FIRST FINANCIAL BANKSHARES, INC. Forward-Looking Statements This Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. When used in this Form 10-Q, words such as "anticipate," "believe," "estimate," "expect," "intend," "predict," "project," and similar expressions, as they relate to us or our management, identify forward-looking statements. These forward-looking statements are based on information currently available to our management. Actual results could differ materially from those contemplated by the forward-looking statements as a result of certain factors, including, but not limited, to those discussed in Part I, Item 1A of the Company's Annual Report on Form 10-K for the year endedDecember 31, 2019 and Part II, Item 1A of the Company's Quarterly Report on Form 10-Q for the quarter endedMarch 31, 2020 , in each case under the heading "Risk Factors," and the following:
• general economic conditions, including local, state, national and
international, and the impact they may have on us and our customers;
• effect of the coronavirus
(COVID-19)
on our Company, the communities where we have our branches, the state
of Texas and the United States , related to the economy and overall
financial stability;
• impact of reduction in interchange fees if assets exceed
• government and regulatory responses to the
COVID-19
pandemic;
• effect of severe weather conditions, including hurricanes, tornadoes,
flooding and droughts;
• volatility and disruption in national and international financial and
commodity markets and oil and gas prices;
• government intervention in the
effects of recent legislative, tax, accounting and regulatory actions
and reforms, including the Coronavirus Aid, Relief, and Economic
Security Act (the "CARES Act"), the Dodd-Frank Wall Street Reform and
Consumer Protection Act (the "Dodd-Frank Act"), the Jumpstart Our
Business Startups Act, the Consumer Financial Protection Bureau , the
capital ratios of Basel III as adopted by the federal banking
authorities and the Tax Cuts and Jobs Act;
• political instability;
• the ability of the Federal government to address the national economy;
• changes in our competitive environment from other financial
institutions and financial service providers;
• the effects of and changes in trade, monetary and fiscal policies and
laws, including interest rate policies of the Board ofGovernors of
the Federal Reserve System (the "Federal Reserve Board");
• the effect of changes in accounting policies and practices, as may be
adopted by the regulatory agencies, as well as the Public Company
Accounting Oversight Board , the Financial Accounting Standards Board
and other accounting standard setters;
• the effect of changes in laws and regulations (including laws and
regulations concerning taxes, banking, securities andinsurance) with
which we and our subsidiaries must comply;
• changes in the demand for loans;
• fluctuations in the value of collateral securing our loan portfolio
and in the level of the allowance for loan losses;
• potential risk of environmental liability associated with lending
activities;
• the accuracy of our estimates of future loan losses;
• the accuracy of our estimates and assumptions regarding the
performance of our securities portfolio;
• soundness of other financial institutions with which we have transactions;
• inflation, interest rate, market and monetary fluctuations;
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Table of Contents • changes in consumer spending, borrowing and savings habits;
• changes in commodity prices (e.g., oil and gas, cattle and wind energy);
• our ability to attract deposits and increase market share; • changes in our liquidity position;
• changes in the reliability of our vendors, internal control system or
information systems;
• cyber attacks on our technology information systems, including fraud
from our customers and external third party vendors;
• our ability to attract and retain qualified employees;
• acquisitions and integration of acquired businesses;
• the possible impairment of goodwill and other intangibles associated
with our acquisitions;
• consequences of continued bank mergers and acquisitions in our market
area, resulting in fewer but much larger and stronger
competitors;
• expansion of operations, including branch openings, new product
offerings and expansion into new markets;
• changes in our compensation and benefit plans;
• acts of God, pandemic, war or terrorism; and
• our success at managing the risk involved in the foregoing items.
Such forward-looking statements reflect the current views of our management with
respect to future events and are subject to these and other risks, uncertainties
and assumptions relating to our operations, results of operations, growth
strategy and liquidity. All subsequent written and oral forward-looking
statements attributable to us or persons acting on our behalf are expressly
qualified in their entirety by this paragraph. We undertake no obligation to
publicly update or otherwise revise any forward-looking statements, whether as a
result of new information, future events or otherwise (except as required by
law).
Introduction
As a financial holding company, we generate most of our revenue from interest on
loans and investments, trust fees, and service charges. Our primary source of
funding for our loans and investments are deposits held by our subsidiary, First
Financial Bank, National Association , Abilene, Texas . Our largest expense is
salaries and related employee benefits. We usually measure our performance by
calculating our return on average assets, return on average equity, our
regulatory leverage and risk-based capital ratios and our efficiency ratio,
which is calculated by dividing noninterest expense by the sum of net interest
income, on a tax equivalent basis and noninterest income.
The following discussion and analysis of operations and financial condition
should be read in conjunction with the financial statements and accompanying
footnotes included in Item 1 of this Form
10-Q
as well as those included in the Company's 2019 Annual Report on Form
10-K.
Coronavirus Update/Status
The coronavirus
(COVID-19)
pandemic has placed significant health, economic and other major pressure
throughout the communities we serve, the state of Texas , the United States and
the entire world. We have implemented a number of procedures in response to the
pandemic to support the safety and well being of our employees, customers and
shareholders that continue through the date of this report:
• We have addressed the safety of our 78 branches and other locations,
following the guidelines of the
branches generally remain open to customers, we have taken steps, and
continue to evaluate, to push as much traffic and transactions as
possible to our motor banks;
• We hold executive meetings weekly or more as needed to address issues
that are changing rapidly;
• We moved our Annual Shareholders' Meeting from a physical meeting to a
virtual meeting;
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• Provided extensions and deferrals to loan customers effected by
COVID-19
provided such customers were not 30 days past due at December 31, 2019 ;
• We chose to participate in the CARES Act Paycheck Protection Program
(PPP) that provided government guaranteed and forgivable loans to our
customers. Through June 30, 2020 , we completed approximately 6,500
applications and funded
believe these loans and our participation in the program was good for our
customers and the communities we serve; and
• We chose to participate in the Federal Reserve's Main Street Lending
Program to provide ongoing loans for our customers. No loans have yet
been funded as of June 30, 2020 .
We continue to closely monitor this pandemic and expect to make future changes
to respond to the pandemic as this situation continues to evolve.
Critical Accounting Policies
We prepare consolidated financial statements based on GAAP and customary
practices in the banking industry. These policies, in certain areas, require us
to make significant estimates and assumptions.
We deem a policy critical if (1) the accounting estimate required us to make
assumptions about matters that are highly uncertain at the time we make the
accounting estimate; and (2) different estimates that reasonably could have been
used in the current period, or changes in the accounting estimate that are
reasonably likely to occur from period to period, would have a material impact
on the financial statements.
We deem our most critical accounting policies to be (1) our allowance for loan
losses and our provision for loan loss expense and (2) our valuation of
securities. We have other significant accounting policies and continue to
evaluate the materiality of their impact on our consolidated financial
statements, but we believe these other policies either do not generally require
us to make estimates and judgments that are difficult or subjective, or it is
less likely they would have a material impact on our reported results for a
given period. Our policy for (1) our allowance for loan losses and our provision
for loan loss expense and (2) our valuation of securities is included in note 1
to our notes to consolidated financial statements (unaudited) which begins on
page 10. Additional detailed information is included in notes 4 and 5 to our
notes to the consolidated financial statements (unaudited) and should be read in
conjunction with this analysis.
Stock Split
On April 23, 2019 , the Company's Board of Directors declared a
two-for-one
stock split in the form of a 100% stock dividend effective June 3, 2019 . All per
share amounts in this report have been restated to reflect this stock split. An
amount equal to the par value of the additional common shares to be issued
pursuant to the stock split was reflected as a transfer from retained earnings
to common shares in the consolidated financial statements as of and for the
six-months ended June 30, 2019 .
Stock Repurchase
On March 12, 2020 , the Company's Board of Directors authorized the repurchase of
up to 4,000,000 common shares through September 30, 2021 . The stock buyback plan
authorizes management to repurchase the stock at such time as repurchases are
considered beneficial to the Company and stockholders. Any repurchase of stock
will be made through the open market, block trades or in privately negotiated
transactions in accordance with applicable laws and regulations. Under the
repurchase plan, there is no minimum number of shares that the Company is
required to repurchase. Through June 30, 2020 , the Company repurchased 324,802
shares totaling $8.0 million under this repurchase plan. Subsequent to June 30,
2020 and through July 28, 2020 , no additional shares were repurchased.
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Acquisition
On September 19, 2019 , we entered into an agreement and plan of reorganization
to acquire TB&T Bancshares, Inc. and its wholly-owned bank subsidiary, The
Bank & Trust of Bryan/College Station, Texas . On January 1, 2020 , the
transaction closed. Pursuant to the agreement, we issued 6.28 million shares of
the Company's common shares in exchange for all of the outstanding shares of
TB&T Bancshares, Inc. In addition, in accordance with the plan of
reorganization, TB&T Bancshares, Inc. paid a special dividend totaling
$1.92 million to its shareholders prior to the closing of this transaction. At
the closing, Brazos Merger Sub., Inc., a wholly-owned subsidiary of the Company,
merged into TB&T Bancshares Inc. , with TB&T Bancshares, Inc. surviving as a
wholly owned subsidiary of the Company. Immediately following such merger, TB&T
Bancshares, Inc. was merged into the Company and The Bank & Trust of
Bryan/College Station, Texas was merged into First Financial Bank, National
Association , Abilene, Texas , a wholly owned subsidiary of the Company. The total
purchase price exceeded the estimated fair value of the net assets acquired by
approximately $141.92 million and the Company recorded such excess as goodwill.
The balance sheet and results of operations of TB&T Bancshares, Inc. have been
included in the financial statements of the Company effective January 1, 2020 .
See note 11 to the consolidated financial statements for additional information
and disclosure.
Participation in PPP Loans
The Company elected to participate in the PPP loan program, subject to
prepayment, processing approximately 6,500 loans and funded $703.12 million . The
Company received fees totaling approximately $26.07 million and incurred
incremental direct origination costs of $3.62 million , both of which have been
deferred and are being amortized over the shorter of the repayment period or 24
months, the contractual life of these loans. The Company recognized
$2.83 million of this net amount into interest income in the second quarter of
2020.
Status of New Accounting Standard for Allowance for Credit Losses
On January 1, 2020 , ASU
2016-13
Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses
on Financial Instruments
, became effective for the Company which replaced the incurred loss methodology
with an expected loss methodology that is referred to as the current expected
credit loss (CECL) methodology. The measurement of expected credit losses under
the CECL methodology is applicable to financial assets measured at amortized
cost, including loan receivables. It also applies to
off-balance
sheet credit exposures not accounted for as insurance (loan commitments, standby
letters of credit, financial guarantees, and other similar instruments). In
addition, ASU
2016-13
made changes to the accounting for
available-for-sale
debt securities. One such change is to require credit losses to be presented as
an allowance rather than as a write-down on
available-for-sale
debt securities management does not intend to sell or believes that it is more
likely than not they will be required to sell.
On March 27, 2020 , the Coronavirus Aid, Relief, and Economic Security Act (CARES
Act) was signed by the President of the United States that included an option
for entities to delay the implementation of ASC 326 until the earlier of the
termination date of the national emergency declaration by the President or
December 31, 2020 . The Company elected to delay its implementation of ASU
2016-13
and has calculated and recorded its provision for loan losses under the incurred
loss model that existed prior to ASU
2016-13.
Prior to the CARES Act being signed and our decision to delay the implementation
of CECL, we were continuing our CECL implementation plan with our
cross-functional working group, under the direction of our Chief Credit Officer
along with our Chief Accounting Officer, Chief Lending Officer and Chief
Financial Officer. The working group includes individuals from various
functional areas including credit, risk management, accounting and information
technology, among others. Our implementation plan
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included assessment and documentation of processes, internal controls and data
sources; model development, documentation and validation; and system
configuration, among other things. We contracted with a third-party vendor to
assist us in the implementation of CECL. Had we completed the adoption and
implementation of CECL, we believe our allowance for loan losses amount at
January 1, 2020 would have been approximately $52.0 million . At December 31,
2019 , our allowance for loan losses totaled $52.5 million . In addition, we have
evaluated our expected credit losses for certain debt securities and other
financial assets and do not expect these allowances to be significant.
Additionally, the adoption and implementation of ASU
2016-13
is not expected to have a significant impact on our regulatory capital ratios.
As we continue to evaluate the provisions of ASU
2016-13
as of and for the three- and
six-
months ended June 30, 2020 , we have considered the following in developing our
forecast and its effect on our CECL calculations:
• duration, extent and severity of
COVID-19;
• effect of government assistance;
• unemployment and effect on economies and markets;
• price of oil and gas and effect on economy;
• value of real estate; and
• effect of our TB&T Bancshares, Inc. acquisition on our combined loan
portfolio.
We are unable as of the date of this report to provide an estimate of our
allowance for loan losses under the CECL model as of June 30, 2020 and the
provision for loan losses for the three- and
six-
months then ended.
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Results of Operations
Performance Summary
. Net earnings for the second quarter of 2020 were $53.47 million , up
$11.38 million when compared with earnings of $42.09 million in the same quarter
last year. Basic earnings per share were $0.38 for the second quarter of 2020
compared with $0.31 in the same quarter a year ago.
The return on average assets was 2.06% for the second quarter of 2020, as
compared to 2.14% for the second quarter of 2019. The return on average equity
was 14.00% for the second quarter of 2020 as compared to 15.04% for the second
quarter of 2019. The return on average tangible equity was 17.67% for the second
quarter of 2020 compared to 17.81% for the second quarter of 2019.
Net earnings for the
six-month
period ended June 30, 2020 were $90.70 million compared to $80.35 million for
the same period in 2019. Basic earnings per share for the first six months of
2020 were $0.64 compared to $0.59 for the same period in 2019.
The return on average assets was 1.86% for the first six months of 2020, as
compared to 2.08% for the same period a year ago. The return on average equity
was 12.09% for the first six months of 2020 as compared to 14.78% for the first
six months of 2019. The return on average tangible equity was 15.33% for the
first six months of 2020 as compared to 17.58% for the first six months of 2019.
Net Interest Income
. Net interest income is the difference between interest income on earning
assets and interest expense on liabilities incurred to fund those assets. Our
earning assets consist primarily of loans and investment securities. Our
liabilities to fund those assets consist primarily of noninterest-bearing and
interest-bearing deposits.
Tax-equivalent
net interest income was $92.14 million for the second quarter of 2020, as
compared to $73.28 million for the same period last year. The increase in 2020
compared to 2019 was largely attributable to the increase in interest earning
assets primarily from our TB&T acquisition, an increase in investment securities
held and the impact of the Company's participation in the PPP loan
programax-exempt
securities increased $1.20 billion and $630.45 million , respectively, for the
second quarter of 2020 over the same quarter of 2019. Average interest-bearing
liabilities increased $1.44 billion for the second quarter of 2020, as compared
to the same period in 2019 primarily from our customers depositing their PPP
loan amounts into our Bank, the TB&T acquisition and internal organic growth.
The yield on earning assets decreased 51 basis points while the rate paid on
interest-bearing liabilities decreased 50 basis points for the second quarter of
2020 compared to the second quarter of 2019.
Tax-equivalent
net interest income was $174.87 million for the first six months of 2020, as
compared to $144.61 million for the same period last year. The increase in 2020
compared to 2019 was largely attributable to the increase in interest earning
assets primarily from our TB&T acquisition, an increase in investment securities
held and the impact of the Company's participation in the PPP loan program.
Average earning assets increased $1.85 billion for the first six months of 2020
over the same period in 2019. Average loans and
tax-exempt
securities increased $949.47 million and $375.58 million , respectively, for the
first six months of 2020 over the first six months of 2019.
Average interest-bearing liabilities increased $1.13 billion for the first six
months of 2020, as compared to the same period in 2019 primarily from our
customers depositing their PPP loan amounts into our Bank, the TB&T acquisition
and internal organic growth. The yield on earning assets decreased 35 basis
points while the rate paid on interest-bearing liabilities decreased 32 basis
points for the first six months of 2020 compared to the first six months of
2019.
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Table 1 allocates the change in
tax-equivalent
net interest income between the amount of change attributable to volume and to
rate.
Table 1 - Changes in Interest Income and Interest Expense (in thousands):
Three Months Ended June 30, 2020 Six Months Ended June 30, 2020
Compared to Three Months Ended Compared to Six Months Ended
June 30, 2019 June 30, 2019
Change Attributable to Total Change Attributable to Total
Volume Rate Change Volume Rate Change
Short-term investments $ 1,401 $ (1,981 ) $
(580 )
2,268 (2,163 ) 105 4,596 (3,124 ) 1,472
Tax-exempt
investment securities (1) 5,720 (1,602 ) 4,118 6,863 (2,823 ) 4,040
Loans (1) (2) 16,700 (6,484 ) 10,216 25,953 (5,950 ) 20,003
Interest income 26,089 (12,230 ) 13,859 39,544 (14,473 ) 25,071
Interest-bearing deposits 1,632 (6,368 ) (4,736 ) 2,842 (7,558 ) (4,716 )
Short-term borrowings 890 (1,153 ) (263 ) 981 (1,454 ) (473 )
Interest expense 2,522 (7,521 ) (4,999 ) 3,823 (9,012 ) (5,189 )
Net interest income (1) $ 23,567 $ (4,709 ) $ 18,858 $ 35,721 $ (5,461 ) $ 30,260
(1) Computed on a
tax-equivalentbasis assuming a marginal tax rate of 21%.
(2) Non-accrual
loans are included in loans.
The net interest margin for the second quarter of 2020 was 3.78%, a decrease of 20 basis points from the same period in 2019. The net interest margin for the first six months of 2020 was 3.84%, a decrease of 15 basis points from the same period in 2019. We continue to experience downward pressures on our net interest margin in 2020 and 2019 primarily due to the extended period of fluctuating historically low levels of short-term interest rates and a flat to inverted yield curve currently being experienced in the bond market. We have been able to somewhat mitigate the impact of these lower short-term interest rates and the flat/inverted yield curve by establishing minimum interest rates on certain of our loans, improving the pricing for loan risk, and minimizing rates paid on interest bearing liabilities. InMarch 2020 , as the market experienced volatility, we took advantage of that volatility to purchase high quality municipal bonds at favorable tax equivalent interest yields. TheFederal Reserve increased rates 100 basis points in 2018 but then decreased rates 75 basis points during the third and fourth quarters of 2019 and then an additional 150 basis points in the first quarter of 2020, resulting in a current target rate range of zero to 25 basis points. The Company's participation in the PPP loan program impacted the net interest margin from (i) the amortization of loan fees (positive) and (ii) the 1% loan rate (negative). 43 -------------------------------------------------------------------------------- Table of Contents The net interest margin, which measures tax-equivalent net interest income as a percentage of average earning assets, is illustrated in Table 2. Table 2 - Average Balances and Average Yields and Rates (in thousands, except percentages): Three Months Ended June 30, 2020 2019 Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate Assets Short-term investments (1)$ 353,468 $ 87 0.10 %$ 112,817 $ 667 2.37 % Taxable investment securities (2) 2,399,364 14,030 2.34 2,063,497 13,925 2.70 Tax-exempt investment securities (2)(3) 1,800,339 14,733 3.27 1,169,889 10,615 3.63 Loans (3)(4) 5,248,052 66,249 5.08 4,043,055 56,033 5.56 Total earning assets 9,801,223$ 95,099 3.90 % 7,389,258$ 81,240 4.41 % Cash and due from banks 181,752 167,764 Bank premises and equipment, net 138,744 134,280 Other assets 87,091 63,629Goodwill and other intangible assets, net 319,200 174,263 Allowance for loan losses (63,192 ) (52,005 ) Total assets$ 10,464,818 $ 7,877,189 Liabilities and Shareholders' Equity Interest-bearing deposits$ 5,135,772 $ 2,550 0.20 %$ 4,196,123 $ 7,286 0.70 % Short-term borrowings 877,076 412 0.19 378,389 675 0.72 Total interest-bearing liabilities 6,012,848$ 2,962 0.20 % 4,574,512$ 7,961 0.70 % Noninterest-bearing deposits 2,830,960 2,136,264 Other liabilities 84,501 44,097 Total liabilities 8,928,309 6,754,873 Shareholders' equity 1,536,509 1,122,316 Total liabilities and shareholders' equity$ 10,464,818
Net interest income (3)$ 92,137 $ 73,279 Rate Analysis: Interest income/earning assets 3.90 % 4.41 % Interest expense/earning assets (0.12 ) (0.43 ) Net interest margin 3.78 % 3.98 % 44
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Six Months Ended June 30,
2020 2019
Average Income/ Yield/ Average Income/ Yield/
Balance Expense Rate Balance Expense Rate
Assets
Short-term investments (1) $ 292,245 $ 842 0.58 % $ 109,005 $ 1,286 2.38 %
Taxable investment securities (2) 2,331,347 28,685 2.46 1,994,563 27,213 2.73
Tax-exempt
investment securities (2)(3) 1,573,591 25,933 3.30 1,198,016 21,893 3.65
Loans (3)(4) 4,957,744 129,572 5.26 4,008,275 109,569 5.51
Total earning assets 9,154,927 $ 185,032 4.06 % 7,309,859 $ 159,961 4.41 %
Cash and due from banks 189,285 177,601
Bank premises and equipment, net 139,520 134,239
Other assets 87,818 64,004
Goodwill and other intangible
assets, net 318,822 174,396
Allowance for loan losses (61,134 ) (52,146 )
Total assets $ 9,829,238 $ 7,807,953
Liabilities and Shareholders' Equity
Interest-bearing deposits $ 5,019,929 $ 9,231 0.37 % $ 4,170,250 $ 13,947 0.67 %
Short-term borrowings 668,840 928 0.28 393,432 1,401 0.72
Total interest-bearing liabilities 5,688,769 $ 10,159 0.36 % 4,563,682 $ 15,348 0.68 %
Noninterest-bearing deposits 2,561,248 2,109,640
Other liabilities 70,726 38,758
Total liabilities 8,320,743 6,712,080
Shareholders' equity 1,508,495 1,095,873
Total liabilities and shareholders'
equity $ 9,829,238 Net interest income (3)$ 174,873 $ 144,613 Rate Analysis: Interest income/earning assets 4.06 % 4.41 % Interest expense/earning assets (0.22 ) (0.42 ) Net interest margin 3.84 % 3.99 %
(1) Short-term investments are comprised of federal funds sold, interest-bearing
deposits in banks and interest-bearing time deposits in banks.
(2) Average balances include unrealized gains and losses on
available-for-sale
securities.
(3) Computed on a
tax-equivalentbasis assuming a marginal tax rate of 21%.
(4) Non-accrual
loans are included in loans.
Noninterest Income . Noninterest income for the second quarter of 2020 increased to$36.92 million compared to$27.98 million in same period in 2019. Mortgage related income increased 189.68% to$13.68 million compared with$4.72 million in the same quarter a year ago due to a significant increase in the volume of loans originated. The Company's mortgage loan pipeline increased to$182.14 million as ofJune 30, 2020 when compared to$65.90 million atJune 30, 2019 . ATM, interchange and credit card fees increased 9.48% to$8.05 million compared with$7.35 million in the same quarter last year due to continued growth in the number of debit cards issued and our TB&T acquisition. Also included in noninterest income during the second quarter of 2020 was a gain on sale of securities of$1.51 million compared to$676 thousand from the same quarter a year ago. Trust fees decreased$66 thousand to$6.96 million in the second quarter of 2020 compared with$7.03 million in the same quarter last year due primarily to reduced mineral and lease bonus fees. The fair value of Trust assets managed increased to$6.78 billion from$6.19 billion a year ago. Service charges on deposits decreased to$4.32 million compared with$5.37 million in the same quarter a year ago due largely to the lack of economic activity caused by the pandemic during the second quarter of 2020. Noninterest income for the six-month period endedJune 30, 2020 was$65.65 million , an increase of$13.24 million compared to the same period in 2019. Mortgage related income increased in the first six months of 2020 to$17.53 million when compared to$8.20 million in the same period a year ago due to a significant increase in the volume of loans originated and additional income from the change to mandatory delivery related to sales in the secondary mortgage market (see notes 4 and 5 to the consolidated financial statements (unaudited)). ATM, interchange and credit card fees increased 8.86% to$15.45 million compared with$14.19 million in the same period last year due to continued growth in 45 -------------------------------------------------------------------------------- Table of Contents debit cards and our TB&T acquisition. Also included in noninterest income during the first six months of 2020 was a gain on sale of securities of$3.57 million compared to$676 thousand from the same quarter a year ago. Trust fees increased slightly to$14.40 million in the first six months of 2020 compared with$14.01 million in the same period in 2019. The fair value of Trust assets managed increased to$6.78 billion from$6.19 billion a year ago, but our revenue from oil and gas management decreased by$438 thousand due to decreased volumes in oil and gas production. Offsetting these increases was a$822 thousand decrease in interest on loan recoveries to$419 thousand for the first six months of 2020 compared to$1.24 million in the same period in 2019 due to the collection of a larger loan during the first six months of 2019 that had previously been on nonaccrual. In addition, service charges on deposits decreased to$10.23 million compared with$10.55 million in the same period last year ago due largely to the lack of economic activity caused by the pandemic during the second quarter of 2020. ATM and interchange fees are charges that merchants pay to us and other card-issuing banks for processing electronic payment transactions. ATM and interchange fees consist of income from debit card usage, point of sale income for debit card transactions and ATM service fees.Federal Reserve rules applicable to financial institutions that have assets of$10 billion or more provide that the maximum permissible interchange fee for an electronic debit transaction is limited to the sum of21 cents per transaction plus 5 basis points multiplied by the value of the transaction. Management has estimated the impact of this reduction in ATM and interchange fees to approximate$12.00 million annually (pre-tax) once the Company reaches$10 billion .Federal Reserve requirements stipulate that these rules would go into effect onJuly 1 st following the year-end in which a financial institution's total assets exceeded$10 billion atDecember 31 st . AtJune 30, 2020 , the Company's total assets exceeded the$10 billion threshold, due primarily to the effect of the Company's participation in the PPP loan program. Management continues to monitor the Company's balance sheet levels and may utilize strategies to reduce the Company's asset levels below$10 billion to mitigate the loss of debit card income. Table 3 - Noninterest Income (in thousands): Three Months Ended Six Months Ended June 30, June 30, Increase Increase 2020 (Decrease) 2019 2020 (Decrease) 2019 Trust fees$ 6,961 $ (66 ) $
7,027
(1,056 ) 5,374 10,233 (317 ) 10,550
ATM, interchange and credit card fees 8,049 697 7,352 15,449 1,257 14,192
Gain on sale and fees on mortgage loans 13,676 8,955 4,721 17,528 9,333 8,195
Net gain on sale of
available-for-sale
securities 1,512 836 676 3,574 2,898 676
Net gain on sale of foreclosed assets 52 (1 ) 53 53 (69 ) 122
Net gain (loss) on sale of assets (24 ) (30 ) 6 92 86 6
Interest on loan recoveries 154 (749 ) 903 419 (822 ) 1,241
Other:
Check printing fees 60 12 48 122 33 89
Safe deposit rental fees 177 58 119 370 57 313
Credit life fees 394 (26 ) 420 566 (48 ) 614
Brokerage commissions 334 (83 ) 417 719 (44 ) 763
Miscellaneous income 1,256 396 860 2,128 482 1,646
Total other 2,221 357 1,864 3,905 480 3,425
Total Noninterest Income $ 36,919 $ 8,943 $ 27,976 $ 65,651 $ 13,238 $ 52,413
46-------------------------------------------------------------------------------- Table of Contents Noninterest Expense . Total noninterest expense for the second quarter of 2020 was$53.32 million , an increase of$5.02 million compared to$48.30 million in the same period of 2019. An important measure in determining whether a financial institution effectively manages noninterest expense is the efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a tax-equivalent basis and noninterest income. Lower ratios indicate better efficiency since more income is generated with a lower noninterest expense total. Our efficiency ratio for the second quarter of 2020 was 41.32% compared to 47.71% for the same quarter in 2019. The reduction in the Company's efficiency ratio during the second quarter of 2020 primarily resulted from the deferral of$3.62 million in noninterest expenses related to PPP loan origination costs. Salaries, commissions and employee benefits for the second quarter of 2020 totaled$30.81 million , an increase of$3.42 million compared to the same period in 2019. The increase was primarily driven by (i) the TB&T acquisition, (ii) annual merit-based pay increases that were effectiveMarch 1, 2020 and (iii) higher mortgage related commission, offset by the deferral of$3.62 million PPP origination costs. All other categories of noninterest expense for the second quarter of 2020 totaled$22.51 million , up from$20.91 million in the same quarter a year ago. Included in noninterest expense in the second quarter of 2020 were technology contract termination and conversion related costs totaling$583 thousand related to the TB&T acquisition. Total noninterest expense for the first six months of 2020 was$108.64 million , an increase of$12.97 million when compared to$95.67 million in the same period in 2019. Our efficiency ratio for the first six months of 2020 was 45.17%, compared to 48.56% from the same period in 2019. Management notes the reduction in the Company's efficiency ratio for the first six months of 2020 primarily resulted from the deferral of$3.62 million in noninterest expenses related to PPP loan origination costs. Salaries, commissions and employee benefits for the first six months of 2020 totaled$60.46 million , an increase of$6.54 million when compared to the same period in 2019. The increase was primarily driven by (i) the TB&T acquisition, (ii) annual pay increases that were effectiveMarch 1, 2020 and (iii) higher mortgage related commission, offset by the deferral of$3.62 million PPP origination costs. All other categories of noninterest expense for the first six months of 2020 totaled$48.18 million , an increase of$6.43 million when compared to the same period in 2019. Included in noninterest expense in the first six months period of 2020 were technology contract termination and conversion related costs totaling$4.39 million related to the TB&T acquisition. 47 -------------------------------------------------------------------------------- Table of Contents Table 4 - Noninterest Expense (in thousands): Three Months Ended June 30, Six Months Ended June 30, Increase Increase 2020 (Decrease) 2019 2020 (Decrease) 2019
Salaries and commissions$ 23,270 $ 2,703 $ 20,567 $ 45,973 $ 5,729 $ 40,244 Medical 2,284 (4 ) 2,288 4,981 198 4,783 Profit sharing 1,978 94 1,884 2,950 (425 ) 3,375 Pension - (19 ) 19 - (42 ) 42 401(k) match expense 897 196 701 1,736 311 1,425 Payroll taxes 1,714 302 1,412 3,530 521 3,009 Stock option and stock grant expense 671 148 523 1,286 246 1,040 Total salaries and employee benefits 30,814 3,420 27,394 60,456 6,538 53,918 Loss from partial settlement of pension plan - - - - (900 ) 900 Net occupancy expense 3,101 322 2,779 6,128 586 5,542 Equipment expense 2,010 (321 ) 2,331 4,085 (699 ) 4,784 FDIC assessment fees 463 (75 ) 538 508 (568 ) 1,076 ATM, interchange and credit card expense 2,610 183 2,427 5,595 785 4,810 Professional and service fees 2,497 510 1,987 5,090 1,270 3,820 Printing, stationery and supplies 533 31 502 1,099 231 868 Operational and other losses 728 248 480 1,304 558 746 Software amortization and expense 2,010 227 1,783 4,034 654 3,380 Amortization of intangible assets 508 244 264 1,017 485 532 Other: Data processing fees 444 92 352 867 100 767 Postage 384 (22 ) 406 685 (156 ) 841 Advertising 485 (393 ) 878 805 (957 ) 1,762 Correspondent bank service charges 227 51 176 431 84 347 Telephone 913 (50 ) 963 1,876 (47 ) 1,923 Public relations and business development 526 (226 ) 752 1,401 (115 ) 1,516 Directors' fees 611 123 488 1,236 291 945 Audit and accounting fees 770 286 484 1,214 288 926 Legal fees 404 118 286 698 115 583 Regulatory exam fees 277 (14 ) 291 553 (29 ) 582 Travel 200 (336 ) 536 512 (363 ) 875 Courier expense 201 11 190 417 27 390 Other real estate owned 31 (31 ) 62 71 (1 ) 72 Other miscellaneous expense 2,574 619 1,955 8,558 4,790 3,768 Total other 8,047 228 7,819 19,324 4,027 15,297 Total Noninterest Expense$ 53,321 $ 5,017 $ 48,304 $ 108,640 $ 12,967 $ 95,673 48
-------------------------------------------------------------------------------- Table of Contents Balance Sheet Review Loans . Our portfolio is comprised of loans made to businesses, professionals, individuals, and farm and ranch operations located in the primary trade areas served by our subsidiary bank. Real estate loans represent loans primarily for 1-4 family residences and commercial real estate. The structure of loans in the real estate mortgage area generally provides re-pricing intervals to minimize the interest rate risk inherent in long-term fixed rate loans. As ofJune 30, 2020 , total loans held for investment were$5.25 billion , an increase of$1.06 billion , as compared toDecember 31, 2019 balances. This increase is due primarily from our participation in the PPP loan program and our TB&T acquisition. As compared toDecember 31, 2019 , commercial loans increased$653.13 million , agricultural loans decreased$6.19 million , real estate loans increased$411.84 million and consumer loans decreased$674 thousand . Loans averaged$5.25 billion during the second quarter of 2020, an increase of$1.20 billion from the prior year second quarter average balances. Loans averaged$4.96 billion during the first six months of 2020, an increase of$949.47 million from the prior year six-month period average balances. Table 5 - Composition of Loans (in thousands): June 30, December 31, 2020 2019 2019 Commercial$ 1,509,454 $ 813,887 $ 856,326 Agricultural 97,448 97,535 103,640 Real estate 3,235,208 2,730,585 2,823,372 Consumer 410,957 398,945 411,631 Total loans held-for-investment$ 5,253,067 $ 4,040,952 $ 4,194,969 AtJune 30, 2020 , our real estate loans represented approximately 61.59% of our loan portfolio and were comprised of (i) 1-4 family residence loans of 39.45%, (ii) commercial real estate loans of 29.58%, generally owner occupied, (iii) other loans, which includes ranches, hospitals and universities, of 14.51%, (iv) residential development and construction loans of 9.29%, which includes our custom and speculative home construction loans and (v) commercial development and construction loans of 7.17%. Loans held for sale, consisting of secondary market mortgage loans, totaled$66.37 million ,$22.31 million , and$28.23 million atJune 30, 2020 and 2019, andDecember 31, 2019 , respectively. AtJune 30, 2020 and 2019 andDecember 31, 2019 ,$3.08 million ,$3.32 million and$5.15 million , respectively, are valued using the lower of cost or fair value method and the remaining amounts are valued under the fair value option method. See notes 4 and 5 to the consolidated financial statements (unaudited) related to the change to mandatory delivery for sales in the secondary mortgage market. Asset Quality . Our loan portfolio is subject to periodic reviews by our centralized independent loan review group as well as periodic examinations by theOffice of the Comptroller of the Currency ("OCC"). Loans are placed on nonaccrual status when, in the judgment of management, the collectability of principal or interest under the original terms becomes doubtful. Nonaccrual, past due 90 days or more and still accruing, and restructured loans plus foreclosed assets were$39.72 million atJune 30, 2020 , as compared to$27.86 million atJune 30, 2019 and$25.77 million atDecember 31, 2019 . As a percent of loans and foreclosed assets, these assets were 0.75% atJune 30, 2020 , as compared to 0.69% atJune 30, 2019 and 0.61% atDecember 31, 2019 . As a percent of total assets, these assets were 0.38% atJune 30, 2020 , as compared to 0.35% atJune 30, 2019 and 0.31% atDecember 31, 2019 . We believe the level of these assets to be manageable and are not aware of any material classified credits not properly disclosed as nonperforming atJune 30, 2020 . Supplemental Oil and Gas Information . As ofJune 30, 2020 , the Company's exposure to the oil and gas industry totaled 2.78% of total loans, excluding PPP loans, or$128.14 million , up$8.35 million fromDecember 31, 2019 49 -------------------------------------------------------------------------------- Table of Contents year-end levels, and consisted (based on collateral supporting the loan) of (i) development and production loans of 10.09%, (ii) oil and gas field servicing loans of 7.36%, (iii) real estate loans of 41.50%, (iv) accounts receivable and inventory of 2.15%, (v) automobile of 10.82% and (vi) other of 28.08%. The following oil and gas information is as of and for the quarters endedJune 30, 2020 and 2019, andDecember 31, 2019 : June 30, December 31, 2020 2019 2019 Oil and gas related loans, excluding PPP loans$ 128,143 $ 107,097 $ 119,789 Oil and gas related loans as a % of total loans, excluding PPP loans 2.78 % 2.64 % 2.84 % Classified oil and gas related loans$ 28,366 $ 3,438 $ 7,041 Non-accrual oil and gas related loans 3,702 621 481 Net charge-offs for oil and gas related loans for quarter/year then ended 195 - - Allowance for oil and gas related loans as a % of oil and gas loans 4.17 % 2.95 % 2.54 % Supplemental COVID-19 Industry Exposure. In addition, atJune 30, 2020 , loan balances in the retail/restaurant/hospitality industries totaled$338.76 million or 7.34% of the Company's total loans, excluding PPP loans. Classified and nonperforming loans for these industries combined atJune 30, 2020 , totaled$15.84 million and$5.75 million , respectively. Net charge-offs related to this portfolio totaled$178 thousand and$308 thousand for the three and six-months endedJune 30, 2020 , respectively. Additional information related to the Company's retail/restaurant/hospitality industries follows below: June 30, March 31, 2020 2020 Retail loans$ 216,244 $ 217,380 Restaurant loans 46,418 25,570 Hotel loans 51,957 46,690 Other hospitality loans 23,230 8,470 Travel loans 908 937
Total Retail/Restaurant/Hospitality loans, excluding PPP loans
$ 338,757
Retail/Restaurant/Hospitality as a % of total loans, excluding PPP loans
7.34 % 6.39 %
Classified Retail/Restaurant/Hospitality loans $ 15,837 $ 5,680
Nonaccrual Retail/Restaurant/Hospitality loans 5,752 867
Net Charge-Offs for Retail/Restaurant/Hospitality loans 178 130
50
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Table 6 -
Non-accrual,
Past Due 90 Days or More and Still Accruing, Restructured Loans and Foreclosed
Assets (in thousands, except percentages):
June 30, December 31,
2020 2019 2019
Non-accrual
loans* $ 39,320 $ 26,408 $ 24,582
Loans still accruing and past due 90 days or more 92 300 153
Troubled debt restructured loans** 25 471 26
Nonperforming Loans 39,437 27,179 24,761
Foreclosed assets 287 681 1,009
Total nonperforming assets $ 39,724 $ 27,860 $ 25,770
As a % of loans and foreclosed assets 0.75 % 0.69 % 0.61 %
As a % of total assets 0.38 0.35 0.31
* Includes
impaired loans as of June 30, 2020 and 2019, and December 31, 2019 ,
respectively.
** Other troubled debt restructured loans of
business conditions and collection efforts, is doubtful are included in
non-accrual
loans at June 30, 2020 and 2019, and December 31, 2019 , respectively.
We record interest payments received on
non-accrual
loans as reductions of principal. Prior to the loans being placed on
non-accrual,
we recognized interest income on impaired loans of approximately $151 thousand
for the year ended December 31, 2019 . If interest on these impaired loans had
been recognized on a full accrual basis during the year ended December 31, 2019 ,
such income would have approximated $2.39 million . Such amounts for the 2020 and
2019 interim periods were not significant.
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Provision and Allowance for Loan Losses
. The allowance for loan losses is the amount we determine as of a specific date
to be appropriate to absorb probable losses on existing loans in which full
collectability is unlikely based on our review and evaluation of the loan
portfolio. For a discussion of our methodology, see note 1 to our notes to the
consolidated financial statements (unaudited). The provision for loan losses was
$8.70 million for the second quarter of 2020, as compared to $600 thousand for
the second quarter of 2019. The provision for loan losses was $18.55 million for
the
six-month
period ended June 30, 2020 as compared to $1.57 million for the same period in
2019. The provision for loan losses in 2020 reflects primarily the stress on our
loan portfolio from the increase in unemployment and economic effects of the
COVID-19
pandemic and the decrease in oil and gas prices. As a percent of average loans,
net loan charge-offs were 0.01% for the second quarter of 2020, as compared to
0.04% for the second quarter of 2019. As a percentage of average loans, net loan
charge-offs were 0.09% for the first six months of 2020, as compared to 0.05%
for the first six months of 2019. The allowance for loan losses as a percent of
total loans was 1.30% as of June 30, 2020 , as compared to 1.28% as of June 30,
2019 and 1.24% as of December 31, 2019 . While we note that our allowance for
loan losses as a percentage of total loans has remained relatively flat, we
acquired $455.18 million in loans in the TB&T Bancshares, Inc. acquisition that
were recorded at fair value, including credit considerations, with no
corresponding allowance for loan losses being recorded. The Company recorded a
$7.65 million discount on the acquired loan portfolio at acquisition date and
such amounts totaled $6.69 million at June 30, 2020 .
Table 7 - Loan Loss Experience and Allowance for Loan Losses (in thousands,
except percentages):
Three Months Ended Six Months Ended
June 30, June 30,
2020 2019 2020 2019
Allowance for loan losses at
period-end $ 68,947 $
51,820
Loans held for investment at period-end 5,253,067 4,040,952 5,253,067 4,040,952 Average total loans for period 5,248,052
4,043,055 4,957,744 4,008,275
Net charge-offs/average loans (annualized) 0.01 % 0.04 % 0.09 % 0.05 % Allowance for loan losses/period-end total loans 1.30 % 1.28 % 1.30 % 1.28 % Allowance for loan losses/non-accrual loans, past due 90 days still accruing and restructured loans 174.83 %
190.66 % 174.83 % 190.66 %
Interest-Bearing Demand Deposits in Banks. AtJune 30, 2020 , our interest-bearing deposits in banks were$196.43 million compared to$129.61 million atJune 30, 2019 and$47.92 million atDecember 31, 2019 , respectively. AtJune 30, 2020 , interest-bearing deposits in banks included$196.12 million maintained at theFederal Reserve Bank of Dallas and$302 thousand on deposit with theFederal Home Loan Bank of Dallas ("FHLB"). Available-for-Sale Securities . AtJune 30, 2020 , securities with a fair value of$4.12 billion were classified as securities available-for-sale. As compared toDecember 31, 2019 , the available-for-sale portfolio atJune 30, 2020 reflected (i) an increase inU.S. Treasury securities of$103 thousand , (ii) an increase of$661.30 million in obligations of states and political subdivisions, (iii) a decrease of$139 thousand in corporate bonds and other, and (iv) an increase of$44.29 million in mortgage-backed securities. We have seen an increase in our purchases of state and political subdivisions bonds in the first half of 2020 due to favorable shifts in tax equivalent yields. Our mortgage related securities are backed by GNMA,FNMA or FHLMC or are collateralized by securities backed by these agencies. See note 2 to the consolidated financial statements (unaudited) for additional disclosures relating to the investment portfolio atJune 30, 2020 and 2019, andDecember 31, 2019 . 52 -------------------------------------------------------------------------------- Table of Contents Table 8 - Maturities and Yields of Available-for-Sale Securities Held atJune 30, 2020 (in thousands, except percentages): Maturing After One Year After Five Years One Year Through Through After or Less Five Years Ten Years Ten Years Total Available-for-Sale: Amount Yield Amount Yield Amount Yield Amount Yield
Amount Yield
U.S. Treasury securities$ 10,122 0.85 % $
- - % $ - - % $ - - % $
10,122 0.85 % Obligations of states and political subdivisions 114,830 4.81
669,229 4.09 1,148,866 3.27 17,354 3.39
1,950,279 3.64
Corporate bonds and other securities 4,569 2.11 - - - - - - 4,569 2.11
Mortgage-backed securities 120,484 2.30 1,686,942 2.54 346,467 2.43 - - 2,153,893 2.51
Total$ 250,005 3.39 % $
2,356,171 2.98 %
All yields are computed on a tax-equivalent basis assuming a marginal tax rate of 21%. Yields on available-for-sale securities are based on amortized cost. Maturities of mortgage-backed securities are based on contractual maturities and could differ due to prepayments of underlying mortgages. Maturities of other securities are reported at the earlier of maturity date or call date. As ofJune 30, 2020 , the investment portfolio had an overall tax equivalent yield of 3.04%, a weighted average life of 4.42 years and modified duration of 3.94 years. Deposits . Deposits held by our subsidiary bank represent our primary source of funding. Total deposits were$8.16 billion as ofJune 30, 2020 , as compared to$6.37 billion as ofJune 30, 2019 and$6.60 billion as ofDecember 31, 2019 . Table 9 provides a breakdown of average deposits and rates paid for the three and six-month periods endedJune 30, 2020 and 2019, respectively. Table 9 - Composition of Average Deposits (in thousands, except percentages): Three Months Ended June 30, 2020 2019 Average Average Average Average Balance Rate Balance Rate Noninterest-bearing deposits$ 2,830,960 - %$ 2,136,264 - % Interest-bearing deposits: Interest-bearing checking 2,486,194 0.14 2,054,770 0.77 Savings and money market accounts 2,183,507 0.16 1,705,154 0.56 Time deposits under$100,000 196,165 0.31
188,188 0.69
Time deposits of
Total interest-bearing deposits 5,135,772 0.20 % 4,196,123 0.70 % Total average deposits$ 7,966,732 $ 6,332,387 Total cost of deposits 0.13 % 0.46 % 53
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Six Months Ended June 30,
2020 2019
Average Average Average
Average
Balance Rate Balance Rate
Noninterest-bearing deposits $ 2,561,248 - % $ 2,109,640 - %
Interest-bearing deposits:
Interest-bearing checking 2,466,112 0.33 2,056,068 0.74
Savings and money market accounts 2,083,604 0.31 1,675,909 0.56
Time deposits under $100,000 197,960 0.56
189,921 0.62
Time deposits of
Total interest-bearing deposits 5,019,929 0.37 % 4,170,250 0.67 % Total average deposits$ 7,581,177 $ 6,279,890 Total cost of deposits 0.25 % 0.45 % Borrowings. Included in borrowings were federal funds purchased, securities sold under repurchase agreements and advances from the FHLB of$449.22 million ,$362.01 million and$381.36 million atJune 30, 2020 and 2019 andDecember 31, 2019 , respectively. Securities sold under repurchase agreements are generally with significant customers of the Company that require short-term liquidity for their funds for which we pledge certain securities that have a fair value equal to at least the amount of the borrowings. The average balance of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were$877.08 million and$378.39 million in the second quarters of 2020 and 2019, respectively. The weighted average interest rates paid on these borrowings were 0.19% and 0.72% for the second quarters of 2020 and 2019, respectively. The average balances of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB was$668.84 million and$393.43 million for the six-month periods endedJune 30, 2020 and 2019, respectively. The weighted average interest rate on these short-term borrowings was 0.28% and 0.72% for the first six months of 2020 and 2019, respectively. Capital Resources We evaluate capital resources by our ability to maintain adequate regulatory capital ratios to do business in the banking industry. Issues related to capital resources arise primarily when we are growing at an accelerated rate but not retaining a significant amount of our profits or when we experience significant asset quality deterioration. Total shareholders' equity was$1.58 billion , or 15.30% of total assets atJune 30, 2020 , as compared to$1.16 billion or 14.60% of total assets atJune 30, 2019 and$1.23 billion , or 14.85% of total assets atDecember 31, 2019 . Included in shareholders' equity atJune 30, 2020 and 2019 andDecember 31, 2019 , were$151.24 million ,$60.57 million and$67.51 million , respectively, in unrealized gains (losses) on investment securities available-for-sale, net of related income taxes. For the second quarter of 2020, total shareholders' equity averaged$1.54 billion , or 14.68% of average assets, as compared to$1.12 billion , or 14.25% of average assets, during the same period in 2019. For the six months endedJune 30, 2020 , total shareholders' equity averaged$1.51 billion or 15.35%, as compared to$1.10 billion or 14.04% of total assets during the same period in 2019. Banking regulators measure capital adequacy by means of the risk-based capital ratios and the leverage ratio under the Basel III regulatory capital framework and prompt corrective action regulations. The risk-based capital rules provide for the weighting of assets and off-balance-sheet commitments and 54 -------------------------------------------------------------------------------- Table of Contents contingencies according to prescribed risk categories. Regulatory capital is then divided by risk-weighted assets to determine the risk-adjusted capital ratios. The leverage ratio is computed by dividing shareholders' equity less intangible assets by quarter-to-date average assets less intangible assets. Beginning inJanuary 2015 , under the Basel III regulatory capital framework, the implementation of the capital conservation buffer was effective for the Company starting at the 0.625% level and increasing 0.625% each year thereafter, until it reached 2.50% onJanuary 1, 2019 . The capital conservation buffer is designed to absorb losses during periods of economic stress and requires increased capital levels for the purpose of capital distributions and other payments. Failure to meet the amount of the buffer will result in restrictions on the Company's ability to make capital distributions, including dividend payments and stock repurchases, and to pay discretionary bonuses to executive officers. As ofJune 30, 2020 and 2019, andDecember 31, 2019 , we had a total capital to risk-weighted assets ratio of 22.03%, 21.16% and 21.13%, a Tier 1 capital to risk-weighted assets ratio of 20.78%, 20.04% and 20.06%; a common equity Tier 1 to risk-weighted assets ratio of 20.78%, 20.04% and 20.06% and a leverage ratio of 11.25%, 12.29% and 12.60%, respectively. The regulatory capital ratios as ofJune 30, 2020 and 2019, andDecember 31, 2019 were calculated under Basel III rules. The regulatory capital ratios of the Company and Bank under the Basel III regulatory capital framework are as follows: Minimum Capital Required-Basel III Required to be Fully Considered Well- Actual Phased-In* Capitalized As of June 30, 2020: Amount Ratio Amount Ratio Amount Ratio Total Capital to Risk-Weighted Assets: Consolidated$ 1,191,492 22.03 %$ 567,829 10.50 %$ 540,789 10.00 % First Financial Bank, N.A$ 1,086,019 20.13 % $
566,561 10.50 %
Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,123,866 20.78 %$ 459,671 8.50 %$ 324,474 6.00 % First Financial Bank, N.A$ 1,018,543 18.88 % $
458,645 8.50 %
Common Equity Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,123,866 20.78 %$ 378,552 7.00 % - N/A First Financial Bank, N.A$ 1,018,543 18.88 %$ 377,708 7.00 %$ 350,728 6.50 % Leverage Ratio: Consolidated$ 1,123,866 11.25 %$ 399,750 4.00 % - N/A First Financial Bank, N.A$ 1,018,543 10.22 % $
398,459 4.00 %
* At
fully
phased-in.
55--------------------------------------------------------------------------------
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Minimum Capital
Required-Basel III Required to be
Fully Considered Well-
Actual Phased-In* Capitalized
As of June 30, 2019: Amount Ratio Amount Ratio Amount Ratio
Total Capital to Risk-Weighted Assets:
Consolidated $ 995,299 21.16 % $ 493,803 10.50 % $ 470,288 10.00 %
First Financial Bank, N.A $ 901,188 19.21 % $
492,484 10.50 %
Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 942,670 20.04 %$ 399,745 8.50 %$ 282,173 6.00 % First Financial Bank, N.A$ 848,560 18.09 % $
398,677 8.50 %
Common Equity Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 942,670 20.04 %$ 329,202 7.00 % - N/A First Financial Bank, N.A$ 848,560 18.09 %$ 328,323 7.00 %$ 304,871 6.50 % Leverage Ratio: Consolidated$ 942,670 12.29 %$ 306,707 4.00 % - N/A First Financial Bank, N.A$ 848,560 11.11 %$ 305,515 4.00 %$ 381,893 5.00 % Minimum Capital Required Under Required to be Basel III Considered Well- Actual Phase-In Capitalized As of December 31, 2019: Amount Ratio Amount Ratio Amount Ratio Total Capital to Risk-Weighted Assets: Consolidated$ 1,051,029 21.13 %$ 522,275 10.50 %$ 497,405 10.00 % First Financial Bank, N.A$ 908,778 18.31 % $
521,081 10.50 %
Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 997,721 20.06 %$ 422,794 8.50 %$ 298,443 6.00 % First Financial Bank, N.A$ 855,470 17.24 % $
421,828 8.50 %
Common Equity Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 997,721 20.06 %$ 348,184 7.00 % - N/A First Financial Bank, N.A$ 855,470 17.24 %$ 347,388 7.00 %$ 322,574 6.50 % Leverage Ratio: Consolidated$ 997,721 12.60 %$ 316,850 4.00 % - N/A First Financial Bank, N.A$ 855,470 10.84 % $
315,570 4.00 %
In connection with the adoption of the Basel III regulatory capital framework,
our subsidiary bank made the election to continue to exclude accumulated other
comprehensive income from
available-for-sale
securities ("AOCI") from capital in connection with its quarterly financial
filing and, in effect, to retain the AOCI treatment under the prior capital
rules.
Interest Rate Risk
Interest rate risk results when the maturity or repricing intervals of
interest-earning assets and interest-bearing liabilities are different. Our
exposure to interest rate risk is managed primarily through our strategy of
selecting the types and terms of interest-earning assets and interest-bearing
liabilities that generate favorable earnings while limiting the potential
negative effects of changes in market interest rates. We use no
off-balance
sheet financial instruments to manage interest rate risk.
Our subsidiary bank has an asset liability management committee that monitors
interest rate risk and compliance with investment policies. The subsidiary bank
utilizes an earnings simulation model as the
56
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primary quantitative tool in measuring the amount of interest rate risk
associated with changing market rates. The model quantifies the effects of
various interest rate scenarios on projected net interest income and net income
over the next twelve months. The model measures the impact on net interest
income relative to a base case scenario of hypothetical fluctuations in interest
rates over the next twelve months. These simulations incorporate assumptions
regarding balance sheet growth and mix, pricing and the
re-pricing
and maturity characteristics of the existing and projected balance sheet.
As of June 30, 2020 , the model simulations projected that 100 and 200 basis
point increases in interest rates would result in positive variances in net
interest income of 4.43% and 8.86%, respectively, relative to the current
financial statement structure over the next twelve months, while a decrease in
interest rates of 100 and 200 basis points would result in a negative variance
in net interest income of 3.05% and 5.03%, respectively, relative to the current
financial statement structure over the next twelve months. These are good faith
estimates and assume that the composition of our interest sensitive assets and
liabilities existing at each
year-end
will remain constant over the relevant twelve-month measurement period and that
changes in market interest rates are instantaneous and sustained across the
yield curve regardless of duration of pricing characteristics on specific assets
or liabilities. Also, this analysis does not contemplate any actions that we
might undertake in response to changes in market interest rates. We believe
these estimates are not necessarily indicative of what actually could occur in
the event of immediate interest rate increases or decreases of this magnitude.
As interest-bearing assets and liabilities
re-price
in different time frames and proportions to market interest rate movements,
various assumptions must be made based on historical relationships of these
variables in reaching any conclusion. Since these correlations are based on
competitive and market conditions, we anticipate that our future results will
likely be different from the foregoing estimates, and such differences could be
material.
Should we be unable to maintain a reasonable balance of maturities and repricing
of our interest-earning assets and our interest-bearing liabilities, we could be
required to dispose of our assets in an unfavorable manner or pay a higher than
market rate to fund our activities. Our asset liability committee oversees and
monitors this risk.
Liquidity
Liquidity is our ability to meet cash demands as they arise. Such needs can
develop from loan demand, deposit withdrawals or acquisition opportunities.
Potential obligations resulting from the issuance of standby letters of credit
and commitments to fund future borrowings to our loan customers are other
factors affecting our liquidity needs. Many of these obligations and commitments
are expected to expire without being drawn upon; therefore the total commitment
amounts do not necessarily represent future cash requirements affecting our
liquidity position. The potential need for liquidity arising from these types of
financial instruments is represented by the contractual notional amount of the
instrument. Asset liquidity is provided by cash and assets which are readily
marketable or which will mature in the near future. Liquid assets include cash,
federal funds sold, and short-term investments in time deposits in banks.
Liquidity is also provided by access to funding sources, which include core
depositors and correspondent banks that maintain accounts with and sell federal
funds to our subsidiary bank. Other sources of funds include our ability to
borrow from short-term sources, such as purchasing federal funds from
correspondent banks, sales of securities under agreements to repurchase and
advances from the FHLB (see below) and an unfunded $25.00 million revolving line
of credit established with Frost Bank , a nonaffiliated bank, which matures in
June 2021 (see next paragraph).
Our subsidiary bank also has federal funds purchased lines of credit with two
non-affiliated
banks totaling $130.00 million . At June 30, 2020 , no amounts were drawn on these
lines of credit. Our subsidiary bank also has (i) an available a line of credit
with the FHLB totaling $1.79 billion at June 30, 2020 , secured by portions of
our loan portfolio and certain investment securities and (ii) access to the
Federal Reserve Bank of Dallas lending program. At June 30, 2020 , the Company
had no outstanding advances under these lines of credit.
The Company renewed its loan agreement, effective June 30, 2019 , with Frost
Bank . Under the loan agreement, as renewed and amended, we are permitted to draw
up to $25.00 million on a revolving line of
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credit. Prior to June 30, 2021 , interest is paid quarterly at
The Wall Street Journal
Prime Rate and the line of credit matures June 30, 2021 . If a balance exists at
June 30, 2021 , the principal balance converts to a term facility payable
quarterly over five years and interest is paid quarterly at
The Wall Street Journal
Prime Rate. The line of credit is unsecured. Among other provisions in the
credit agreement, we must satisfy certain financial covenants during the term of
the loan agreement, including, without limitation, covenants that require us to
maintain certain capital, tangible net worth, loan loss reserve, non-performing
asset and cash flow coverage ratios. In addition, the credit agreement contains
certain operational covenants, which among others, restricts the payment of
dividends above 55% of consolidated net income, limits the incurrence of debt
(excluding any amounts acquired in an acquisition) and prohibits the disposal of
assets except in the ordinary course of business. Since 1995, we have
historically declared dividends as a percentage of our consolidated net income
in a range of 37% (low) in 1995 to 53% (high) in 2003 and 2006. The Company was
in compliance with the financial and operational covenants at June 30, 2020 .
There was no outstanding balance under the line of credit as of June 30, 2020 or
December 31, 2019 .
In addition, we anticipate that future acquisitions of financial institutions,
expansion of branch locations or offerings of new products could also place a
demand on our cash resources. Available cash and cash equivalents at our parent
company which totaled $89.85 million at June 30, 2020 , investment securities
which totaled $3.62 million at June 30, 2020 and mature over 9 to 10 years,
available dividends from our subsidiaries which totaled $257.09 million at
June 30, 2020 , utilization of available lines of credit, and future debt or
equity offerings are expected to be the source of funding for these potential
acquisitions or expansions.
Our liquidity position is continuously monitored and adjustments are made to the
balance between sources and uses of funds as deemed appropriate. Liquidity risk
management is an important element in our asset/liability management process. We
regularly model liquidity stress scenarios to assess potential liquidity
outflows or funding problems resulting from economic disruptions, volatility in
the financial markets, unexpected credit events or other significant occurrences
deemed potentially problematic by management. These scenarios are incorporated
into our contingency funding plan, which provides the basis for the
identification of our liquidity needs. As of June 30, 2020 , management is not
aware of any events that are reasonably likely to have a material adverse effect
on our liquidity, capital resources or operations. We are monitoring closely the
economic impact of the coronavirus on our customers and the communities we
serve. Given the strong core deposit base and relatively low loan to deposit
ratios maintained at our subsidiary bank, we consider our current liquidity
position to be adequate to meet our short-term and long-term liquidity needs. In
addition, management is not aware of any regulatory recommendations regarding
liquidity that would have a material adverse effect on us.
Off-Balance
Sheet Arrangements.
We are a party to financial instruments with
off-balance
sheet risk in the normal course of business to meet the financing needs of our
customers. These financial instruments include unfunded lines of credit,
commitments to extend credit and federal funds sold to correspondent banks and
standby letters of credit. Those instruments involve, to varying degrees,
elements of credit and interest rate risk in excess of the amount recognized in
our consolidated balance sheets.
Our exposure to credit loss in the event of nonperformance by the counterparty
to the financial instrument for unfunded lines of credit, commitments to extend
credit and standby letters of credit is represented by the contractual notional
amount of these instruments. We generally use the same credit policies in making
commitments and conditional obligations as we do for
on-balance
sheet instruments.
Unfunded lines of credit and commitments to extend credit are agreements to lend
to a customer as long as there is no violation of any condition established in
the contract. These commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. Since many of the
commitments are expected to expire without being drawn upon, the total
commitment amounts do not necessarily represent future cash requirements. We
evaluate each customer's creditworthiness on a
case-by-case
basis. The amount of collateral obtained, as we deem necessary upon extension of
credit, is based on our credit evaluation of the counterparty. Collateral held
varies but may include accounts receivable, inventory, property, plant, and
equipment and income-producing commercial properties.
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Standby letters of credit are conditional commitments we issue to guarantee the
performance of a customer to a third party. The credit risk involved in issuing
letters of credit is essentially the same as that involved in extending loan
facilities to customers. The average collateral value held on letters of credit
usually exceeds the contract amount.
Table 10 - Commitments as of June 30, 2020 (in thousands):
Total Notional
Amounts
Committed
Unfunded lines of credit $ 810,957
Unfunded commitments to extend credit 520,515
Standby letters of credit 40,214
Total commercial commitments $ 1,371,686
We believe we have no other
off-balance
sheet arrangements or transactions with unconsolidated, special purpose entities
that would expose us to liability that is not reflected on the face of the
financial statements. Amounts related to interest rate lock commitments are not
included in this table.
Parent Company Funding
. Our ability to fund various operating expenses, dividends, and cash
acquisitions is generally dependent on our own earnings (without giving effect
to our subsidiaries), cash reserves and funds derived from our subsidiaries.
These funds historically have been produced by intercompany dividends and
management fees that are limited to reimbursement of actual expenses. We
anticipate that our recurring cash sources will continue to include dividends
and management fees from our subsidiaries. At June 30, 2020 , approximately
$257.09 million was available for the payment of intercompany dividends by our
subsidiaries without the prior approval of regulatory agencies. Our subsidiaries
paid aggregate dividends of $5.00 million and $4.00 million for the
six-month
periods ended June 30, 2020 and 2019, respectively.
Dividends
. Our long-term dividend policy is to pay cash dividends to our shareholders of
approximately 40% of annual net earnings while maintaining adequate capital to
support growth. We are also restricted by a loan covenant within our line of
credit agreement with Frost Bank to dividend no greater than 55% of net income,
as defined in such loan agreement. The cash dividend payout ratios have amounted
to 39.17% and 38.00% of net earnings for the first six months of 2020 and 2019,
respectively. Given our current capital position and projected earnings and
asset growth rates, we do not anticipate any significant change in our current
dividend policy. On April 28, 2020 the Board of Directors declared a $0.13 per
share cash dividend for the second quarter of 2020, an 8.33% increase over 2019.
Our bank subsidiary, which is a national banking association and a member of the
Federal Reserve System , is required by federal law to obtain the prior approval
of the OCC to declare and pay dividends if the total of all dividends declared
in any calendar year would exceed the total of (1) such bank's net profits (as
defined and interpreted by regulation) for that year plus (2) its retained net
profits (as defined and interpreted by regulation) for the preceding two
calendar years, less any required transfers to surplus.
To pay dividends, we and our subsidiary bank must maintain adequate capital
above regulatory guidelines. In addition, if the applicable regulatory authority
believes that a bank under its jurisdiction is engaged in or is about to engage
in an unsafe or unsound practice (which, depending on the financial condition of
the bank, could include the payment of dividends), the authority may require,
after notice and hearing, that such bank cease and desist from the unsafe
practice. The Federal Reserve , the FDIC and the OCC have each indicated that
paying dividends that deplete a bank's capital base to an inadequate level would
be an unsafe and unsound banking practice. The Federal Reserve , the OCC and the
FDIC have issued policy statements that recommend that bank holding companies
and insured banks should generally only pay dividends out of current operating
earnings.
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