Old National Bancorp (ONB) Q1 2020 earnings call dated Apr. 20, 2020
Corporate Participants:
James C. Ryan — Chairman and Chief Executive Officer
Daryl D. Moore — Chief Credit Executive
Brendon B. Falconer — Chief Financial Officer
James A. Sandgren — President and Chief Operating Officer
Analysts:
Scott Siefers — Piper Sandler — Analyst
Christopher McGratty — KBW — Analyst
Terry McEvoy — Stephens, Inc. — Analyst
Jon Arfstrom — RBC Capital Markets — Analyst
David Long — Raymond James — Analyst
Presentation:
Operator
Welcome to the Old National Bancorp First Quarter 2020 Earnings Conference Call. This call is being recorded and has been made accessible to the public in accordance with the SEC’s Regulation FD. Corresponding presentation slides can be found on the Investor Relations page at oldnational.com and will be archived there for 12 months.
Before turning the call over, management would like to remind everyone that as noted on Slide 2, certain statements on today’s call may be forward-looking in nature and are subject to certain risks, uncertainties and other factors that could cause actual results to differ from those discussed. The company’s risk factors are fully disclosed and discussed within its SEC filings. In addition, certain slides contain non-GAAP measures, which management believes provides more appropriate comparison. These non-GAAP measures are intended to assist investors understanding of performance trends. Reconciliations for these numbers are contained within the appendix of the presentation.
I’d now like to turn the call over to Jim Ryan for opening remarks. Mr. Ryan?
James C. Ryan — Chairman and Chief Executive Officer
Thank you, Dorothy. Good morning, everyone. I hope this call finds all of you and your families safe and healthy. While we are pleased with our first core — first quarter core fundamental trends and the implementation of the ONB Way strategic initiatives, our commitment and focus today is on supporting our clients, team members and communities. I’d also like to thank our team members for their hard work and dedication to serving our clients and communities during this difficult time.
Starting on Slide 3, our first quarter net income was $22.6 million, including $31.2 million of ONB Way charges. Adjusted net income was higher at $42.1 million, which includes higher loan loss provisions from the first quarter adoption of CECL. As you review our results, you’ll see that our core margin was down due to the Fed fund rate cuts and the narrowing yield curve. We were able to lower total deposit cost by 9 basis points to 34 basis points. Our commercial production of $647 million was seasonally higher. As a result of the good production, lower pay-offs and some higher quality line usage, commercial loans grew over 13% annualized. We recorded $17 million in provision expense during the quarter related to the adoption of CECL. I suspect you’ll see wide variances and seasonal provision this quarter for mid-sized banks as we’re all adapted to this new standard and the multiple economic forecast. Once we determine the accounting relief from CECL was very temporary and the regulatory capital relief was extended, it make sense for us to proceed with adopting as of January 1st.
The depth of this crisis is yet to be known. I won’t even speculate on future losses or provision needs, but the impact is clearly very broad based. The Midwest haven’t felt the same impact as other parts of the country, and we are hopeful that relief programs we have put in place, coupled with the various governmental programs, will ultimately blunt the economic impact to our clients.
Old National is celebrating our 186-year in business. As you know, we pride ourselves of being a basic, boring bank. Our loan portfolio is diverse. It’s granular, and overall is strong that’s ever been heading into this crisis. But we will need more time to better understand the magnitude of the economic impacts before truly understanding future losses. We have run and shared with our Board of Directors multiple economic forecast and various stress tests. As a result, we are still open for business and it’s getting new credit. We manage for the long-term. Our balance sheet and capital are strong, our markets are diverse, and our experienced team will help manage us through this challenging time. I’m confident that we will emerge even stronger on the other side.
We were successful in making the organizational changes we revealed last quarter and we made significant progress on the efficiency initiatives under the ONB Way. Brendon will provide all the details, $but we are on track to deliver $22 million in cost savings in 2020 and achieve the full 40 million run rate to 2021 as we discussed on last quarter’s call. We continue to make progress on the revenue initiatives, but admittedly some of them have been re-prioritized given the pressing need for investments in the various government relief programs and our own internal relief programs.
On the capital front, we did repurchase 4.9 million shares during the quarter at an average price of $16.05. We did suspend our program given the uncertain economic conditions. After reviewing the various stress tests with our Board, we don’t anticipate any other capital actions and we expect to maintain our current dividend.
Moving to Slide 4, we detailed our COVID-19 response for clients, team members and communities. The health and safety of our team members and clients is paramount. We granted additional sick time for team members along with additional paid-time off for all team members to assist with unforeseen personal needs. We also expanded family and medical leave benefits to those who are at-risk or who have an at-risk person in their household. We’ve enabled many team members to work remotely. Daily we have more than 1,000 team members working-from-home. And lastly, we expanded our ONe Wish program for team members with unforeseen financial needs.
All our branches are open via drive-thru with lobbies by appointment only. We provided information on digital banking options and change in our service delivery model via oldnational.com, e-mails, direct mail, and social media platforms. We’ve definitely seen healthy increases on our mobile and online platforms. We are providing clients relief by approving payment extensions, not reporting payment deferrals to credit bureaus and waving a refunding overdraft and monthly service charges for clients impacted by COVID-19.
We continue to lend to qualified businesses for working capital and general business purposes. We’ve helped nearly 5,200 clients with the SBA Payment Protection Program and we are proactively reaching out to our clients in approving loan payment extensions. Today, I’m pleased that we announced a $1.2 million commitment to immediate and near-term relief efforts, $600,000 for immediate needs with an emphasis on low to moderate income communities and $600,000 for our foundation with a focus on long-term restoration.
As you can see on Slide 5, the COVID-19 impact to the states in our footprint has been less impact than with other parts of the country. Michigan has some of the highest reported case in our footprint with almost 80% concentrated in the — where we have no branches. In our footprint, business and governmental leaders are talking about safe ways to open businesses and return to work. I’m optimistic that the Midwest will be among the earliest to reopen.
Scott Evernham, our Chief Risk Officer, and Daryl Moore, our Chief Credit Executives, are joining us on the call today. Both are experienced in their roles and have many of the same leaders in their teams for the 2008 financial crisis. We are fortunate to have Daryl’s experience in this environment, given he has been with Old National for more than 40 years.
He was really hoping he finish his career by never having to present slides in our earnings conference call again, but I’m glad to have the experience today, and I will now turn the call over to Daryl.
Daryl D. Moore — Chief Credit Executive
Thank you, Jim. Slide 6 gives us a high level of review of the composition of both our commercial and consumer portfolios. While there’s no denying that most industry segments have been negatively impacted by the COVID-19 outbreak, we’ve outlined in the top chart for you the commercial industries that many believe will suffer disproportionately in this crisis.
Over the years, we’ve tried to identify those industry segments that are most volatile and do not perform well in a cycle, and for the most part have attempted to either not participate in those segments or participate with appropriate structure and risk mitigation in place. We certainly will not be immune to difficulties in these segments, but as you can see, the size of our exposure to these most vulnerable industries appears to be well managed going into the cycle.
With respect to our consumer loan book, you can see in the chart in the bottom-left quadrant of the slide, a breakout of the size and average FICO scores of the different product types within our consumer portfolio going into the cycle. There is no doubt that because of the significant increase in unemployment, we will experience difficulties in this portfolio that none of us would have anticipated when we originated these loans. But again, looking at the FICO scores and the fact that less than 2.5% of the portfolio could be considered subprime, we believe that we are fairly well positioned to address any developing difficulties in this portfolio.
Just a couple of comments about line utilization. As reflected on the chart in the lower right-hand quadrant, we have seen an increase in commercial line utilization predominantly from clients with stronger asset quality ratings. Commercial line utilization at March 31st was 35.2% compared to 32.6% at the end of the prior quarter. We’ve also seen an increase in HELOC applications within the last 45 days with the quality of those applications generally being very strong. While we are not able to definitively determine why we are seeing an uptick in this particular loan category, we suspect that many of our consumer borrowers are following the lead of our commercial clients wanting [Phonetic] the liquidity backup if the economy continues to be stressed for a more lengthy time period.
Next, we wanted to give you an idea of the volume of the loan deferral approvals we have granted and have laid out those along with some Paycheck Protection Program information on Slide 7.
On the commercial side, we have approved roughly 900 requests from borrowers totaling $1.1 billion, representing 14% of total commercial outstandings. While 62% of the deferrals we have booked to-date are in the CRE loan category. We expect to see this percentage drop as we continue to book approved requests as a proportion of CRE requests appears to have been higher early on in the deferral application process. As you might suspect, while the number of loan deferrals is higher in the consumer area, the dollar amount of those deferrals and the portfolio penetration numbers are lower than in the commercial area. As shown on the right-hand side of the slide, through the exhaustive work of many of our team members, we have helped provide $1.3 billion in Paycheck Protection Program assistance to roughly 5,200 borrowers.
Slide 8 provides a recap of credit trends for the first quarter results. Both non-performing and underperforming loans fell slightly in the quarter to levels lower than we have posted at any quarter ended in 2019 and lower than any year-end level in the past three years. Charged-offs were higher in the quarter related to two particular credits. We chose to take an additional write-down prior to the end of the quarter on the relationship that was the subject of our larger 2019 fourth quarter charge-offs. Being concerned about collateral values in this new economic environment, we commissioned new appraisals and felt an additional write-down of $2.1 million was appropriate.
The other larger charge-off in the quarter was a $3.8 million action on a credit we have been working with for an extended time period waiting on the investment of outside capital that have been promised by the borrower. As we were not entirely certain that this capital investment would be made, we chose to fully impair the loan for loan loss reserve purposes back in 2019. When it became apparent that the investment would not materialize by the end of the quarter, and given the change in the economy, we determined that a complete write-off of the exposure was appropriate. We will continue to pursue collection efforts on this relationship going forward. At this point in time, we do not feel these write-downs are reflective of any general pre-COVID-19 credit issues in the portfolio but represents isolated credit events that occur over time in any portfolio.
Just a couple of comments before I end my part of this discussion about our approach to this newly changing environment. Over the years, we’ve dealt with numerous economic cycles. It has become apparent that an intentional clearly communicated plan with respect to how we will approach the challenge at hand is important to minimizing losses. What we have found is, the first item at hand is for everyone to recognize that economic conditions have changed. In this current environment, the pace and the breadth of this change is unparalleled. While this sounds obvious and simple to accomplish, we have to remember that just 60 days ago most banks were in full new loan production mode getting team members to switch from production call mode to, when necessary, having tough conversations with clients about the new economic realities is vitally important and has to be accomplished quickly for the benefit of both the client and the bank.
In this new environment, we are emphasizing at minimum we must evaluate a borrower’s liquidity, capital adequacy and availability and loan structure every time we touch a credit. Liquidity is the first concern of the bank and most borrowers in such times as these without the ability to continue to fund the basic necessities of the business and otherwise resourceful enterprise can’t survive. What is different about this downturn is the infusion of liquidity that the government is making through the Paycheck Protection Program and other offerings. While we are hopeful it’s yet to be seen whether the amounts our borrowers are able to draw under these programs are going to be at levels sufficient to bridge them through this challenge.
The adequacy and availability of the capital is the next concern we talked with our borrowers about to remember that — or to remind them that capital is a reserve that they have to cover unanticipated setbacks. If we do not believe that our borrowers have sufficient balance sheet capital to get them through the current setbacks, we challenge them as to what outside resources they may have at their disposal to raise needed capital and encourage them to begin to line up those resources.
As a final point, we require a review of the current loan structure and collateral support. We are emphasizing that opportunities to strengthen structures in terms of guarantees and covenants must be considered, and the acquisition of additional collateral, if available, has to be on the table in our discussion with our borrowers. We’re also beginning to think about how the current challenges of shelter in place might have an impact on collateral values and ultimately loss given the false assumptions.
Foreclosures have been put on hold, auto auction houses are not currently in operation in many locations, courts are closed, and I could go on. It’s a time proven fact that in most instances, collateral does not get more valuable with the passage of time in an economic downturn. Our collateral values and liquidation strategies play out has yet to be seen, given the pent-up demand may play a role in stopping the risks associated with this potential issue. I outlined these fairly obvious items because I believe that a bank’s discipline around these very basic fundamentals can make a difference, as to the ultimate performance of its portfolios.
Finally, I think it’s important to reaffirm that the bank embraces the vital role it needs to play in supporting each of our communities’ recovery efforts. While focusing on the basic credit fundamentals I’ve addressed is critically important in this environment, we also understand our obligation to provide credit at every responsible opportunity to help our clients and this country to get back on our feet. My belief is that banks that understand how properly balanced these two imperatives will have every opportunity to be very successful as we come out of the cycle.
With that, I’ll turn the call over to Brendon.
Brendon B. Falconer — Chief Financial Officer
Thank you, Daryl. Before turning to the quarterly financials, we would like to provide some additional color on our CECL allowance on Slide 9. Our day one CECL reserve of $96 million was $41.3 million over our year-end reserve and right in the middle of our projected range. The relatively large day two increase in reserves and $17 million provision expense for the quarter were primarily driven by projected economic impact of the coronavirus. The macroeconomic variables used in our models were derived from the Moody’s critical pandemic forecast scenario published on March 20th.
The scenario assumes a sharp decline in GDP in Q2 and a return to growth by year-end. The immediate increase in unemployment is less severe than current expectations but does remain elevated through 2023. The slide also outlines the key economic variables and portfolio inputs used in our models. In addition to the quantitative inputs, we also considered several qualitative factors in our final reserve assessment, including the risk that the economic decline, specifically unemployment and GDP, prove to be more severe and/or prolonged than our baseline forecast. We also took into consideration the mitigating impact of the unprecedented fiscal stimulus, including direct payments individuals, enhanced unemployment benefits, as well as the various government sponsored loan programs, which we expect will provide relief to consumer and commercial borrowers.
Lastly, as Daryl reviewed, we consider a relatively low exposure to the industries expected to be most vulnerable to this crisis. The future severity of the economic fallout from this virus is yet unknown, as is the ultimate effectiveness of the government response in providing a bridge for the individuals and businesses impacted. As time goes on, we will have more clarity on both and we’ll adjust our reserve levels accordingly. That said, we believe our current reserve level reflects our best estimate of the credit losses in the portfolio today.
Turning to the quarter on Slide 10, our GAAP earnings per share was $0.13 and our adjusted earnings per share was $0.25. Adjusted earnings per share excludes $31.2 million in ONB Way related charges as well as $5.2 million in debt securities gains.
Moving to Slide 11, our quarterly adjusted pre-tax, pre-provision net revenue was 3% higher year-over-year and 5% higher over prior quarter. This result was driven by increased fee income led by our mortgage and capital markets businesses as well as a reduction in adjusted operating expenses resulting from our progress towards achieving the expected savings from the ONB Way initiative. Despite the challenging operating environment, we improved operating leverage by 102 basis points year-over-year. We believe our strong pre-tax, pre-provision net revenue will provide a buffer against future provision needs.
Slide 12 shows the trend in outstanding loans. End of period loans increased $274 million quarter-over-quarter, largely in our commercial and commercial real estate loan categories. The increase was driven by solid commercial loan reduction of $647 million, slowing prepayment fees and higher line utilization. The 2.6% increase in line utilization was concentrated in our highest credit quality borrowers.
Commercial activity was high during the first quarter, which resulted in a sizable increase in our pipeline, which currently stands at $2.7 billion. But given the current economic uncertainty, we would expect pull-through rates to be lower than recent quarters. The full impact of the December rate cut on existing loans, coupled with lower coupons on new production, drove overall portfolio yields lower. We expect the dramatic shift in the yield curve will continue to put pressure on asset yields in 2020.
Moving to Slide 13, both period end and average deposits decreased during the quarter due to seasonal declines in public fund operating accounts and modest CD runoff. Our total cost of deposits declined 9 basis points quarter-over-quarter to 34 basis points. We quickly reacted to the emergency rate cuts in March and ended the month at a very low 21 basis points in total deposit costs. Bank deposit rates averaged 1.34% during the quarter, but with approximately three quarters of our CD book maturing in the next 12 months, our interest expense should continue to decline. We are pleased with the results for deposit pricing strategy that has resulted in a meaningful reduction in deposit costs, while maintaining our core client base.
Slide 14 shows our first quarter earning asset mix and quarter-over-quarter change in loan mix. Strong commercial loan growth this quarter supports our goal of remixing our balance sheet to more productive commercial and commercial real estate loans. The investment portfolio yield was down just 3 basis points quarter-over-quarter to 2.71% with new purchases yielding 2.42%.
Next, on Slide 15, you’ll see the detailed changes in our first quarter net interest income and corresponding margin. Strong earning asset growth contributed to our net interest income. And we are pleased with the performance of the margin, given the challenges of the interest rate environment. Net interest margin, excluding accretion, was slightly lower than our expectations at 3.16% compared to 3.25% last quarter.
However, adjusting for the day impact and lower interest collected on non-accrual loans, core margin was down just 2 basis points. The reduction in core earning asset yields, which were down 10 basis points, was nearly offset by reductions in our funding cost. Active repricing of our deposit book and balance sheet strategies continue to help mitigate the negative impact on margin.
Slide 16 shows trends in adjusted non-interest income. Our first quarter adjusted non-interest income increased $5 million. The quarter-over-quarter change was a result of an increase in mortgage banking revenue, which was driven by strong production and healthy gain on sale margins but also benefited from a $4.8 million change in our pipeline valuation.
We did take a $1.5 million impairment charge to our MSR portfolio this quarter that is netted against our mortgage revenue. The capital markets line of business continues to be a bright spot as interest rate swaps continue to be very attractive to clients. Other fee categories were generally stable but will likely come under pressure in the second quarter. Also included on this slide is a summary of our mortgage activities for the quarter, which shows $361 million in production. Low interest rates continue to support strong refi activity in the quarter, which accounted for 48% of our production.
Next, Slide 17 shows a trend in adjusted non-interest expenses, which reflects our ongoing focus on expense management. One-time charges were $31.2 million this quarter, which is slightly better than the $34 million we projected. Adjusting for these one-time charges and tax credit amortization, non-interest expense was down almost $3.6 million quarter-over-quarter, and we remain on track to realize the expected savings from our ONB Way strategic plan.
It’s also worth noting that our Q1 non-interest expense included a CECL-related day-two adjustment to our allowance for unfunded commitments of $1.7 million. Our adjusted efficiency ratio for the quarter is a low 59.3%, representing 166 basis point improvement over Q4 of 2019.
As I wrap up my discussion on the quarter, here are some key takeaways. We are pleased with our overall performance as the fundamentals of our core business were strong as demonstrated by our improved pre-tax pre-provision net revenue. We posted 9% annualized loan growth in the quarter without compromising on credit. We defended the margin well in an increasingly challenging rate environment. Our fee businesses posted healthy revenue growth, particularly in mortgage and capital markets, and we delivered on the promised expense savings we outlined last quarter.
Slide 18 includes our thoughts on our outlook for the remainder of 2020. The COVID-19 virus will have a meaningful impact on our 2020 performance. Commercial loan activity was strong in the quarter and we ended the second quarter with a healthy pipeline. However, near-term economic uncertainty is expected to have a negative impact on pull-through rates and may mute future loan growth. PPP loans are expected to add $1.35 billion to our outstandings in Q2, but there is some uncertainty that how long these loans will stay on our balance sheet.
We have meaningfully mitigated the impact on our net interest margins and short end of the curve, but historically low long-term rates will continue to put pressure on asset yields as our loan and investment portfolios repriced at lower coupons. After repricing, our deposit book has been a key component of our margin defense. And while there is room to move deposit cost lower, particularly within the CD portfolio, most of the transaction account rate reductions are now behind us. PPP loans will also impact our margin going forward. These loans carry a 1% coupon and an average fee of approximately 3% that will be accretive through margin on a level yield over their two-year terms. As loans are paid off early, any remaining fees will be accretive to income immediately.
Several fee items will also likely come under pressure from the economic slowdown. Our wealth management and investment businesses have seen a decline in the evaluation of our assets under management that will impact fees in the near-term. Overdraft fees and interchange income were down sharply in the last week of March as consumers began to comply with shelter in place orders and limited their spending to essential services. Although we’ve seen a pickup in activity in early April, we’re likely to stay at the low trend until the economy is reopened.
As I mentioned earlier, the mortgage pipeline ended at record highs. We could see — but we could see increased fallout in the weeks to come. A large driver of the mortgage revenue this quarter was related to our pipeline build. Our revenue typically reverses in the fourth quarter as pipelines decline. So given the disruption in the housing market, it may reverse more quickly.
We expect the remainder of 2020 to reflect the expense reductions associated with ONB Way that were communicated last quarter net of merit increases beginning in Q2. We are now estimating total one-time charges in 2020 related to ONB Way to be $39 million, which is a decrease from the original estimate of $42 million. All of our expense initiatives remained on track, including the planned closure of 31 branches by April 24th.
We’d also like to give you an update on our current capital position and outlook. We ended the quarter with a healthy CET1 ratio of 11.4%. And in abundance of caution, we have suspended our buyback program temporarily with any future use of the authorization depending on the facts and circumstances present later in the year. I would also reiterate that based on our current capital levels and our outlook on 2020 performance, we believe we have the capacity to maintain our dividend.
We’ve also recently updated our stress test model and under the CCAR severely adverse scenario, we renamed well capitalized at the lowest point in the nine-quarter horizon. Our liquidity position also remained very strong with our low loan-to-deposit ratio of 87%, strong cash and unencumbered security position and various other sources of liquidity, we have plenty of flexibility to respond to funding needs.
Lastly, we provide some guidance on a full year 2020 tax rate, which is expected to be approximately 19.5% on an FTE basis and 14.5% on a GAAP basis. The effective tax rate includes $6 million in tax credits primarily related to the historic tax credit project, which was placed in service in Q1. This project generated the majority of the $5.5 million in tax credit amortization included in our operating expenses this quarter. Project delays caused by COVID-19 have impacted the timing of our other historic tax credit projects that were included in our last quarter estimates. Please remove any additional tax credit amortization you have in your model other than the actual amount from Q1.
We will update you next quarter regarding the timing of the remaining projects. As a reminder, the tax credit amortization is recognized through expenses in the quarter that corresponds with the place and service date, while the tax benefit is spread over the full year through the tax line.
With that, we’re happy to answer any questions that you may have and we do have the full team here, including Jim Sandgren and Scott Evernham.
Questions and Answers:
Operator
[Operator Instructions] Well, our first question comes from the line of Scott Siefers with Piper Sandler.
James C. Ryan — Chairman and Chief Executive Officer
Good morning, Scott.
Scott Siefers — Piper Sandler — Analyst
Good morning, guys. Hey. How’s everyone doing?
James C. Ryan — Chairman and Chief Executive Officer
We’re doing fine. Hope you’re doing well too.
Scott Siefers — Piper Sandler — Analyst
We are. We are. Thank you very much for asking. Appreciate you taking the questions. First ones that I wanted to ask were just on credit. So, first, maybe just sort of a second on the 86 basis point reserve to loan ratio, and basically what that means in a CECL world. Maybe just kind of a refresher there just in terms of adequacy. And then, you noted that you guys have updated your stress scenario and still remain well-capitalized even at the low point. Just curious how the existing reserve compares to what you guys might consider sort of stressed losses in that scenario you used.
Brendon B. Falconer — Chief Financial Officer
Yeah. Sure, Scott. I’ll start off and Daryl can chime in. So, just as a reminder, so we started the reserve at $55 million at year-end. We’re now sitting at $106 million, and the $67 million of mark still remains outstanding on those loans. As far as the stress test is concerned, so we ran the most recent portfolio through our stress test models and come out with cumulative net charge-offs that are roughly in line with Great Recession totals in that 2.5% to 3% range. So that would be the right comparable to our 86 basis point [Indecipherable].
Scott Siefers — Piper Sandler — Analyst
Okay. Perfect. Thank you. And then, I had another question on the PPP loans, maybe just to — I guess, a little bit of almost tutorial on how you plan to account for them in addition to what you put in the guidance slide. So, first of all, those — everything that you guys have approved, that actually gets funded, right, based on what you guys have in the outlook? And then, the origination fees, those — it looks like we’ll all flow through the margin as well. So, I guess, we could see it kind of be PPP be dilutive to the margin here in immediate term, but presuming they are forgiven as planned, then you would sort of accelerate, so you’d get a bump-up in the margin as they pay off. Is that the right way to think about it?
Brendon B. Falconer — Chief Financial Officer
Exactly right. Exactly right, Scott. That’s how we’re seeing it.
Scott Siefers — Piper Sandler — Analyst
Okay. Perfect. All right. Thank you, guys, very much.
James C. Ryan — Chairman and Chief Executive Officer
Thanks, Scott.
Operator
Your next question comes from the line of Chris McGratty with KBW.
James C. Ryan — Chairman and Chief Executive Officer
Good morning, Chris.
Christopher McGratty — KBW — Analyst
Hey. Good morning, everyone. Just want to go back to Scott’s question on the PPP loans. I think a lot of the programs are much shorter than, I think, the two years that you laid out on the slide. For modeling purposes, I mean, we bumped up the loan growth in the second quarter by the amount of $1.3 billion. My sense is, most of that will come kind of unwind over the next six months. Is that a reasonable base case with…
Brendon B. Falconer — Chief Financial Officer
Yeah.
Christopher McGratty — KBW — Analyst
…how you’re doing it and how you’re structuring it?
Brendon B. Falconer — Chief Financial Officer
That’s our expectation too, Chris. But initially, you have to set these things up to amortize the life of the loans. But — so if they’re all forgiven within Q2, then you’d see a bump there. But if it does — if they’re not forgiven until Q3, it would be dilutive to the margin in Q2.
Daryl D. Moore — Chief Credit Executive
Chris, I would just add, there’s still a lot of details to be determined about how we verify compliance with the forgiveness rules that are yet to even be written or published. So, it could take a couple of quarters for this to kind of all unwind. I think we’re all hopeful it unwinds quickly, but the reality is, since we don’t know rules to play by, it’s going to be difficult to determine exactly how fast these loans are going to get forgiven.
Christopher McGratty — KBW — Analyst
Okay. And then, the expectation is to either fund them with the balance sheet flexibility you have with loan-to-deposit or through some of the government programs that they qualify, is that right?
Brendon B. Falconer — Chief Financial Officer
Yeah. We’re actively planning to participate with the Federal Reserve’s or the Treasury Department’s program.
Christopher McGratty — KBW — Analyst
Okay. I appreciate that. Just one more. I’m trying to map Slides 6 and 7, the deferrals and the vulnerable industry. I think in your prepared remarks you talked about CRE being a big piece of the deferral. Any color on maybe the rest of the book or some of the other portfolios that might be — you might be working with in terms of trying to extend some terms for your stressed clients?
Daryl D. Moore — Chief Credit Executive
Yeah. Chris, this is Daryl. Certainly within those deferrals, there have — there’s a fair amount of requests from restaurants, and we have been working with those clients. I would — I don’t think that we’ll see them come back again until we get through at least the 90 days and see where we are. On the hotels, the very little hotel exposure that we have, most of those who have been in asking for deferrals as you might imagine.
And on the CRE piece, much of that comes from either most family that have retail associated with it or the retail has been closed down. Some just apartments early on were concerned about ability of their tenants to pay rent. We looked at a little bit of that, and then anything kind of retail, strip mall, those types of things were also heavy requestors early on in this — in the deferral approval process.
Christopher McGratty — KBW — Analyst
And Daryl, as you’re going through this process with your borrower, what kind of conversations do you have and in terms of having them put more kind of skin in the game to work with you and to make sure you’re not on the hook?
Daryl D. Moore — Chief Credit Executive
Yeah. Chris, so early on, we had some conversations with clients but mostly just given the uncertainty and the fact that we knew they’re going to have cash strains. We did a lot of these deferrals. Just look back on their operating history, if they hadn’t had problems before, I look to see what we thought was reasonable and then just moved on. As we get to the end of the 90 days, on those that we did 90 days, we will — we’re going to be asking for updated financial information on sponsors, and I have to sit down and have, in some cases, some tough conversations if this hasn’t turned around.
Some borrowers, we did 180-day extensions on because it made sense to do that. All of our relationship matters will be out in 90 days talking with those clients, beginning to understand how deeply they’ve been impacted and start to gather financial information, start to have those conversations about additional capital or collateral or how we’re going to work through this. It is so fluid [Phonetic] right now.
Christopher McGratty — KBW — Analyst
Thank you very much.
Operator
Your next question comes from the line of Terry McEvoy with Stephens.
James C. Ryan — Chairman and Chief Executive Officer
Good morning, Terry.
Terry McEvoy — Stephens, Inc. — Analyst
Hi. Good morning. Maybe could you start — just provide some insight into the accounting for the commercial and consumer deferrals? Did you keep accruing but the yield is now lower? And if so, could you talk about what type of impact that could have, and I would assume it’s built into your projections and outlook today?
Brendon B. Falconer — Chief Financial Officer
No change in, Terry, to how we accrue for them. Obviously there’s a cash flow impact on that, but relatively minor. But we’ll continue to accrue those as we normally would.
Terry McEvoy — Stephens, Inc. — Analyst
Okay. And then, maybe could you expand on the CD pricing over the next — I think you just said six or 12 months kind of average rates today on the balance sheet what current market rates are?
Brendon B. Falconer — Chief Financial Officer
Yeah. So, as I said, we’re sitting at 1.34%. Three quarters of that book will re-price over the next 12 months. And depending on the maturity and the tenor, I’m not giving you a specific number on that, but they’ll be meaningfully lower than they are today.
Terry McEvoy — Stephens, Inc. — Analyst
Maybe just one last quick one. Can you just talk about the impact of — on fee income in the first quarter from some of the actions you took to help your clients? And maybe just some color on what happened in March or late in the quarter to help us on a year-over-year basis kind of model out some of those transactional revenue lines?
James C. Ryan — Chairman and Chief Executive Officer
I would say, the first quarter impact from some of the fee waivers was de minimis. Obviously [Phonetic], all kind of coming in the middle part of March, and so really didn’t have a meaningful impact. I think, as Brendon pointed out though, I think everybody is seeing the spend slow down, right? And everybody saw service charges, I think, across the industry be lower. It’s just hard for us to get a handle on how permanent — we’ve already seen a better pickup in April. And so, it’s just really hard for us to have a pick up for — a view on how long this lasts and what the exact impact is going to be.
Terry McEvoy — Stephens, Inc. — Analyst
Understood. Thank you.
James C. Ryan — Chairman and Chief Executive Officer
Thanks, Terry.
Operator
Your next question comes from the line of Jon Arfstrom with RBC Capital Markets.
James C. Ryan — Chairman and Chief Executive Officer
Good morning, Jon.
Jon Arfstrom — RBC Capital Markets — Analyst
Hey. Thanks. Good morning. I just wanted to follow up on a couple of things. Can you talk about the magnitude? I think, Brendon, you talked about it in your comments and, Jim, you just alluded to just the magnitude of the increase in consumer activity. Is it meaningful at all or is it just very, very early?
Brendon B. Falconer — Chief Financial Officer
I think it’s just very, very early. I will tell you — and Jon, you’re in the Midwest so you understand. I mean, I see a lot of people still buying food in restaurants and out and about. But clearly, card spend is down, and that’s going to have an impact on, I think, the entire industry. But I think it’s just too early to understand what the exact impact is.
I guess, what I’m optimistic is, I know our state is having a lot of great conversations about return to work. And I’m very optimistic that by the end of April, we will start to — start the economy back up here in the Midwest. And I think hopefully card spend and other things will return back to kind of normal. I know it’s going to take some time to get fully back up to speed, but I’m optimistic that the Midwest will start to restart and maybe some of the earliest in the whole country.
Jon Arfstrom — RBC Capital Markets — Analyst
A question for you guys as well on the loan demand today. You talked about the big pipeline that may not all pull through, but what does the loan demand today look like compared to maybe what it was two or three or four weeks ago? Looks like it was line draws initially, but what does it look like today and what are the areas where you’re seeing the demand?
James A. Sandgren — President and Chief Operating Officer
Yeah. Jon, this is Jim Sandgren. I’d say, the pipeline is down a little bit. The breakdown of that pipeline is still kind of 50% commercial real estate and balance C&I. I think everyone is kind of taking a step back to see how this is all going to impact their particular industries. All the pipeline, typically when we look at the accepted category, it’s about 90% to 95% likelihood. We’re going to close those deals. After reviewing with our commercial segment leaders, I think that number drops to closer to 75%. Still a lot of deals, I think, to be booked, but they’re certainly going to be some borrowers, they’re going to be a little cautious and projects or investments may get delayed a quarter or two. So, kind of a wait and see.
Christopher McGratty — KBW — Analyst
Jon, I might add. This is a little bit longer term view, but I think manufacturers are looking at their supply chain today and saying, how much of this could be done onshore versus offshore. And I’m optimistic that the Midwest might see some increased investment over the coming year or two, and expect people think about those critical suppliers in their supply chain and how much of that really should be produced here in the US versus someplace else. And so, I think the Midwest can be a long-term beneficiary of that kind of new view of the supply chain dynamics.
Jon Arfstrom — RBC Capital Markets — Analyst
Amen to that. I keep going with questions, but I have a couple of more follow-ups, I guess. Maybe Daryl or Scott, you talked about the increase in CRE deferrals, and I’m curious areas where you expect to see deferral increases from here. And if you had any shot at what percentage of book do you think could be deferred. I don’t view that as a negative. I guess, I’m just curious as to how far you think this could go.
Daryl D. Moore — Chief Credit Executive
Yeah, Jon. This is Daryl. I think we have most of the deferral requests behind us. It has slowed considerably now, maybe pick back up after the PPP. But I just don’t think that you’re going to see significant increases or changes going forward.
Jon Arfstrom — RBC Capital Markets — Analyst
And then one more, Daryl, for you, just maybe more of an industry observation, I’m curious. The PPP, I don’t want to say loan quality, but any assessment of the business, health of the businesses that are in the PPP program we should think about that longer term?
Daryl D. Moore — Chief Credit Executive
Yeah. Jon, that’s really interesting. So, if you think about the program, none of the review of what we did on any PPP loans had anything to do with the financial strength of those businesses was verification now. Anecdotally, as we all work through those, it goes the gamut, right? We’ve got some very strong borrowers who we’re not concerned about at all that took advantage of this program, and then we also have some very small businesses who I’m sure have very little cash. And I know just by talking to some of them that they’re asking when does this money come. So, it is really all across the board.
Jon Arfstrom — RBC Capital Markets — Analyst
These are things we’ll eventually find out and you think a quarter or two when we’ll know more on that?
Daryl D. Moore — Chief Credit Executive
Yeah. The PPP program is a program that is meant to bridge these borrowers through to keep people employed. And to the extent that as Jim suggested at least in our markets, so we can begin to open things up fairly quickly, I think we’ll have a really positive impact with respect to being able to get these businesses started up again. The longer it goes, the more risk we have that these programs won’t be as effective as well they’ll be.
Jon Arfstrom — RBC Capital Markets — Analyst
All right. Thanks for taking my question.
James C. Ryan — Chairman and Chief Executive Officer
Thanks, Jon.
Operator
[Operator Instructions] Your next question comes from the line of David Long with Raymond James.
James C. Ryan — Chairman and Chief Executive Officer
Good morning, David.
David Long — Raymond James — Analyst
Good morning, everyone. Thank you for taking my question. I appreciate the color you provided with the Moody’s critical pandemic forecast. But curious if you could tell me — tell us what the specific economic inputs may have been that you built into your reserving as far as it relates to unemployment in GDP?
Brendon B. Falconer — Chief Financial Officer
Yeah. So, David, what we did is, we look at every one of the Moody’s forecast from the 10th, the 20th and the 27th. We run all of them through our models and sensitized the model. So we did consider all of the economic forecasts. The one we actually went through and put through as a baseline for a model and then did qualitative adjustments on top was the one on the 20th. And unemployment in there is — it goes up about 6% and then stays elevated at around that level for an extended period of time. GDP comes down pretty sharply, I think 6%, 7% and then starts to rebound in a V-shaped manner in Q4, starts growth again in 2021, kind of growth at the same pace it was prior. Those are the two key critical inputs into the model.
David Long — Raymond James — Analyst
Got it. Thank you. And how frequently have they been providing you with updates?
Brendon B. Falconer — Chief Financial Officer
They’re — so, through the quarter end, the last one we ran through our models was the one on the 27th, but I believe there was another one April 10th that came out. But that’s not the one that we run through our model.
James C. Ryan — Chairman and Chief Executive Officer
And just as a reminder, we only expected to receive one forecast per quarter. So, interesting timing of having multiple forecasts come out throughout the quarter, especially if this is the first quarter we adopted.
Daryl D. Moore — Chief Credit Executive
Yeah. I would assume that this is obviously new to them. But hopefully we can get it to one per quarter at some point here in the future but…
David Long — Raymond James — Analyst
Okay. I appreciate the color. Thanks, guys.
James C. Ryan — Chairman and Chief Executive Officer
David, I will also add. Our sense is, as we’ve obviously compared a lot of notes with a lot of different banks and a lot of different banks used a bunch of different forecasts, a bunch of different management overlays. And so, I think you’re just going to see, as I said in my prepared comments, just kind of a wide variance of how we look at this. And every day makes a difference of how you view this, the future economics around the pandemic. And so, we thought we put in place a very supportable forecast that made sense for us at the time. But every day, you have better optics and we’re going to continue to wait and see and adjust as necessary.
David Long — Raymond James — Analyst
Got it. Thank you, Jim.
James C. Ryan — Chairman and Chief Executive Officer
Thanks, David.
Operator
And there are no further questions at this time. Are there any closing remarks?
James C. Ryan — Chairman and Chief Executive Officer
We appreciate everybody’s support. Please stay safe and healthy. And as usual, we are here for any follow-up questions. Thank you very much.
Operator
This conclude Old National’s call. Once again, a replay along with the presentation slides will be available for 12 months on the Investor Relations page of Old National’s website, oldnational.com. A replay of the call will also be available by dialing 1-855-859-2056, conference ID code 9178738. This replay will be available through May 4th. If anyone has additional questions, please contact Lynell Walton at 812-464-1366. Thank you for your participation on today’s conference call.