UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2013
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 000-09439
INTERNATIONAL BANCSHARES CORPORATION
(Exact name of registrant as specified in its charter)
Texas
74-2157138
(State or other jurisdiction of
(I.R.S. Employer Identification No.)
incorporation or organization)
1200 San Bernardo Avenue, Laredo, Texas 78042-1359
(Address of principal executive offices)
(Zip Code)
(956) 722-7611
(Registrant’s telephone number, including area code)
None
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark if the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o(Do not check if a smaller reporting company)
Smaller reporting company o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date
Class
Shares Issued and Outstanding
Common Stock, $1.00 par value
67,204,987 shares outstanding at November 1, 2013
PART I - FINANCIAL INFORMATION
Item 1. Financial Statements
INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES
Consolidated Statements of Condition (Unaudited)
(Dollars in Thousands, except per share amounts)
September 30,
December 31,
2013
2012
Assets
Cash and due from banks
$
302,514
283,100
Investment securities:
Held-to-maturity (Market value of $2,400 on September 30, 2013 and $2,400 on December 31, 2012)
2,400
Available-for-sale (Amortized cost of $5,470,103 on September 30, 2013 and $5,423,189 on December 31, 2012)
5,448,750
5,525,015
Total investment securities
5,451,150
5,527,415
Loans
5,052,161
4,775,004
Less allowance for probable loan losses
(67,829
)
(58,193
Net loans
4,984,332
4,716,811
Bank premises and equipment, net
492,375
481,287
Accrued interest receivable
28,983
31,034
Other investments
386,302
372,739
Identified intangible assets, net
4,368
7,819
Goodwill
282,532
Other assets
144,102
179,936
Total assets
12,076,658
11,882,673
1
Consolidated Statements of Condition, continued (Unaudited)
Liabilities and Shareholders’ Equity
Liabilities:
Deposits:
Demand — non-interest bearing
2,651,632
2,465,750
Savings and interest bearing demand
2,759,122
2,867,151
Time
2,702,052
2,954,312
Total deposits
8,112,806
8,287,213
Securities sold under repurchase agreements
1,001,137
1,129,679
Other borrowed funds
1,289,493
749,027
Junior subordinated deferrable interest debentures
190,726
Other liabilities
67,145
90,320
Total liabilities
10,661,307
10,446,965
Shareholders’ equity:
Common shares of $1.00 par value. Authorized 275,000,000 shares; issued 95,736,255 shares on September 30, 2013 and 95,724,517 shares on December 31, 2012
95,736
95,725
Surplus
163,744
163,287
Retained earnings
1,428,057
1,369,543
Accumulated other comprehensive (loss) income (including $(5,991) and $(6,811) of comprehensive loss related to other- than-temporary impairment for non-credit related issues)
(13,677
65,662
1,673,860
1,694,217
Less cost of shares in treasury, 28,537,180 shares on September 30, 2013 and 28,537,180 December 31, 2012
(258,509
Total shareholders’ equity
1,415,351
1,435,708
Total liabilities and shareholders’ equity
See accompanying notes to consolidated financial statements.
2
Consolidated Statements of Income (Unaudited)
(Dollars in Thousands, except per share data)
Three Months Ended September 30,
Nine Months Ended September 30,
Interest income:
Loans, including fees
66,482
67,254
194,633
202,990
Taxable
21,821
23,388
60,941
71,128
Tax-exempt
3,318
2,972
9,439
8,682
Other interest income
29
161
71
440
Total interest income
91,650
93,775
265,084
283,240
Interest expense:
Savings deposits
885
1,074
2,852
4,176
Time deposits
3,644
5,910
12,067
18,650
7,162
8,811
22,042
29,380
Other borrowings
454
195
1,033
541
Junior subordinated interest deferrable debentures
862
1,430
3,191
5,378
Total interest expense
13,007
17,420
41,185
58,125
Net interest income
78,643
76,355
223,899
225,115
Provision for probable loan losses
5,800
5,349
17,561
16,741
Net interest income after provision for probable loan losses
72,843
71,006
206,338
208,374
Non-interest income:
Service charges on deposit accounts
25,026
23,748
72,363
69,601
Other service charges, commissions and fees
Banking
11,327
9,492
31,362
28,980
Non-banking
2,092
2,038
4,668
4,971
Investment securities transactions, net
—
32,935
9,601
35,527
Other investments, net
3,871
3,650
19,503
11,431
Other income
2,165
2,144
6,941
7,493
Total non-interest income
44,481
74,007
144,438
158,003
3
Consolidated Statements of Income, continued (Unaudited)
Non-interest expense:
Employee compensation and benefits
30,627
30,541
91,602
90,152
Occupancy
7,604
8,032
22,596
24,873
Depreciation of bank premises and equipment
6,433
6,618
19,677
20,335
Professional fees
3,669
4,279
11,344
11,820
Deposit insurance assessments
1,683
2,289
5,061
5,346
Net expense, other real estate owned
1,360
3,065
4,724
5,631
Amortization of identified intangible assets
1,156
1,163
3,451
3,463
Advertising
1,795
1,713
5,664
5,510
Early termination fee — securities sold under repurchase agreements
31,550
12,303
Impairment charges (Total other-than-temporary impairment losses, $(13), net of $(560), $(402), net of $(641), $(27), net of $(1,273), and $947, net of $300, included in other comprehensive loss)
573
239
1,300
647
Other
15,327
16,955
47,080
47,351
Total non-interest expense
70,227
106,444
224,802
246,678
Income before income taxes
47,097
38,569
125,974
119,699
Provision for income taxes
15,271
12,691
38,566
37,584
Net income
31,826
25,878
87,408
82,115
Preferred stock dividends
3,845
10,543
Net income available to common shareholders
22,033
71,572
Basic earnings per common share:
Weighted average number of shares outstanding:
67,197,847
67,225,701
67,192,112
67,246,793
.47
.33
1.30
1.06
Fully diluted earnings per common share:
67,333,442
67,301,701
67,301,863
67,326,856
4
Consolidated Statements of Comprehensive Income (Unaudited)
(Dollars in Thousands)
Other comprehensive income, net of tax
Net unrealized holding gains (losses) on securities available for Sale arising during period (tax effects of $609, $10,897, $(39,816) and $11,292)
1,132
20,238
(73,943
20,971
Reclassification adjustment for gains on securities available for sale included in net income (tax effects of $0, $(11,527), $(3,360)and $(12,434))
(21,408
(6,241
(23,093
Reclassification adjustment for impairment charges on available for sale securities included in net income (tax effects of $201, $84, $455 and $226)
372
155
845
421
1,504
(1,015
(79,339
(1,701
Comprehensive income
33,330
24,863
8,069
80,414
5
Consolidated Statements of Cash Flows (Unaudited)
Operating activities:
Adjustments to reconcile net income to net cash provided by operating activities:
Specific reserve, other real estate owned
478
2,032
Gain on sale of bank premises and equipment
(626
(734
Gain on sale of other real estate owned
(201
(239
Accretion of investment securities discounts
(2,844
(2,346
Amortization of investment securities premiums
35,666
20,290
(9,601
(35,527
Impairment charges on available-for-sale investment securities
Stock based compensation expense
322
366
Earnings from affiliates and other investments
(16,085
(8,836
Deferred tax (benefit) expense
(2,325
2,267
Decrease in accrued interest receivable
2,051
1,516
Net decrease (increase) in other assets
16,624
(271
Net increase in other liabilities
7,535
16,793
Net cash provided by operating activities
160,391
118,612
Investing activities:
Proceeds from maturities of held-to-maturity securities
1,125
Proceeds from sales and calls of available for sale securities
178,124
1,279,963
Purchases of available for sale securities
(1,274,574
(2,383,774
Principal collected on mortgage-backed securities
1,025,015
955,550
Net (increase) decrease in loans
(285,453
86,501
Purchases of other investments
(1,637
(2,956
Distributions received on other investments
4,159
8,845
Purchases of bank premises and equipment
(30,792
(23,650
Proceeds from sales of other real estate owned
19,303
25,643
Proceeds from sale of bank premises and equipment
653
3,795
Net cash used in investing activities
(365,202
(48,958
6
Consolidated Statements of Cash Flows, continued (Unaudited)
Financing activities:
Net increase in non-interest bearing demand deposits
185,882
182,477
Net decrease in savings and interest bearing demand deposits
(108,029
(22,938
Net decrease in time deposits
(252,260
(114,460
Net decrease in securities sold under repurchase agreements
(128,542
(175,017
Net increase in other borrowed funds
540,466
120,900
Purchase of treasury stock
(1,092
Redemption of senior preferred shares
(40,000
Proceeds from stock transactions
146
43
Payments of dividends on common stock
(13,438
(13,450
Payments of dividends on preferred stock
(7,911
Net cash provided by (used in) financing activities
224,225
(71,448
Increase (decrease) in cash and cash equivalents
19,414
(1,794
Cash and cash equivalents at beginning of period
261,885
Cash and cash equivalents at end of period
260,091
Supplemental cash flow information:
Interest paid
43,405
60,651
Income taxes paid
45,480
22,271
Non-cash investing and financing activities:
Accrued dividends, preferred shares
1,100
Dividends declared, not yet paid on common stock
15,456
13,445
Net transfer from loans to other real estate owned
(371
55,694
Purchases of available-for-sale securities not yet settled
442,240
7
Notes to Consolidated Financial Statements
(Unaudited)
Note 1 - Basis of Presentation
The accounting and reporting policies of International Bancshares Corporation (“Corporation”) and Subsidiaries (the Corporation and Subsidiaries collectively referred to herein as the “Company”) conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. The consolidated financial statements include the accounts of the Corporation and its wholly-owned subsidiaries, International Bank of Commerce, Laredo (“IBC”), Commerce Bank, International Bank of Commerce, Zapata, International Bank of Commerce, Brownsville and the Corporation’s wholly-owned non-bank subsidiaries, IBC Subsidiary Corporation, IBC Life Insurance Company, IBC Trading Company, IBC Capital Corporation and Premier Tierra Holdings, Inc. All significant inter-company balances and transactions have been eliminated in consolidation. The consolidated financial statements are unaudited, but include all adjustments, which, in the opinion of management, are necessary for a fair presentation of the results of the periods presented. All such adjustments were of a normal and recurring nature. It is suggested that these financial statements be read in conjunction with the financial statements and the notes thereto in the Company’s latest Annual Report on Form 10-K. The consolidated statement of condition at December 31, 2012 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. Certain reclassifications have been made to make prior periods comparable.
The Company operates as one segment. The operating information used by the Company’s chief executive officer for purposes of assessing performance and making operating decisions about the Company is the consolidated statements presented in this report. The Company has four active operating subsidiaries, namely, the bank subsidiaries, otherwise known as International Bank of Commerce, Laredo, Commerce Bank, International Bank of Commerce, Zapata and International Bank of Commerce, Brownsville.
The Company has evaluated all events or transactions that occurred through the date the Company issued these financial statements. During this period, the Company did not have any material recognizable or non-recognizable subsequent events.
Note 2 — Fair Value Measurements
ASC Topic 820,”Fair Value Measurements and Disclosures” (“ASC 820”) defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. ASC 820 applies to all financial instruments that are being measured and reported on a fair value basis. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date; it also establishes a fair value hierarchy that prioritizes the inputs used in valuation methodologies into the following three levels:
· Level 1 Inputs — Unadjusted quoted prices in active markets for identical assets or liabilities.
· Level 2 Inputs — Observable inputs other than Level 1 prices, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.
· Level 3 Inputs — Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or other valuation techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.
A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy is set forth below.
8
The following table represents assets and liabilities reported on the consolidated balance sheets at their fair value on a recurring basis as of September 30, 2013 by level within the fair value measurement hierarchy:
Fair Value Measurements at Reporting Date Using
(in thousands)
Quoted Prices
Assets/Liabilities
in Active
Measured at Fair
Markets for
Significant Other
Significant
Value
Identical
Observable
Unobservable
Inputs
(Level 1)
(Level 2)
(Level 3)
Measured on a recurring basis:
Assets:
Available for sale securities
Residential mortgage-backed securities
5,172,186
5,143,187
28,999
States and political subdivisions
247,731
28,833
Total
5,390,918
The following table represents assets and liabilities reported on the consolidated balance sheets at their fair value on a recurring basis as of December 31, 2012 by level within the fair value measurement hierarchy:
December 31, 2012
5,265,204
5,232,344
32,860
238,675
21,136
5,471,019
Investment securities available-for-sale are classified within level 2 and level 3 of the valuation hierarchy, with the exception of certain equity investments that are classified within level 1. For investments classified as level 2 in the fair value hierarchy, the Company obtains fair value measurements for investment securities from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. Investment securities classified as level 3 are non-agency mortgage-backed securities. The non-agency mortgage-backed securities held by the Company are traded in inactive markets and markets that have experienced significant decreases in volume and level of activity, as evidenced by few recent transactions, a significant decline or absence of new issuances, price quotations that are not based on comparable securities transactions and wide bid-ask spreads among other factors. As a result of the inability to use quoted market prices to determine fair value for these securities, the Company determined that fair value, as determined by level 3 inputs in the fair value hierarchy, is more appropriate for financial reporting and more consistent with the expected performance of the investments. For the investments classified within level 3 of the fair value hierarchy, the Company used a discounted cash flow model to determine fair value. Inputs in the model included both historical performance and expected future performance based on information currently available.
9
Assumptions used in the discounted cash flow model as of September 30, 2013 and December 31, 2012 were applied separately to those portions of the bond where the underlying residential mortgage loans had been performing under original contract terms for at least the prior 24 months and those where the underlying residential mortgages had not been meeting the original contractual obligation for the same period. Unobservable inputs included in the model are estimates on future principal prepayment rates, and default and loss severity rates. For that portion of the bond where the underlying residential mortgage had been meeting the original contract terms for at least 24 months, the Company used the following estimates in the model: (i) a voluntary prepayment rate of 7%, (ii) a 1% default rate, (iii) a loss severity rate of 25%, and (iv) a discount rate of 13%. The assumptions used in the model for the rest of the bond included the following estimates: (i) a voluntary prepayment rate of 2 %, (ii) a default rate of 4.5%, (iii) a loss severity rate that started at 60% for the first year (2012) then declines by 5% for the following five years (2013, 2014, 2015, 2016 and 2017) and remains at 25% thereafter (2018 and beyond), and (iv) a discount rate of 13%. The estimates used in the model to determine fair value are based on observable historical data of the underlying collateral. The model anticipates that the housing market will gradually improve and that the underlying collateral will eventually all perform in accordance with the original contract terms on the bond. Should the number of loans in the underlying collateral that default and go into foreclosure or the severity of the losses in the underlying collateral significantly change, the results of the model would be impacted. The Company will continue to evaluate the actual historical performance of the underlying collateral and will modify the assumptions used in the model as necessary.
The following table presents a reconciliation of activity for such mortgage-backed securities on a net basis (Dollars in Thousands):
Balance at December 31, 2012
Principal paydowns
(3,833
Total unrealized gains (losses) included in:
Other comprehensive loss
1,272
Impairment realized in earnings
(1,300
Balance at September 30, 2013
Certain assets and liabilities are measured at fair value on a nonrecurring basis. They are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).
10
The following table represents assets measured at fair value on a non-recurring basis as of and for the period ended September 30, 2013 by level within the fair value measurement hierarchy:
Quoted
Net Provision
Prices in
During
Active
Period
Nine Months
ended
Measured on a non-recurring basis:
Impaired loans
29,159
11,048
Other real estate owned
11,656
The following table represents assets measured at fair value on a non-recurring basis as of and for the year ended December 31, 2012 by level within the fair value measurement hierarchy:
Net
Provision
Twelve
Months ended
11,981
295
18,749
The Company’s assets measured at fair value on a non-recurring basis are limited to impaired loans and other real estate owned. Impaired loans are classified within level 3 of the valuation hierarchy. The fair value of impaired loans is derived in accordance with FASB ASC 310, “Receivables”. Impaired loans are primarily comprised of collateral-dependent commercial loans. The fair value of impaired loans is based on the fair value of the collateral, as determined through an appraisal process. The basis for the Company’s appraisal and appraisal review process is based on regulatory guidelines and strives to comply with all regulatory appraisal laws, regulations and the Uniform Standards of Professional Appraisal Practice. Understanding that as the primary sources of loan repayments decline, the secondary repayment source comes into play and correctly evaluating the fair value of that secondary source, the collateral, becomes even more important. New or
11
updated appraisals may be obtained as warranted after evaluation of any material deterioration in the performance of the project, the conditions for the geographic area where the property is located, the property type, differences between the current property conditions and the conditions assumed in prior appraisals or evaluations, or changes in project specifications. All appraisals and evaluations are “as is” (the property’s highest and best use) valuations based on the current conditions of the property/project at that point in time. The determination of the fair value of the collateral is based on the net realizable value, which is the appraised value less any closing costs, when applicable. Impaired loans are remeasured and reported at fair value through a specific valuation allowance allocation of the allowance for probable loan losses based upon the fair value of the underlying collateral. As of September 30, 2013, the Company had $87,914,000 of impaired commercial collateral dependent loans, of which $70,548,000 had an appraisal or evaluation performed within the last twelve months. As of December 31, 2012, the Company had $73,646,000 of impaired commercial collateral dependent loans, of which $48,856,000 had an appraisal or evaluation performed within the last twelve months.
Other real estate owned is comprised of real estate acquired by foreclosure and deeds in lieu of foreclosure. Other real estate owned is carried at the lower of the recorded investment in the property or its fair value less estimated costs to sell such property (as determined by independent appraisal) within level 3 of the fair value hierarchy. Prior to foreclosure, the value of the underlying loan is written down to the fair value of the real estate to be acquired by a charge to the allowance for probable loan losses, if necessary. The fair value is reviewed periodically and subsequent write downs are made accordingly through a charge to operations. Other real estate owned is included in other assets on the consolidated financial statements. For the nine months ended September 30, 2013 and the twelve months ended December 31, 2012, respectively the Company recorded $237,000 and $10,450,000 in charges to the allowance for probable loan losses in connection with loans transferred to other real estate owned. For the nine months ended September 30, 2013 and twelve months ended December 31, 2012, respectively, the Company recorded $ 478,000 and $0 in adjustments to fair value in connection with other real estate owned.
The fair value estimates, methods, and assumptions for the Company’s financial instruments at September 30, 2013 and December 31, 2012 are outlined below.
Cash and Due From Banks and Federal Funds Sold
For these short-term instruments, the carrying amount is a reasonable estimate of fair value.
Time Deposits with Banks
The carrying amounts of time deposits with banks approximate fair value.
Investment Securities Held-to-Maturity
The carrying amounts of investments held-to-maturity approximate fair value.
Investment Securities
For investment securities, which include U.S. Treasury securities, obligations of other U.S. government agencies, obligations of states and political subdivisions and mortgage pass through and related securities, fair values are from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. See disclosures of fair value of investment securities in Note 6.
Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type such as commercial, real estate and consumer loans as outlined by regulatory reporting guidelines. Each category is segmented into fixed and variable interest rate terms and by performing and non-performing categories.
For variable rate performing loans, the carrying amount approximates the fair value. For fixed rate performing loans, except residential mortgage loans, the fair value is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. For performing residential mortgage loans, fair value is estimated by discounting contractual cash flows adjusted for prepayment estimates using discount rates based on secondary market sources or the primary origination market. Fixed rate performing loans are within Level 3 of the fair value hierarchy. At September 30, 2013, and December 31, 2012, the carrying amount of
12
fixed rate performing loans was $1,207,154,000 and $1,189,585,000 respectively, and the estimated fair value was $1,152,663,000 and $1,126,228,000, respectively.
Accrued Interest
The carrying amounts of accrued interest approximate fair value.
Deposits
The fair value of deposits with no stated maturity, such as non-interest bearing demand deposit accounts, savings accounts and interest bearing demand deposit accounts, was equal to the amount payable on demand as of September 30, 2013 and December 31, 2012. The fair value of time deposits is based on the discounted value of contractual cash flows. The discount rate is based on currently offered rates. Time deposits are within Level 3 of the fair value hierarchy. At September 30, 2013 and December 31, 2012, the carrying amount of time deposits was $2,702,052,000 and $2,954,312,000, respectively, and the estimated fair value was $2,695,908,000 and $2,962,190,000, respectively.
Securities Sold Under Repurchase Agreements
Securities sold under repurchase agreements include both short and long-term maturities. Due to the contractual terms of the short-term instruments, the carrying amounts approximated fair value at September 30, 2013 and December 31, 2012. The fair value of the long-term instruments is based on established market spreads using option adjusted spread methodology. Long-term repurchase agreements are within level 3 of the fair value hierarchy. At September 30, 2013 and December 31, 2012, respectively, the carrying amount of long-term repurchase agreements was $710,000,000 and $800,000,000 and the estimated fair value was $799,005,000 and $932,007,000, respectively.
Junior Subordinated Deferrable Interest Debentures
The Company currently has floating rate junior subordinated deferrable interest debentures outstanding. Due to the contractual terms of the floating rate junior subordinated deferrable interest debentures, the carrying amounts approximated fair value at September 30, 2013 and December 31, 2012.
Other Borrowed Funds
The company currently has short and long-term borrowings issued from the Federal Home Loan Bank (“FHLB”). Due to the contractual terms of the short-term borrowings, the carrying amounts approximated fair value at September 30, 2013 and December 31, 2012. The fair value of the long-term borrowings is based on established market spreads for similar types of borrowings. The long-term borrowings are included in Level 2 of the fair value hierarchy. At September 30, 2013 and December 31, 2012, the carrying amount of the long-term FHLB borrowings was $8,993,000, and $6,527,000, respectively, and the estimated fair value was $8,993,000 and $7,073,000, respectively.
Commitments to Extend Credit and Letters of Credit
Commitments to extend credit and fund letters of credit are principally at current interest rates, and, therefore, the carrying amount approximates fair value.
Limitations
Fair value estimates are made at a point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are
13
subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.
Fair value estimates are based on existing on-and off-statement of condition financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Other significant assets and liabilities that are not considered financial assets or liabilities include the bank premises and equipment and core deposit value. In addition, the tax ramifications related to the effect of fair value estimates have not been considered in the above estimates.
Note 3— Loans
A summary of loans, by loan type at September 30, 2013 and December 31, 2012 is as follows:
Commercial, financial and agricultural
2,841,022
2,525,380
Real estate — mortgage
837,326
838,467
Real estate — construction
1,119,342
1,147,669
Consumer
67,422
74,514
Foreign
187,049
188,974
Total loans
Note 4 - Allowance for Probable Loan Losses
The allowance for probable loan losses primarily consists of the aggregate loan loss allowances of the bank subsidiaries. The allowances are established through charges to operations in the form of provisions for probable loan losses. Loan losses or recoveries are charged or credited directly to the allowances. The allowance for probable loan losses of each bank subsidiary is maintained at a level considered appropriate by management, based on estimated probable losses in the loan portfolio. The allowance for probable loan losses is derived from the following elements: (i) allowances established on specific impaired loans, which are based on a review of the individual characteristics of each loan, including the customer’s ability to repay the loan, the underlying collateral values, and the industry in which the customer operates, (ii) allowances based on actual historical loss experience for similar types of loans in the Company’s loan portfolio, and (iii) allowances based on general economic conditions, changes in the mix of loans, company resources, border risk and credit quality indicators, among other things. All segments of the loan portfolio continue to be impacted by the prolonged economic downturn. Loans secured by real estate could be impacted negatively by the continued economic environment and resulting decrease in collateral values. Consumer loans may be impacted by continued and prolonged unemployment rates.
The Company’s management continually reviews the allowance for loan losses of the bank subsidiaries using the amounts determined from the allowances established on specific impaired loans, the allowance established on quantitative historical loss percentages, and the allowance based on qualitative data to establish an appropriate amount to maintain in the Company’s allowance for loan losses. Should any of the factors considered by management in evaluating the adequacy of the allowance for probable loan losses change, the Company’s estimate of probable loan losses could also change, which could affect the level of future provisions for probable loan losses. While the calculation of the allowance for probable loan losses utilizes management’s best judgment and all information available, the adequacy of the allowance is dependent on a variety of factors beyond the Company’s control, including, among other things, the performance of the entire loan portfolio, the economy, changes in interest rates and the view of regulatory authorities towards loan classifications.
The loan loss provision is determined using the following methods. On a weekly basis, loan past due reports are reviewed by the credit quality committee to determine if a loan has any potential problems and if a loan should be placed on the Company’s internal classified report. Additionally, the Company’s credit department reviews the majority of the Company’s loans for proper internal classification purposes regardless of whether they are past due and segregates any loans
14
with potential problems for further review. The credit department will discuss the potential problem loans with the servicing loan officers to determine any relevant issues that were not discovered in the evaluation. Also, an analysis of loans that is provided through examinations by regulatory authorities is considered in the review process. After the above analysis is completed, the Company will determine if a loan should be placed on an internal classified report because of issues related to the analysis of the credit, credit documents, collateral and/or payment history.
A summary of the transactions in the allowance for probable loan losses by loan class is as follows:
Quarter ended September 30, 2013
Domestic
Commercial
real estate:
other
construction &
land
farmland &
Residential:
development
commercial
multifamily
first lien
junior lien
Balance at June 30,
20,676
11,624
22,383
623
3,855
4,047
797
1,046
65,051
Losses charge to allowance
(3,540
(2
(22
(149
(130
(3,845
Recoveries credited to allowance
658
45
80
21
823
Net losses charged to allowance
(2,882
23
(69
(109
(3,022
Provision (credit) charged to operations
3,370
(10
1,549
112
186
404
124
65
Balance at September 30,
21,164
11,622
23,941
735
4,064
4,382
812
1,109
67,829
Quarter ended September 30, 2012
Commercial real estate: other construction & land
Commercial real estate: farmland &
Commercial real estate:
24,688
13,242
20,551
803
3,987
4,410
1,476
1,221
70,378
(3,521
(3
(1
(63
(282
(159
(7
(4,036
821
32
62
58
990
(2,700
31
(59
(220
(101
(3,046
3,312
44
1,138
(27
272
626
(47
25,300
13,296
21,720
776
4,200
4,816
1,406
1,167
72,681
15
Nine Months Ended September 30, 2013
Balance at December 31,
11,632
12,720
21,880
694
4,390
4,448
1,289
1,140
58,193
(8,866
(250
(61
(221
(544
(446
(10,410
1,909
36
150
54
204
127
2,485
(6,957
(214
89
(167
(340
(319
(17
(7,925
16,489
(884
1,972
41
274
(158
(14
Nine Months Ended September 30, 2012
26,617
19,940
24,227
1,003
4,562
4,760
1,724
1,359
84,192
(10,009
(7,574
(12,477
(129
(993
(595
(12
(31,789
2,823
225
163
168
151
3,537
(7,186
(7,349
(12,314
(122
(825
(444
(28,252
5,869
705
9,807
(227
(240
881
126
(180
The allowance for probable loan losses is a reserve established through a provision for probable loan losses charged to expense, which represents management’s best estimate of probable loan losses when evaluating loans (i) individually or (ii) collectively.
16
The table below provides additional information on the balance of loans individually or collectively evaluated for impairment and their related allowance, by loan class as of September 30, 2013 and December 31, 2012:
September 30, 2013
Loans individually evaluated for impairment
Loans collectively evaluated for impairment
Recorded Investment
Allowance
35,231
10,741
982,923
10,423
Commercial real estate: other construction & land development
36,304
852
1,083,038
10,770
Commercial real estate: farmland & commercial
17,038
3,404
1,705,918
20,537
Commercial real estate: multifamily
314
99,598
Residential: first lien
4,984
438,905
Residential: junior lien
3,219
390,218
1,481
65,941
455
186,594
99,026
14,997
4,953,135
52,832
32,768
1,477
736,342
10,155
28,660
539
1,119,009
12,181
13,945
2,730
1,659,377
19,150
353
82,595
3,656
453,075
1,850
379,886
1,326
73,188
447
188,527
83,005
4,746
4,691,999
53,447
17
The table below provides additional information on loans accounted for on a non-accrual basis by loan class at September 30, 2013 and December 31, 2012:
34,450
31,929
34,053
26,410
14,775
11,681
1,234
1,175
1,576
175
37
Total non-accrual loans
86,452
71,768
Impaired loans are those loans where it is probable that all amounts due according to contractual terms of the loan agreement will not be collected. The Company has identified these loans through its normal loan review procedures. Impaired loans are measured based on (1) the present value of expected future cash flows discounted at the loan’s effective interest rate; (2) the loan’s observable market price; or (3) the fair value of the collateral if the loan is collateral dependent. Substantially all of the Company’s impaired loans are measured at the fair value of the collateral. In limited cases the Company may use other methods to determine the level of impairment of a loan if such loan is not collateral dependent.
The following tables detail key information regarding the Company’s impaired loans by loan class at September 30, 2013 and December 31, 2012:
Quarter to Date
Year to Date
Unpaid Principal Balance
Related Allowance
Average Recorded Investment
Interest Recognized
Loans with Related Allowance
17,880
17,884
17,898
6,819
6,825
6,821
5,804
7,751
11,133
7,771
7,034
69
Total impaired loans with related allowance
32,450
35,838
32,476
30,736
98
18
Loans with No Related Allowance
17,351
17,993
17,238
16,915
29,485
29,542
22,414
20,788
53
9,287
10,289
8,775
6,787
316
330
5,117
4,878
4,441
117
3,238
2,731
25
2,059
74
1,486
1,458
1,313
457
456
Total impaired loans with no related allowance
66,576
68,436
58,267
92
53,089
258
1,633
1,679
21,126
39
3,671
6,608
6,678
9,923
7,342
11,982
15,273
35,076
131
19
31,135
31,170
2,996
24,989
25,160
39,449
141
7,267
9,340
16,536
381
3,984
2,876
60
1,944
1,939
104
1,330
1,193
166
71,023
73,728
65,536
323
The following tables detail key information regarding the Company’s average recorded investment in impaired loans and interest recognized on impaired loans by loan class at September 30, 2012:
September 30, 2012
22,729
22,517
23,479
7,117
11,518
198
202
33,715
33
57,716
20
840
538
26,689
27,632
122
14,069
14,850
374
388
2,957
1,836
1,958
79
1,271
1,149
61
48,128
64
49,061
244
A portion of the impaired loans have adequate collateral and credit enhancements not requiring a related allowance for loan loss. The level of impaired loans is reflective of the economic weakness that has been created by the financial crisis and the subsequent economic downturn. Management is confident the Company’s loss exposure regarding these credits will be significantly reduced due to the Company’s long-standing practices that emphasize secured lending with strong collateral positions and guarantor support. Management is likewise confident the reserve for probable loan losses is adequate. The Company has no direct exposure to sub-prime loans in its loan portfolio, but the sub-prime crisis has affected the credit markets on a national level, and as a result, the Company has experienced an increasing amount of impaired loans; however, management’s decision to place loans in this category does not necessarily mean that the Company will experience significant losses from these loans or significant increases in impaired loans from these levels.
Management of the Company recognizes the risks associated with these impaired loans. However, management’s decision to place loans in this category does not necessarily mean that losses will occur. In the current environment, troubled loan management can be protracted because of the legal and process problems that delay the collection of an otherwise collectable loan. Additionally, management believes that the collateral related to these impaired loans and/or the secondary support from guarantors mitigates the potential for losses from impaired loans. It is also important to note that even though the economic conditions in Texas and Oklahoma are weakened, we believe these markets are improving and better positioned to recover than many other areas of the country. Loans accounted for as “troubled debt restructuring,” which are included in impaired loans, were not significant and totaled $20,275,000 and $29,395,000 as of September 30, 2013 and December 31, 2012, respectively.
The bank subsidiaries charge off that portion of any loan which management considers to represent a loss as well as that portion of any other loan which is classified as a “loss” by bank examiners. Commercial and industrial or real estate
loans are generally considered by management to represent a loss, in whole or part, when an exposure beyond any collateral coverage is apparent and when no further collection of the loss portion is anticipated based on the borrower’s financial condition and general economic conditions in the borrower’s industry. Generally, unsecured consumer loans are charged-off when 90 days past due.
22
While management of the Company considers that it is generally able to identify borrowers with financial problems reasonably early and to monitor credit extended to such borrowers carefully, there is no precise method of predicting loan losses. The determination that a loan is likely to be uncollectible and that it should be wholly or partially charged-off as a loss is an exercise of judgment. Similarly, the determination of the adequacy of the allowance for probable loan losses can be made only on a subjective basis. It is the judgment of the Company’s management that the allowance for probable loan losses at September 30, 2013 was adequate to absorb probable losses from loans in the portfolio at that date.
The following table presents information regarding the aging of past due loans by loan class at September 30, 2013 and December 31, 2012:
30 — 59 Days
60 — 89 Days
90 Days or Greater
90 Days or greater & still accruing
Total Past due
Current
Total Portfolio
4,319
1,054
35,379
1,227
40,752
977,402
1,018,154
1,916
292
32,593
38
34,801
1,084,541
7,436
297
9,122
1,728
16,855
1,706,101
1,722,956
418
732
99,180
99,912
6,538
3,060
8,612
18,210
425,679
443,889
1,060
1,758
216
2,993
390,444
393,437
1,615
385
708
685
2,708
64,714
1,912
148
215
2,275
184,774
Total past due loans
25,214
5,411
88,701
11,847
119,326
4,932,835
4,393
471
3,386
2,689
8,250
760,860
769,110
1,107
2,300
24,225
497
1,120,037
3,127
21,272
2,310
929
26,709
1,646,613
1,673,322
1,038
81,910
82,948
4,305
2,510
10,645
9,657
17,460
439,271
456,731
2,035
410
259
115
2,704
379,032
381,736
1,598
915
882
2,917
71,597
2,257
1,005
264
3,526
185,448
19,507
28,372
42,357
15,033
90,236
4,684,768
The Company’s internal classified report is segregated into the following categories: (i) “Special Review Credits,” (ii) “Watch List - Pass Credits,” or (iii) “Watch List - Substandard Credits.” The loans placed in the “Special Review Credits” category reflect the Company’s opinion that the loans reflect potential weakness which require monitoring on a more frequent basis. The “Special Review Credits” are reviewed and discussed on a regular basis with the credit department and the lending staff to determine if a change in category is warranted. The loans placed in the “Watch List - Pass Credits” category reflect the Company’s opinion that the credit contains weaknesses which represent a greater degree of risk, which warrant “extra attention.” The “Watch List — Pass Credits” are reviewed and discussed on a regular basis with the credit department and the lending staff to determine if a change in category is warranted. The loans placed in the “Watch List — Substandard Credits” classification are considered to be potentially inadequately protected by the current sound worth and debt service capacity of the borrower or of any pledged collateral. These credit obligations, even if apparently protected by collateral value, have shown defined weaknesses related to adverse financial, managerial, economic, market or political conditions which may jeopardize repayment of principal and interest. Furthermore, there is the possibility that some future loss could be sustained by the Company if such weaknesses are not corrected. For loans that are classified as impaired, management evaluates these credits ASC 310-10, “Receivables,” and, if deemed necessary, a specific reserve is allocated to the credit. The specific reserve allocated under ASC 310-10, is based on (i) the present value of expected future cash flows discounted at the loan’s effective interest rate; (ii) the loan’s observable market price; or (iii) the fair value of the collateral if the loan is collateral dependent. Substantially all of the Company’s loans evaluated as impaired under ASC 310-10 are measured using the fair value of collateral method. In limited cases, the Company may use other methods to determine the specific reserve of a loan under ASC 310-10 if such loan is not collateral dependent.
The allowance based on historical loss experience on the Company’s remaining loan portfolio, which includes the “Special Review Credits,” “Watch List - Pass Credits,” and “Watch List - Substandard Credits” is determined by segregating the remaining loan portfolio into certain categories such as commercial loans, installment loans, international loans, loan concentrations and overdrafts. Installment loans are then further segregated by number of days past due. A historical loss percentage, adjusted for (i) management’s evaluation of changes in lending policies and procedures, (ii) current economic conditions in the market area served by the Company, (iii) other risk factors, (iv) the effectiveness of the internal loan review function, (v) changes in loan portfolios, and (vi) the composition and concentration of credit volume is applied to each category. Each category is then added together to determine the allowance allocated under ASC 450-20.
24
A summary of the loan portfolio by credit quality indicator by loan class at September 30, 2013 and December 31, 2012 is as follows:
Pass
Special Review
Watch List - Pass
Watch List - Substandard
Watch List - Impaired
911,393
8,244
16,623
46,663
1,044,439
25,064
9,164
4,371
1,558,965
101,674
19,698
25,581
433,944
119
4,842
389,920
298
65,937
183,900
2,080
614
4,688,096
137,181
45,485
82,373
December 31,2012
675,263
4,278
16,535
40,266
1,038,749
55,079
2,614
22,567
1,486,572
109,144
46,316
17,345
82,542
446,218
519
6,338
378,000
77
309
1,500
188,499
28
4,369,031
169,097
65,855
88,016
Note 5 — Stock Options
On April 5, 2012, the Board of Directors adopted the 2012 International Bancshares Corporation Stock Option Plan (the “2012 Plan”). There are 800,000 shares available for stock option grants under the 2012 Plan. Under the 2012 Plan, both qualified incentive stock options (“ISOs”) and non-qualified stock options (“NQSOs”) may be granted. Options granted may be exercisable for a period of up to 10 years from the date of grant, excluding ISOs granted to 10% shareholders, which may be exercisable for a period of up to only five years. As of September 30, 2013, 749,000 shares were available for future grants under the 2012 Plan.
A summary of option activity under the stock option plans for the nine months ended September 30, 2013 is as follows:
Number of options
Weighted average exercise price
Weighted average remaining contractual term (years)
Aggregate intrinsic value ($)
Options outstanding at December 31, 2012
794,877
19.03
Plus: Options granted
8,500
21.33
Less:
Options exercised
11,738
12.36
Options expired
22,343
23.50
Options forfeited
20,600
17.88
Options outstanding at September 30, 2013
748,969
19.06
3.18
Options fully vested and exercisable at September 30, 2013
426,476
22.74
1.34
991
Stock-based compensation expense included in the consolidated statements of income for the three and nine months ended September 30, 2013 was approximately $101,000 and $322,000, respectively. Stock-based compensation expense included in the consolidated statements of income for the three and nine months ended September 30, 2012 was approximately $113,000 and $366,000, respectively. As of September 30, 2013, there was approximately $900,000 of total unrecognized stock-based compensation cost related to non-vested options granted under the Company plans that will be recognized over a weighted average period of 1.85 years.
Note 6 - Investment Securities
The Company classifies debt and equity securities into one of three categories: held-to maturity, available-for-sale, or trading. Such securities are reassessed for appropriate classification at each reporting date. Securities classified as “held-to-maturity” are carried at amortized cost for financial statement reporting, while securities classified as “available-for-sale” and “trading” are carried at their fair value. Unrealized holding gains and losses are included in net income for those securities classified as “trading”, while unrealized holding gains and losses related to those securities classified as “available-for-sale” are excluded from net income and reported net of tax as other comprehensive income (loss) and accumulated other comprehensive income (loss) until realized, or in the case of losses, when deemed other than temporary.
The amortized cost and estimated fair value by type of investment security at September 30, 2013 are as follows:
Held to Maturity
Amortized cost
Gross unrealized gains
Gross unrealized losses
Estimated fair value
Carrying value
Other securities
26
Available for Sale
Carrying value (1)
5,197,331
70,436
(95,581
Obligations of states and political subdivisions
244,697
9,758
(6,724
Equity securities
28,075
1,041
(283
5,470,103
81,235
(102,588
(1) Included in the carrying value of residential mortgage-backed securities are $1,894,858 of mortgage-backed securities issued by Ginnie Mae, $3,248,329 of mortgage-backed securities issued by Fannie Mae and Freddie Mac and $28,999 issued by non-government entities
The amortized cost and estimated fair value by type of investment security at December 31, 2012 are as follows:
5,186,652
94,585
(16,033
216,962
23,504
(1,791
19,575
1,581
(20
5,423,189
119,670
(17,844
(1) Included in the carrying value of residential mortgage-backed securities are $2,035,742 of mortgage-backed securities issued by Ginnie Mae, $3,196,602 of mortgage-backed securities issued by Fannie Mae and Freddie Mac and $32,860 issued by non-government entities
The amortized cost and estimated fair value of investment securities at September 30, 2013, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to prepay obligations with or without prepayment penalties.
Amortized Cost
Due in one year or less
1,325
Due after one year through five years
1,075
Due after five years through ten years
697
744
Due after ten years
244,000
246,987
27
Residential mortgage-backed securities are securities issued by Freddie Mac, Fannie Mae, Ginnie Mae or non-government entities. Investments in residential mortgage-backed securities issued by Ginnie Mae are fully guaranteed by the U.S. Government. Investments in mortgage-backed securities issued by Freddie Mac and Fannie Mae are not fully guaranteed by the U.S. Government, however, the Company believes that the quality of the bonds is similar to other AAA rated bonds with limited credit risk, particularly given the placement of Fannie Mae and Freddie Mac into conservatorship by the federal government in early September 2008 and because securities issued by others that are collateralized by residential mortgage-backed securities issued by Fannie Mae or Freddie Mac are rated consistently as AAA rated securities.
The amortized cost and fair value of available for sale investment securities pledged to qualify for fiduciary powers, to secure public monies as required by law, repurchase agreements and short-term fixed borrowings was $2,070,772,000 and $2,106,076,000 at September 30, 2013.
Proceeds from the sale of securities available-for-sale were $0 and $178,124,000 for the three and nine months ended September 30, 2013, which included $0 and $177,623,000 of mortgage-backed securities. Gross gains of $0 and $9,601,000 and gross losses of $0 and $0 were realized on the sales for the three and nine months ended September 30, 2013, respectively. Proceeds from the sale of securities available-for-sale were $1,207,581,000 and $1,279,963,000 for the three and nine months ended September 30, 2012, which included $1,205,556,000 and $1,237,071,000 of mortgage-backed securities. Gross gains of $32,935,000 and $35,528,000 and gross losses of $0 and $(1,000) were realized on the sales for the three and nine months ended September 30, 2012, respectively.
Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at September 30, 2013 were as follows:
Less than 12 months
12 months or more
Fair Value
Unrealized Losses
Available for sale:
2,599,415
(84,205
94,376
(11,376
2,693,791
51,800
(2,859
12,044
(3,865
63,844
Other equity securities
10,470
(279
(4
10,541
2,661,685
(87,343
106,491
(15,245
2,768,176
Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, at December 31, 2012 were as follows:
738,492
(5,476
(10,557
771,352
(114
10,437
(1,677
15,554
56
743,609
(5,590
43,353
(12,254
786,962
The unrealized losses on investments in residential mortgage-backed securities are primarily caused by changes in market interest rates. Residential mortgage-backed securities are primarily securities issued by Freddie Mac, Fannie Mae and Ginnie Mae. Investments in mortgage-backed securities issued by Ginnie Mae are fully guaranteed by the U.S. Government. Investments in mortgage-backed securities issued by Freddie Mac and Fannie Mae are not fully guaranteed by the U.S. Government, however, the Company believes that the quality of the bonds is similar to other AAA rated bonds with limited credit risk, particularly given the placement of Fannie Mae and Freddie Mac into conservatorship by the federal government in early September 2008 and because securities issued by others that are collateralized by residential mortgage-backed securities issued by Fannie Mae or Freddie Mac are rated consistently as AAA rated securities. The decrease in fair value on residential mortgage-backed securities issued by Freddie Mac, Fannie Mae and Ginnie Mae is due to market interest rates. The Company has no intent to sell such mortgage-backed securities, and will more than likely not be required to sell such securities before a market price recovery or maturity of the securities; therefore, it is the conclusion of the Company that the investments in residential mortgage-backed securities issued by Freddie Mac, Fannie Mae and Ginnie Mae are not considered other-than-temporarily impaired. In addition, the Company has a small investment in non-agency residential mortgage-backed securities that have strong credit backgrounds and include additional credit enhancements to protect the Company from losses arising from high foreclosure rates. These securities have additional market volatility beyond economically induced interest rate events. It is the conclusion of the Company that the investments in non-agency residential mortgage-backed securities are other-than-temporarily impaired due to both credit and other than credit issues. Impairment charges of $573,000 ($372,000, after tax) and $1,300,000 ($845,000, after tax) were recorded for the three and nine months ended September 30, 2013. Impairment charges of $239,000 ($155,000, after tax) and $647,000 ($421,000, after tax) were recorded for the three and nine months ended September 30, 2012. The impairment charge represents the credit related impairment on the securities.
The unrealized losses on investments in other securities are caused by fluctuations in market interest rates. The underlying cash obligations of the securities are guaranteed by the entity underwriting the debt instrument. It is the belief of the Company that the entity issuing the debt will honor its interest payment schedule, as well as the full debt at maturity. The securities are purchased by the Company for their economic value. The decrease in fair value is primarily due to market interest rates and not other factors, and because the Company has no intent to sell and will more than likely not be required to sell before a market price recovery or maturity of the securities, it is the conclusion of the Company that the investments are not considered other-than-temporarily impaired.
The following table presents a reconciliation of credit-related impairment charges on available-for-sale investments recognized in earnings for the three months ended September 30, 2013 (Dollars in Thousands):
Balance at June 30, 2013
11,159
Impairment charges recognized during period
11,732
The following table presents a reconciliation of credit-related impairment charges on available-for-sale investments recognized in earnings for the nine months ended September 30, 2013 (Dollars in Thousands):
10,432
The following table presents a reconciliation of credit-related impairment charges on available-for-sale investment recognized in earnings for the three months ended September 30, 2012 (Dollars in Thousands):
Balance at June 30, 2012
9,801
Balance at September 30, 2012
10,040
The following table presents a reconciliation of credit-related impairment charges on available-for-sale investment recognized in earnings for the nine months ended September 30, 2012 (Dollars in Thousands):
Balance at December 31, 2011
9,393
Note 7 — Other Borrowed Funds
Other borrowed funds include Federal Home Loan Bank borrowings, which are short-term and long-term borrowings issued by the FHLB of Dallas at the market price offered at the time of funding. These borrowings are secured by residential mortgage-backed investment securities and a portion of the Company’s loan portfolio. At September 30, 2013, other borrowed funds totaled $1,289,493,000, an increase of 72.2% from $749,027,000 at December 31, 2012. The increase in other borrowed funds is a result of purchases of available-for-sale securities.
Note 8 — Junior Subordinated Interest Deferrable Debentures
The Company has formed seven statutory business trusts under the laws of the State of Delaware, for the purpose of issuing trust preferred securities. The seven statutory business trusts formed by the Company (the “Trusts”) have each issued Capital and Common Securities and invested the proceeds thereof in an equivalent amount of junior subordinated debentures (the “Debentures”) issued by the Company. As of September 30, 2013 and December 31, 2012, the principal amount of debentures outstanding totaled $190,726,000.
The Debentures are subordinated and junior in right of payment to all present and future senior indebtedness (as defined in the respective indentures) of the Company, and are pari passu with one another. The interest rate payable on, and the payment terms of the Debentures are the same as the distribution rate and payment terms of the respective issues of Capital and Common Securities issued by the Trusts. The Company has fully and unconditionally guaranteed the obligations of each of the Trusts with respect to the Capital and Common Securities. The Company has the right, unless an Event of Default (as defined in the Indentures) has occurred and is continuing, to defer payment of interest on the Debentures for up to twenty consecutive quarterly periods on Trusts VI, VII, VIII, IX, X, XI and XII. If interest payments on any of the Debentures are deferred, distributions on both the Capital and Common Securities related to that Debenture would also be deferred. The redemption prior to maturity of any of the Debentures may require the prior approval of the Federal Reserve and/or other regulatory bodies.
For financial reporting purposes, the Trusts are treated as investments of the Company and not consolidated in the consolidated financial statements. Although the Capital Securities issued by each of the Trusts are not included as a component of shareholders’ equity on the consolidated statement of condition, the Capital Securities are treated as capital for regulatory purposes. Specifically, under applicable regulatory guidelines, the Capital Securities issued by the Trusts qualify as Tier 1 capital up to a maximum of 25% of Tier 1 capital on an aggregate basis. Any amount that exceeds the 25% threshold would qualify as Tier 2 capital. At September 30, 2013 and December 31, 2012, the total $190,726,000 of the Capital Securities outstanding qualified as Tier 1 capital.
30
The following table illustrates key information about each of the Capital and Common Securities and their interest rate at September 30, 2013:
Repricing Frequency
Interest Rate
Interest Rate Index
Maturity Date
Optional Redemption Date(1)
(In Thousands)
Trust VI
25,774
Quarterly
3.71
%
LIBOR + 3.45
November 2032
February 2008
Trust VII
10,310
3.52
LIBOR + 3.25
April 2033
April 2008
Trust VIII
3.32
LIBOR + 3.05
October 2033
October 2008
Trust IX
41,238
1.89
LIBOR + 1.62
October 2036
October 2011
Trust X
34,021
1.92
LIBOR + 1.65
February 2037
February 2012
Trust XI
32,990
July 2037
July 2012
Trust XII
20,619
1.71
LIBOR + 1.45
September 2037
September 2012
(1) The Capital Securities may be redeemed in whole or in part on any interest payment date after the Optional Redemption Date.
Note 9 — Common Stock and Dividends
The Company had outstanding 216,000 shares of Series A cumulative perpetual preferred stock (the “Senior Preferred Stock”), issued to the US Treasury under the Company’s participation in the Troubled Asset Relief Program Capital Purchase Program (the “TARP Capital Purchase Program”). The Company redeemed all of the Senior Preferred Stock in 2012. In conjunction with the purchase of the Senior Preferred Stock, the US Treasury received a warrant (the “Warrant”) to purchase 1,326,238 shares of the Company’s common stock (the “Warrant Shares”) at $24.43 per share, which would represent an aggregate common stock investment in the Company on exercise of the warrant in full equal to 15% of the Senior Preferred Stock investment. The term of the Warrant is ten years and was immediately exercisable. The Warrant is included as a component of Tier 1 capital. On June 12, 2013, the U. S. Treasury sold the Warrant to a third party. As of September 30, 2013, none of the Warrant had been exercised.
The Company paid cash dividends to the common shareholders of $.20 per share on April 19, 2013 to all holders of record on April 1, 2013 and $.23 per share on October 15, 2013 to all holders of record on September 30, 2013. Cash dividends of $.20 per share were paid to common shareholders on April 20, and October 15, 2012 to all holders of record on April 2 and September 28, 2012, respectively.
In April 2009, following receipt of the Treasury Department’s consent, the Board of Directors re-established a formal stock repurchase program that authorized the repurchase of up to $40 million of common stock within the following twelve months and on February 28, 2013, the Board of Directors extended the repurchase program and again authorized the repurchase of up to $40 million of common stock during the twelve month period commencing on April 9, 2013, which repurchase cap the Board is inclined to increase over time. Stock repurchases may be made from time to time, on the open market or through private transactions. Shares repurchased in this program will be held in treasury for reissue for various corporate purposes, including employee stock option plans. As of November 1, 2013, a total of 7,843,293 shares had been repurchased under all programs at a cost of $237,536,000.
Note 10 - Commitments and Contingent Liabilities
The Company is involved in various legal proceedings that are in various stages of litigation. Some of these actions allege “lender liability” claims on a variety of theories and claim substantial actual and punitive damages. The Company has determined, based on discussions with its counsel that any material loss in such actions, individually or in the aggregate, is remote or the damages sought, even if fully recovered, would not be considered material to the consolidated financial position, results of operations or cash flows of the Company. However, many of these matters are in various stages of proceedings and further developments could cause management to revise its assessment of these matters.
Note 11 — Capital Ratios
The Company had a Tier 1 capital to average total asset (leverage) ratio of 11.53% and 10.86%, risk-weighted Tier 1 capital ratio of 19.37% and 19.65% and risk-weighted total capital ratio of 20.40% and 20.60% at September 30, 2013 and December 31, 2012, respectively. The identified intangibles and goodwill of $286,900,000 as of September 30, 2013, recorded in connection with the acquisitions made by the Company, are deducted from the sum of core capital elements when determining the capital ratios of the Company. Under applicable regulatory guidelines, the Capital Securities issued by the Trusts qualify as Tier 1 capital up to a maximum of 25% of tier 1 capital on an aggregate basis. Any amount that exceeds the 25% threshold qualifies as Tier 2 capital. As of September 30, 2013, the total of $190,726,000 of the Capital Securities outstanding qualified as Tier 1 capital. The Company actively monitors the regulatory capital ratios to ensure that the Company’s bank subsidiaries are well capitalized under the regulatory framework.
Item 2 - Management’s Discussion and Analysis of Financial Condition and Results of Operations
The following discussion should be read in conjunction with the Company’s consolidated financial statements, and notes thereto, for the year-ended December 31, 2012, included in the Company’s 2012 Form 10-K. Operating results for the nine months ended September 30, 2013 are not necessarily indicative of the results for the year ending December 31, 2013, or any future period.
Special Cautionary Notice Regarding Forward Looking Information
Certain matters discussed in this report, excluding historical information, include forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the safe harbor created by these sections. Although the Company believes such forward-looking statements are based on reasonable assumptions, no assurance can be given that every objective will be reached. The words “estimate,” “expect,” “intend,” “believe” and “project,” as well as other words or expressions of a similar meaning are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this report. Such statements are based on current expectations, are inherently uncertain, are subject to risks and should be viewed with caution. Actual results and experience may differ materially from the forward-looking statements as a result of many factors.
Risk factors that could cause actual results to differ materially from any results that are projected, forecasted, estimated or budgeted by the Company in forward-looking statements include, among others, the following possibilities:
· Government intervention in the U.S. financial system, and the free enterprise system in general.
· Local, regional, national and international economic business conditions and the impact they may have on the Company, the Company’s customers, and such customers’ ability to transact profitable business with the Company, including the ability of its borrowers to repay their loans according to their terms or a change in the value of the related collateral.
· Volatility and disruption in national and international financial markets.
· The Company relies, in part, on external financing to fund the Company’s operations from the FHLB, the Fed and other sources and the unavailability of such funding sources in the future could adversely impact the Company’s growth strategy, prospects and performance.
· Changes in consumer spending, borrowings and savings habits.
· Changes in interest rates and market prices, which could reduce the Company’s net interest margins, asset valuations and expense expectations, including, without limitation, the repeal of federal prohibitions on the payment of interest on demand deposits.
· Changes in the capital markets utilized by the Company and its subsidiaries, including changes in the interest rate environment that may reduce margins.
· Changes in state and/or federal laws and regulations to which the Company and its subsidiaries, as well as their customers, competitors and potential competitors, are subject, including, without limitation, the impact of the Consumer Financial Protection Bureau as a new regulator of financial institutions, changes in the accounting, tax and regulatory treatment of trust preferred securities, as well as changes in banking, tax, securities, insurance, employment, environmental and immigration laws and regulations and the risk of litigation that may follow.
· Changes in U.S. — Mexico trade, including, without limitation, reductions in border crossings and commerce resulting from the Homeland Security Programs called “US-VISIT,” which is derived from Section 110 of the Illegal Immigration Reform and Immigrant Responsibility Act of 1996.
· The reduction of deposits from nonresident alien individuals due to the new IRS rules requiring U.S. financial institutions to report to the IRS deposit interest payments made to nonresident alien individuals.
· The loss of senior management or operating personnel.
· Increased competition from both within and outside the banking industry.
· The timing, impact and other uncertainties of the Company’s potential future acquisitions including the Company’s ability to identify suitable potential future acquisition candidates, the success or failure in the integration of their operations and the Company’s ability to maintain its current branch network and to enter new markets successfully and capitalize on growth opportunities.
· Changes in the Company’s ability to pay dividends on its Common Stock.
· Additions to the Company’s loan loss allowance as a result of changes in local, national or international conditions which adversely affect the Company’s customers, including, without limitation, lower real estate values or environmental liability risks associated with foreclosed properties.
· Greater than expected costs or difficulties related to the development and integration of new products and lines of business.
· Increased labor costs and effects related to health care reform and other laws, regulations and legal developments impacting labor costs.
· Impairment of carrying value of goodwill could negatively impact our earnings and capital.
· Changes in the soundness of other financial institutions with which the Company interacts.
· Political instability in the United States or Mexico.
· Technological changes or system failure or breaches of our network security could subject us to increased operating costs as well as litigation and other liabilities.
· Acts of war or terrorism.
· Natural disasters.
· Reduced earnings resulting from the write down of the carrying value of securities held in our securities available-for-sale portfolio following a determination that the securities are other-than-temporarily impaired.
· 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 standards setters.
· The costs and effects of regulatory developments, including the resolution of regulatory or other governmental inquiries and the results of regulatory examinations or reviews.
· The effect of final rules amending Regulation E that prohibit financial institutions from charging consumer fees for paying overdrafts on ATM and one-time debit card transactions, unless the consumer consents or opts-in to the overdraft service for those types of transactions, as well as the effect of any other regulatory or legal developments that limit overdraft services.
· The reduction of income and possible increase in required capital levels related to the adoption of new legislation, including, without limitation, the Dodd-Frank Regulatory Reform Act and the implementing rules and regulations, including the Federal Reserve’s rule that establishes debit card interchange fee standards and prohibits network exclusivity arrangements and routing restrictions that is negatively affecting interchange revenue from debit card transactions as well as revenue from consumer services.
· The possible increase in required capital and liquidity levels related to the implementation of capital and liquidity rules of the federal banking agencies that address or are impacted by the Basel III capital and liquidity standards.
· The enhanced due diligence burden imposed on banks related to the banks’ inability to rely on credit ratings under Dodd-Frank which may result in a limitation on the types of securities certain banks will be able to purchase as a result of the due diligence burden.
· The Company’s success at managing the risks involved in the foregoing items, or a failure or circumvention of the Company’s internal controls and risk management, policies and procedures.
Forward-looking statements speak only as of the date on which such statements are made. It is not possible to foresee or identify all such factors. The Company makes no commitment to update any forward-looking statement, or to disclose any facts, events or circumstances after the date hereof that may affect the accuracy of any forward-looking
statement, unless required by law.
Overview
The Company, which is headquartered in Laredo, Texas, with 216 facilities and more than 315 ATMs, provides banking services for commercial, consumer and international customers of South, Central and Southeast Texas and the State of Oklahoma. The Company is one of the largest independent commercial bank holding companies headquartered in Texas. The Company, through its bank subsidiaries, is in the business of gathering funds from various sources and investing those funds in order to earn a return. The Company either directly or through a bank subsidiary owns two insurance agencies, a liquidating subsidiary, a broker/dealer and a fifty percent interest in an investment banking unit that owns a broker/dealer. The Company’s primary earnings come from the spread between the interest earned on interest-bearing assets and the interest paid on interest-bearing liabilities. In addition, the Company generates income from fees on products offered to commercial, consumer and international customers.
The Company is very active in facilitating trade along the United States border with Mexico. The Company does a large amount of business with customers domiciled in Mexico. Deposits from persons and entities domiciled in Mexico comprise a large and stable portion of the deposit base of the Company’s bank subsidiaries. The Company also serves the growing Hispanic population through the Company’s facilities located throughout South, Central and Southeast Texas and the State of Oklahoma.
Expense control is an essential element in the Company’s long-term profitability. As a result, the Company monitors the efficiency ratio, which is a measure of non-interest expense to net interest income plus non-interest income closely. As the Company adjusts to regulatory changes related to Dodd-Frank, the Company’s efficiency ratio may suffer because the additional regulatory compliance costs are expected to increase non-interest expense. The Company monitors this ratio over time to assess the Company’s efficiency relative to its peers. The Company uses this measure as one factor in determining if the Company is accomplishing its long-term goals of providing superior returns to the Company’s shareholders.
Results of Operations
Summary
Consolidated Statements of Condition Information
Percent Increase (Decrease)
1.6
5.7
(2.1
72.2
Shareholders’ equity
(1.4
)%
34
Consolidated Statements of Income Information
Percent
Increase
(Decrease)
Interest income
(2.3
(6.4
Interest expense
(25.3
(29.1
3.0
(.5
8.4
4.9
Non-interest income
(39.9
(8.6
Non-interest expense
(34.0
(8.9
44.4
22.1
Per common share:
Basic
42.4
22.6
Diluted
Net Income
Net income available to common shareholders for the three months ended September 30, 2013 increased by 44.4% and net income available to common shareholders for the nine months ended September 30, 2013 increased by 22.1% when compared to the same period in 2012. Net income for the nine months ended September 30, 2013 was positively affected by the repayment of the TARP funds in the fourth quarter of 2012 which eliminated the continued payment of dividends on the Senior Preferred Stock that had been held by the U.S. Treasury, as well as the sale of available-for-sale investment securities totaling $6.2 million, net of tax. The securities sales were a result of the Company re-positioning a portion of the investment portfolio. Net income for the same period was negatively impacted by a charge of $8.0 million, net of tax, as a result of the Company’s lead bank subsidiary’s early termination of a portion of its long-term repurchase agreements in order to help manage its long-term funding costs. Net income was also negatively impacted by narrowing interest margins caused by slow loan demand, although loan demand is slightly improving, and declining yields in the bond markets. Net income also continues to be negatively affected by the burden of increasing compliance costs arising from the Dodd-Frank Act and heightened regulatory oversight.
35
Net Interest Income
(in Thousands)
(1.1
(4.1
(6.7
(14.3
11.6
8.7
(82.0
(83.9
(17.6
(31.7
(38.3
(35.3
(18.7
(25.0
132.8
90.9
(39.7
(40.7
Net interest income is the spread between income on interest earning assets, such as loans and securities, and the interest expense on liabilities used to fund those assets, such as deposits, repurchase agreements and funds borrowed. As part of its strategy to manage interest rate risk, the Company strives to manage both assets and liabilities so that interest sensitivities match. One method of calculating interest rate sensitivity is through gap analysis. A gap is the difference between the amount of interest rate sensitive assets and interest rate sensitive liabilities that re-price or mature in a given time period. Positive gaps occur when interest rate sensitive assets exceed interest rate sensitive liabilities, and negative gaps occur when interest rate sensitive liabilities exceed interest rate sensitive assets. A positive gap position in a period of rising interest rates should have a positive effect on net interest income as assets will re-price faster than liabilities. Conversely, net interest income should contract somewhat in a period of falling interest rates. Additionally, interest rate changes do not affect all categories of assets and liabilities equally or at the same time. Analytical techniques employed by the Company to supplement gap analysis include simulation analysis to quantify interest rate risk exposure. The gap analysis prepared by management is reviewed by the Investment Committee of the Company twice a year (see table on page 41 for the September 30, 2013 gap analysis). Management currently believes that the Company is properly positioned for interest rate changes; however if management determines at any time that the Company is not properly positioned, it will strive to adjust the interest rate sensitive assets and liabilities in order to manage the effect of interest rate changes.
Non-Interest Income
5.4
4.0
19.3
8.2
2.6
(6.1
(100.0
(73.0
6.1
70.6
1.0
(7.4
Total non-interest income decreased 8.6% for the nine months ended September 30, 2013 from the same period of 2012. Investment securities transactions increased for the nine months ended September 30, 2013 primarily due to the sale of residential mortgage-backed securities as a result of the Company re-positioning of a portion of its investment portfolio. Other investments income for the nine months ended September 30, 2013 was positively impacted due to the sale of assets in a partnership where the holding company held an equity position resulting in income of $5.5 million.
Non-Interest Expense
.3
(5.3
(9.2
(2.8
(3.2
(4.0
(26.5
(55.6
(16.1
(0.6
(.3
4.8
2.8
(100
(61.0
Impairment charges (Total other-than- temporary impairment losses, $(13), net of $(560), $(402), net of $(641), $(27), net of $(1,273) and $947, net of $300 included in other comprehensive income)
139.7
100.9
(9.6
(.6
Non-interest expense decreased 34.0% for the three months ended September 30, 2013 and 8.9% for the nine months ended September 30, 2013 compared to the same periods of 2012. Non-interest expense for the nine months ended September 30, 2013 was negatively impacted by a charge of $12.3 million recorded by the Company’s lead bank subsidiary. The lead bank subsidiary terminated a portion of its long-term repurchase agreements outstanding in order to help manage its long-term funding costs.
Financial Condition
Allowance for Probable Loan Losses
The allowance for probable loan losses increased 16.6% to $67,829,000 at September 30, 2013 from $58,193,000 at December 31, 2012. The change is primarily driven by the addition of a specific reserve of approximately $10,000,000 on a previously identified impaired commercial loan that further deteriorated during the nine months ended September 30, 2013, offset by a decrease in the general reserve due to the stability of general economic factors used in the calculation. The provision for probable loan losses charged to expense increased 4.9% to $17,561,000 for the nine months ended September 30, 2013 from $16,741,000 for the same period in 2012. The allowance for probable loan losses was 1.3% and 1.2% of total loans at September 30, 2013 and December 31, 2012, respectively.
Mortgage-backed securities are securities primarily issued by the Federal Home Loan Mortgage Corporation (“Freddie Mac”), Federal National Mortgage Association (“Fannie Mae”), and the Government National Mortgage Association (“Ginnie Mae”). Investments in residential mortgage-backed securities issued by Ginnie Mae are fully guaranteed by the U.S. Government. Investments in residential mortgage-backed securities issued by Freddie Mac and Fannie Mae are not fully guaranteed by the U.S. Government, however, the Company believes that the quality of the bonds is similar to other AAA rated bonds with limited credit risk, particularly given the placement of Fannie Mae and Freddie Mac into conservatorship by the federal government in early September 2008 and because securities issued by others that are collateralized by residential mortgage-backed securities issued by Fannie Mae or Freddie Mac are rated consistently as AAA rated securities.
Net loans increased 5.7% to $4,984,332,000 at September 30, 2013, from $4,716,811,000 at December 31, 2012. The increase in loans can be attributed to improved opportunities for loan growth.
Deposits decreased by 2.1% to $8,112,806,000 at September 30, 2013, from $8,287,213,000 at December 31, 2012. The Company is still experiencing a substantial amount of competition for deposits at higher than market rates. As a result, the Company has attempted to maintain certain deposit relationships but has allowed certain deposits to leave as the result of aggressive pricing.
Other borrowed funds increased by 72.2% to $1,289,493,000 at September 30, 2013, from $749,027,000 at December 31, 2012. The increase in other borrowed funds is a result of purchases of available-for-sale securities.
Foreign Operations
On September 30, 2013, the Company had $12,076,658,000 of consolidated assets, of which approximately $187,049,000, or 1.6%, was related to loans outstanding to borrowers domiciled in foreign countries, compared to $188,974,000, or 1.6%, at December 31, 2012. Of the $187,049,000, 91.1 % is directly or indirectly secured by U.S. assets, certificates of deposits and real estate; 8.4% is secured by foreign real estate; and .5% is unsecured.
Critical Accounting Policies
The Company has established various accounting policies which govern the application of accounting principles in the preparation of the Company’s consolidated financial statements. The significant accounting policies are described in the notes to the consolidated financial statements. Certain accounting policies involve significant subjective judgments and assumptions by management which have a material impact on the carrying value of certain assets and liabilities; management considers such accounting policies to be critical accounting policies.
The Company considers its Allowance for Probable Loan Losses as a policy critical to the sound operations of the bank subsidiaries. The allowance for probable loan losses consists of the aggregate loan loss allowances of the bank subsidiaries. The allowances are established through charges to operations in the form of provisions for probable loan losses. Loan losses or recoveries are charged or credited directly to the allowances. The allowance for probable loan losses of each bank subsidiary is maintained at a level considered appropriate by management, based on estimated probable losses in the loan portfolio. The allowance is derived from the following elements: (i) allowances established on specific impaired loans, which are based on a review of the individual characteristics of each loan, including the customer’s ability to repay the loan, the underlying collateral values, and the industry in which the customer operates (ii) allowances based on actual historical loss experience for similar types of loans in the Company’s loan portfolio and (iii) allowances based on general economic conditions, changes in the mix of loans, Company resources, border risk and credit quality indicators, among other things. See also discussion regarding the allowance for probable loan losses and provision for probable loan losses included in the results of operations and “Provision and Allowance for Probable Loan Losses” included in Notes 1 and 4 of the notes to Consolidated Financial Statements in the Company’s latest Annual Report on Form 10-K for further information regarding the Company’s provision and allowance for probable loan losses policy.
Liquidity and Capital Resources
The maintenance of adequate liquidity provides the Company’s bank subsidiaries with the ability to meet potential depositor withdrawals, provide for customer credit needs, maintain adequate statutory reserve levels and take full advantage of high-yield investment opportunities as they arise. Liquidity is afforded by access to financial markets and by holding appropriate amounts of liquid assets. The Company’s bank subsidiaries derive their liquidity largely from deposits of individuals and business entities. Deposits from persons and entities domiciled in Mexico comprise a stable portion of the deposit base of the Company’s bank subsidiaries. Other important funding sources for the Company’s bank subsidiaries during 2013 and 2012 were borrowings from FHLB, securities sold under repurchase agreements and large certificates of deposit, requiring management to closely monitor its asset/liability mix in terms of both rate sensitivity and maturity distribution. Primary liquidity of the Company and its subsidiaries has been maintained by means of increased investment in shorter-term securities, certificates of deposit and repurchase agreements. As in the past, the Company will continue to monitor the volatility and cost of funds in an attempt to match maturities of rate-sensitive assets and liabilities and respond accordingly to anticipated fluctuations in interest rates over reasonable periods of time.
The Company maintains an adequate level of capital as a margin of safety for its depositors and shareholders. At September 30, 2013, shareholders’ equity was $1,415,351,000 compared to $1,435,708,000 at December 31, 2012, a decrease of $20,358,000, or 1.4%. The decrease is primarily due to an increase in other comprehensive loss and the payment of cash dividends to shareholders, offset by the retention of earnings.
The Company had a leverage ratio of 11.53% and 10.86%, risk-weighted Tier 1 capital ratio of 19.37% and 19.65% and risk-weighted total capital ratio of 20.40% and 20.60% at September 30, 2013 and December 31, 2012, respectively. The identified intangibles and goodwill of $286,900,000 as of September 30, 2013, recorded in connection with the Company’s acquisitions, are deducted from the sum of core capital elements when determining the capital ratios of the Company.
As in the past, the Company will continue to monitor the volatility and cost of funds in an attempt to match maturities of rate-sensitive assets and liabilities, and respond accordingly to anticipate fluctuations in interest rates by adjusting the balance between sources and uses of funds as deemed appropriate. The net-interest rate sensitivity as of September 30, 2013 is illustrated in the table entitled “Interest Rate Sensitivity.” This information reflects the balances of assets and liabilities for which rates are subject to change. A mix of assets and liabilities that are roughly equal in volume and re-pricing characteristics represents a matched interest rate sensitivity position. Any excess of assets or liabilities results in an interest rate sensitivity gap.
The Company undertakes an interest rate sensitivity analysis to monitor the potential risk on future earnings resulting from the impact of possible future changes in interest rates on currently existing net asset or net liability positions. However, this type of analysis is as of a point-in-time position, when in fact that position can quickly change as market
conditions, customer needs, and management strategies change. Thus, interest rate changes do not affect all categories of asset and liabilities equally or at the same time. As indicated in the table, the Company is liability sensitive during the early time periods and asset sensitive in the longer periods. The Company’s Asset and Liability Committee semi-annually reviews the consolidated position along with simulation and duration models, and makes adjustments as needed to control the Company’s interest rate risk position. The Company uses modeling of future events as a primary tool for monitoring interest rate risk.
40
Interest Rate Sensitivity
Rate/Maturity
3 Months or Less
Over 3 Months to 1 Year
Over 1 Year to 5 Years
Over 5 Years
Rate sensitive assets
Investment securities
415,509
1,484,748
3,303,162
Loans, net of non-accruals
3,797,996
226,747
261,371
679,595
4,965,709
Total earning assets
4,213,505
1,711,495
3,564,533
927,326
10,416,859
Cumulative earning assets
5,925,000
9,489,533
Rate sensitive liabilities
1,133,718
1,266,363
301,915
Other interest bearing deposits
358,856
31,265
611,016
1,280,500
8,993
Total interest bearing liabilities
5,722,922
1,297,628
912,931
9,049
7,942,530
Cumulative sensitive liabilities
7,020,550
7,933,481
Repricing gap
(1,509,417
413,867
2,651,602
918,277
2,474,329
Cumulative repricing gap
(1,095,550
1,556,052
Ratio of interest-sensitive assets to liabilities
.74
1.32
3.90
102.48
1.31
Ratio of cumulative, interest- sensitive assets to liabilities
.84
1.20
Item 3. Quantitative and Qualitative Disclosures about Market Risk
During the first nine months of 2013, there were no material changes in market risk exposures that affected the quantitative and qualitative disclosures regarding market risk presented under the caption “Liquidity and Capital Resources” located on pages 18 through 24 of the Company’s 2012 Annual Report as filed as an exhibit to the Company’s Form 10-K for the year ended December 31, 2012.
Item 4. Controls and Procedures
Disclosure Controls and Procedures
The Company maintains disclosure controls and procedures designed to ensure that information required to be disclosed in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within specified time periods. As of the end of the period covered by this Quarterly Report on Form 10-Q, the Company’s principal executive officer and principal financial officer evaluated, with the participation of the Company’s management, the effectiveness of the Company’s disclosure controls and procedures (as defined in Exchange Act rules 13a-15(e) and 15d-15(e)). Based on the evaluation, which disclosed no material weaknesses, the Company’s principal executive officer and principal financial officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report.
Internal Control Over Financial Reporting
There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s most recent fiscal quarter that have materially affected or are reasonably likely to materially affect the Company’s internal control over financial reporting.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings
The Company is involved in various legal proceedings that are in various stages of litigation. Some of these actions allege “lender liability” claims on a variety of theories and claim substantial actual and punitive damages. The Company has determined, based on discussions with its counsel that any material loss in such actions, individually or in the aggregate, is remote or the damages sought, even if fully recovered, would not be considered material to the consolidated financial position or results of operations of the Company. However, many of these matters are in various stages of proceedings and further developments could cause management to revise its assessment of these matters.
1A. Risk Factors
There were no material changes in the risk factors as previously disclosed in Item 1A to Part I of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2012.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
From time to time, the Company’s Board of Directors has authorized stock repurchase plans. In April 2009, the Board of Directors established a formal stock repurchase program that authorized the repurchase of up to $40 million of common stock within the following twelve months and on February 28, 2013, the Board of Directors extended the repurchase program and again authorized the repurchase of up to $40 million of common stock during the twelve month period commencing on April 9, 2013, which repurchase cap the Board is inclined to increase over time. Stock repurchases may be made from time to time, on the open market or through private transactions. During the second quarter, the Company’s Board of Directors adopted a Rule 10b5-1 plan and intends to adopt additional Rule 10b5-1 trading plans that will allow the Company to purchase its shares of common stock during certain trading blackout periods when the Company ordinarily would not be in the market due to trading restrictions in its internal trading policy. Shares repurchased in this program will be held in treasury for reissue for various corporate purposes, including employee stock option plans. As of November 1, 2013, a total of 7,843,293 shares had been repurchased under all repurchase programs at a cost of $237,536,000. The Company is not obligated to repurchase shares under its stock purchase program or to enter into additional Rule 10b5-1 plans; however, during the term of a 10b5-1 Plan, purchases of common stock are automatic to the extent the conditions of the 10b5-1 Plan’s trading instructions are met. The timing, actual number and value of shares purchased will depend on many factors, including the Company’s cash flow and the liquidity and price performance of its shares of common stock.
Except for repurchases in connection with the administration of an employee benefit plan in the ordinary course of business and consistent with past practices, common stock repurchases are only conducted under publicly announced repurchase programs approved by the Board of Directors. The following table includes information about common stock share repurchases for the quarter ended September 30, 2013.
42
Total Number of Shares Purchased
Average Price Paid Per Share
Shares Purchased as Part of a Publicly- Announced Program
Approximate Dollar Value of Shares Available for Repurchase (1)
July 1 — July 31, 2013
40,000,000
August 1 — August 31, 2013
September 1 — September 30, 2013
(1) The repurchase program was extended on February 28, 2013 and allows for the repurchase of up to an additional $40,000,000 of treasury stock through April 9, 2014.
Item 6. Exhibits
The following exhibits are filed as a part of this Report:
31(a) —Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31(b) —Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32(a) —Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32(b) —Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
101++ — Interactive Data File
++ Attached as Exhibit 101 to this report are the following documents formatted in XBRL (Extensible Business Reporting Language): (i) the Condensed Consolidated Statement of Earnings for the three and nine months ended September 30, 2013 and 2012, (ii) the Condensed Consolidated Balance Sheet as of September 30, 2013 and December 31, 2012, and (iii) the Condensed Consolidated Statement of Cash Flows for the nine months ended September 30, 2013 and 2012. Users of this data are advised pursuant to Rule 406T of Regulation S-T that this interactive data file is deemed not filed or part of a registration statement or prospectus for purposes of sections 11 or 12 of the Securities Act of 1933, is deemed not filed for purposes of section 18 of the Securities and Exchange Act of 1934, and otherwise is not subject to liability under these sections.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Date:
November 6, 2013
/s/ Dennis E. Nixon
Dennis E. Nixon
President
/s/ Imelda Navarro
Imelda Navarro
Treasurer