Maybe on the credit side, you know, if we could just talk. I mean, you know, the numbers are really strong in the quarter. If we could just dive into it a little bit, like what categories you're watching. I mean, it looks like, you know, in the slide deck where you broke it out by categories, there's not much in terms of early indicators. You know, clearly we're potentially going into a recession here. What are you guys watching most closely in terms of loan category? Thanks.
Danny, this is Ray. It's almost reflex to answer that with hotels and restaurants. That's been the answer for a long time. They aren't showing any signs of, you know, stress at the moment, as you implied in your question. As a matter of fact, the hotels that we financed have actually done quite nicely. As the economy and the consumption of the economy moves from goods to services, the manufacturing portfolio is something that we're watching closely as they adjust to that. So far, so good there. Also, you know, the impact of disruptions would be felt there first in the supply chain and the availability of goods and the like inputs.
Finally, the dynamics around the markets that have office buildings in them are, you know, highly individualized, but we are watching those closely, and we believe we have the right sponsorship groups there to withstand the changes that are coming there as firms come back to work or don't. Those are the primary areas that we're watching. Again, no overt signs of stress, as you've noted from the stats, but we're nevertheless watching them very closely.
Okay. Thanks, Ray. Lastly, just relatedly, on the reserve build, you know, small reserve build this quarter. You mentioned there's still a COVID factor in there. You know, just thoughts on what would be the biggest drivers. I think last quarter you talked about unemployment. You mentioned in your comments that Michigan unemployment went down again this quarter. Just thinking about what might be the impetus for reserves to build going forward. Thanks.
Yeah, Dan, it's Chuck again. You know, as we look through our models and I talk to other banks, you know, and they're dealing with their forecasts and their models, you know, it appears that, you know, and it makes sense that the unemployment rate is by far the biggest, you know, factor when it comes to overall economic growth or lack thereof. Clearly, if people are working, they have money in disposable income. If they're not working, then the, you know, vast majority, if not all of their money, goes to just making ends meet.
You know, we're in a very strange environment that the unemployment rate has stayed very steady at a very low level, which of course is causing all kinds of issues, including wage inflation and, you know, difficulty not only for banking industry, but all industries finding the talent and the people that they need. I think it's really that unemployment factor that we continue to look at. I think that's looking at our CECL solution that is one of the primary drivers. You know, we did see a little bit of an uptick in the unemployment rate in our forecast that we use, a couple of forecasts that we use. We also saw some slowdown in the GDP, which would make sense.
I think that was the impetus of the increase in our reserve, you know, through provision expense in the third quarter, which was about $1 million of the $2.9 million, almost $3 million that we provided. About a third of our provision was related to just the forecast and the economic conditions that are there. I think that, you know, we'll obviously continue to keep a lookout on the economy. We continue to use our forecasts, per our policy and per accounting guidance. We do have in our back pocket, you know, we understand that we are more localized in the state of Michigan, although, you know, obviously, our industries are impacted globally. You know, we'll look at the economic forecast, which is for the country.
You know, we'll continue to look at kind of per Ray's comments. We'll continue to look at our portfolio, our markets, to see how they're performing relative to the national forecast. You know, if we see more of a protracted slowdown in our numbers and our expectations, we can certainly add to the reserve in addition to whatever the actual forecast is providing for.
All right. Thanks, Chuck. I appreciate all the color. That's all for me.
You're welcome.
Thanks, Danny.
Our next question will come from Erik Zwick with Hovde. Please go ahead.
Good morning, guys.
Erik.
Morning.
Morning.
First, just wanted to start, I guess, with a question on the commercial loan pipeline. If you could quantify that balance at the end of September and how that compares to the June 30th balance. Then also if you're able to provide any commentary into the, you know, specific geographies or industries that are maybe contributing more to that strength and growth.
Yeah, Erik, this is Chuck. I can do it from a numbers standpoint, but I'll let Ray give more color on, you know, more of the specific numbers. You know, when we look at putting our Q together, and we've got to disclose our commitments to make loans, which is basically any bona fide commitment that we have made, that has not been closed yet. We have actually seen quite a bit of an increase, from where we were in June. I think, in June it was about $210-$220 million that we reported in our June 30th Q. As of June 30th, we're looking at a number that's just a little bit over $300 million, in September. Now, clearly, you know, there's negotiations going on there.
You know, some of those credits are being, you know, competed with other banks. We certainly don't expect to get all of them. History does show us that we get a, you know, a large majority of those. You know, we would expect those to fund, you know, over the next 12, 24 months. Clearly, there's some construction loans in there. You know, from a numerical standpoint, the different ways that you can measure a pipeline continues to be very strong, as we said, and really for the, you know, comparing where we were at the end of the last quarter, has actually grown.
In terms of color, multifamily is a very popular product in loan demand right now. Kent County came out recently with a study that indicated they needed about 9,000 units of housing over the next couple of years. There's the delivery pipeline is like 2,000-3,000 units. There's a perceived shortfall there that developers are jumping into, and we're following them carefully into that. Secondarily, I'd say the general C&I bucket is very robust in many different forms. You know, a decade plus of building relationships in those areas is paying results. It defies categorization by industry or SIC code, but I think that general bucket describes it fairly well.
That's helpful. I appreciate that. Maybe one quick follow-up on that, the C&I bucket, if you could remind me where the C&I utilization rate is today, and then how that compares to what you would consider a more normal level.
It was 36% compared to 33% the prior quarter. I think normal is maybe high 30s. We're just a little bit under. I think that reflects some requests by our customers. They have more credit availability as they watch the prices of their inputs move skyward. I think our customers and us together are positioned to deal with their needs in the fairly immediate future, say, over the next six months to a year.
Thanks. I appreciate the follow-up there. Moving to, I guess, slide 18 and your thoughts for some of the performance metrics in 4Q. Just looking at your expectation for average earning assets, it would seem to indicate relative to 3Q that they'd be flat to down a little bit. It sounds like, you know, loans will be strong and likely growing. Just curious about, you know, the offsets there, if it's, you know, cash liquidity or maybe securities portfolio, just how you get to that number.
Yeah, I think, you know, what we're projecting is a continuation of what we've seen throughout the year, is using that excess liquidity, primarily the funds that we have on deposit at the Fed and putting that into the loan portfolios, both, you know, primarily the commercial as well as the residential. So on an overall basis, we're just kind of moving money, around the assets and not expecting much change on the liability side. So I think, you know, we continue to look for a growth of around 10%. When we look at, you know, put the pencil to that, you know, we've got the funds on hand at the Fed, to get us through that without any meaningful, deposit increases.
Having said all that, I want to make sure that everybody understands we have always been out there looking for deposits. Actually, we've seen some good deposit, you know, new deposits come into the bank this year. Overall, excluding the one deposit relationship that we've talked about before, on an overall basis, deposits have stayed relatively stable. Clearly, we have seen some of our depositors, some of our borrowers using funds that they had on deposit, you know, at the beginning of the year or the early part of the year. We've also seen some really, you know, solid deposit growth as well, especially with the, you know, the C&I customers that we've been bringing on. They come over with some meaningful deposits.
Some of our just deposit-only customers as well have reflected some increases in their deposits as well. While we have the monies at the Fed to, you know, fund loan growth this quarter as we have the previous quarters, you know, we're full guns ablaze and, you know, looking for any opportunity that we can, you know, bring in new deposit relationships and increase existing relationships here at the bank.
Yeah. I think that underscores the point that Ray made about the buy and the C&I type of relationships that are in the pipeline right now, and that we continue to call on because those are the relationships that tend to bring over the larger deposit accounts and will help partially fund that growth that we are doing in the pipeline.
It's also worth noting that those accounts tend to be non-interest- bearing. Our commercial concentration leads to probably a greater than normal proportion that are non-interest- bearing deposits on our balance sheet.
Yeah. If I could add, that's a great comment that Ray just made, and I should have mentioned that. You know, when we were talking about the cost of funds earlier, you know, having about 40% or so of your funds being non-interest- bearing clearly pays dividends, you know, in an environment that we are in today. Again, all those C&I relationships, not only do you get the deposits, but then that, of course, goes into our ability to provide other, you know, treasury management products and services as well, which we've talked about have shown some strong growth.
I think that strong growth in those categories not only reflects the opportunities we have in our existing deposit base and borrowing base, but reflects the success we have in cross-selling those products when we do bring in new C&I customers to the bank. Yeah, the C&I customers, they pay dividends in many different ways, you know, throughout the income statement.
Thanks. I appreciate the complete answer there. One last topic for me. Just curious about the specific reserve for the distressed commercial loan relationship. Just curious if this is a new situation or something you've been monitoring for a while? If you're able to provide any color into the kind of business or industry, and then what changed in 3Q to prompt the specific reserve?
Yeah. This is one C&I relationship that, you know, hit our radar earlier, much earlier this year, that we've been working with. As we do any type of distressed situation, working with the borrower and its management team to, you know, figure out what the issues are and try to put some corrective actions in there. It is a performing TDR. You know, the company is still viable and is still operating. But it did get to the point where it did hit the TDR guidance for us. With the TDR guidance from an accounting perspective means we need to kind of, if you will, treat it as a non-accrual. When we look at our collateral that's available, we do some, you know, as we always do, some pretty heavy discounting on valuations.
We do see the need to have a meaningful, specific reserve against that credit. I would again stress it is a performing TDR. It is not a non-accrual. Those TDR rules will go away. You know, if it was a year from now, we wouldn't be talking about likely a large specific reserve with the TDRs rules going away. Nonetheless, we do have a reserve against that credit. We are again, obviously working with that borrower to get them in a better position, but looking at other options as well to look to either, you know, obviously reduce that exposure that we have here at the bank.
Got it.
Definitely.
Maybe just one quick follow-up. Go ahead.
Yeah. I was just gonna say, you know, from a relationship standpoint, it's a one-off as far as the overall credit situation with that borrower compared to the rest of our portfolio.
Yeah. Thanks. I guess my follow-up was gonna kind of be along those lines in terms of if it's a company-specific issue or if there's if it's related to some of the industry pressures, supply chains, anything like anything else like that that we're all kind of tracking.
I will say that I guess my reaction is that it shows you the overall strong quality of the portfolio if we're talking about one change in a loan grade, a reserve, that is a purely one-off situation. Appreciate the questions on it, but it's not reflective of a trend that we're seeing. It's a one-off situation that there's a plan in place to make sure the situation gets corrected.
Understood. That's great to hear. Thanks for taking my questions today.
You're welcome.
You bet.
Again, to join the queue, you may press star then One. Our next question here will come from Damon DelMonte with KBW. Please go ahead.
Hey, good morning, guys. Hope everybody's doing well today. Appreciate all the color and insight on the loan pipelines and the outlook there. Just kind of wondering, though, are your commercial developers kind of pulling back at all or hesitating given the rapid rise in rates, and especially if we see like another 125 basis points of increase by year-end? Do you think that's gonna kind of weigh on sentiment at all?
I think it depends on the product type. Do you have one in particular in mind?
No, just, you know, commercial real estate development. You know, if you're kind of planning out the budget process for a project, you know, and all of a sudden, rates are going up a lot faster than maybe they thought. Like, does that kind of give them pause to put a project on hold?
I mean, obviously, that all goes into the calculus of a project. You know, where
The slowdown is where the rents are less robust and not on an upward trend. In multifamily, they certainly are on an upward trend. The rates and the income have moved fairly well in parallel, with some tightening. That's kind of reaching, I think, a climax where we're getting to a point where much more increase in long-term rates will begin to have a damping effect. We've seen a lot less demand, actually a notable lack of demand in product types like retail or office buildings. As a result, the activity is, you know, very minimal there, only for the strongest sponsors or maybe somebody who has an existing low-leverage project. That's kind of what the landscape looks like for us at the moment.
That's great. Appreciate that color. On the expense side, you know, the guidance for the fourth quarter kind of keeps. You know, if you look at the midpoint of your range, it's relatively flat to where you are. What are some of the levers you guys have accessible to help combat the inflationary pressures that we're seeing?
I wish I had a lot more levers than I do. You know, clearly, you look at a bank's income statement and, you know, compensation and benefit costs are the big key there. Like everybody in every corner of the country or world is, you know, there's a lot of inflation out there. You know, we obviously need to, you know, make sure that our employees are paid well, paid relative to what the market's paying, and obviously, trying as best we can to help offset the impacts of inflation that they've got. All that goes into the mix, and it basically means that, you know, we're gonna, as we have, we're gonna continue to see robust inflation hit our salary compensation and benefit costs.
We're gonna do what we have to do there, as we always have. You know, we'll look to, you know, other areas of the income statement, whether that be margin management, provision expense, you know, fee income. We look to that to help offset, you know, the pressures that we have and those overhead costs.
You know, Ray can back me up on more specific cost totals, but branch optimization project that we've been working on for the last several years, we've been able to consolidate or close a number of branches that have helped bring those expenses right to the bottom line in terms of savings. While there may not be a plethora of levers, we're looking in every corner that we can to make sure that we're as efficiently run as we can be. At the same time, making sure that we take care of our employees who enable us to do the things that we're able to do.
Got it. Okay. I guess just lastly, on the fee income side, do you feel like the mortgage banking income has kind of leveled at this point, or is it has reached a bottom? Or do you think that there's still more, you know, more downward pressure on that line item?
I think on an overall basis, I think we've you know, we feel like we've kinda hit a bottom, if you will. Production numbers. Now, clearly, we have seasonality. When most of your product is coming from home sales and not refinances, you know, clearly you're susceptible to seasonality and, you know, there's not a lot of, like in your neighborhood, Damon, there's not a lot of house buying and selling going on in January and February, so
Right.
I think we would expect to see some normal seasonality there. I think from an overall standpoint, you know, it kind of feels like we've hit some level of bottom here.
Got it. Okay. That's all that I had. Thanks a lot. Appreciate all the color.
Thanks, Damon.
This concludes our question-and-answer session. I'd like to turn the conference back over to Bob Kaminski for any closing remarks.
Yes, thank you very much for your interest in our company, and we look forward to speaking with you next at the end of the fourth quarter. This call is now concluded.
The conference has now concluded. Thank you for attending today's presentation. You may now disconnect your line.