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OKSB > SEC Filings for OKSB > Form 10-Q on 2-Nov-2012All Recent SEC Filings

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Form 10-Q for SOUTHWEST BANCORP INC


2-Nov-2012

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITIONS AND RESULTS OF OPERATIONS

Caution About Forward-Looking Statements.

We make forward-looking statements in this Form 10-Q and documents incorporated by reference into it that are subject to risks and uncertainties. We intend these statements to be covered by the safe harbor provision for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.

These forward-looking statements include:

• Statements of our goals, intentions, and expectations;

• Estimates of risks and of future costs and benefits;

• Expectations regarding our future financial performance and the financial performance of our operating segments;

• Expectations regarding regulatory actions;

• Expectations regarding our ability to utilize tax loss benefits;

• Assessments of loan quality, probable loan losses, and the amount and timing of loan payoffs;

• Estimates of the value of assets held for sale or available for sale; and

• Statements of our ability to achieve financial and other goals.

These forward-looking statements are subject to significant uncertainties because they are based upon: the amount and timing of future changes in interest rates, market behavior, and other economic conditions; future laws, regulations and accounting principles; changes in effective tax rates or the expiration of favorable tax provisions; changes in regulatory standards and examination policies; and a variety of other matters. These other matters include, among other things, the direct and indirect effects of economic conditions on interest rates, credit quality, loan demand, liquidity, and monetary and supervisory policies of banking regulators. Because of these uncertainties, the actual future results may be materially different from the results indicated by these forward-looking statements. In addition, Southwest's past growth and performance do not necessarily indicate its future results. For other factors, risks, and uncertainties that could cause actual results to differ materially from estimates and projections contained in forward-looking statements, please read the "Risk Factors" contained in Southwest's reports to the Securities and Exchange Commission.

The cautionary statements in this Form 10-Q and any documents incorporated by reference herein also identify important factors and possible events that involve risk and uncertainties that could cause our actual results to differ materially from those contained in the forward-looking statements. These forward-looking statements speak only as of the date on which the statements were made. We do not intend, and undertake no obligation, to update or revise any forward-looking statements contained in this Form 10-Q, whether as a result of differences in actual results, changes in assumptions, or changes in other factors affecting such statements, except as required by law.

Management's discussion and analysis of Southwest's consolidated financial condition and results of operations should be read in conjunction with Southwest's unaudited consolidated financial statements and the accompanying notes.

CRITICAL ACCOUNTING POLICIES, JUDGMENTS AND ESTIMATES

The accounting and reporting policies followed by Southwest Bancorp, Inc. ("Southwest") conform, in all material respects, to U.S. generally accepted accounting principles ("GAAP") and to general practices within the financial services industry. The preparation of the financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. While Southwest bases estimates on historical experience, current information, and other factors deemed to be relevant, actual results could differ from those estimates.

Southwest considers accounting estimates to be critical to reported financial results if (i) the accounting estimate requires management to make assumptions about matters that are highly uncertain and (ii) different estimates that management reasonably could have used for the accounting estimate in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, could have a material impact on Southwest's financial statements. Accounting policies related to the allowance for loan losses and goodwill and other intangible assets are considered to be critical, as these policies involve considerable subjective judgment and estimation by management.

There have been no significant changes in Southwest's application of critical accounting policies since December 31, 2011.


Table of Contents

GENERAL

Southwest is the bank holding company for Stillwater National Bank and Trust Company ("Stillwater National") and Bank of Kansas. Through its subsidiaries, Southwest offers commercial and consumer lending, deposit and investment services, specialized cash management, and other financial services from offices in Oklahoma, Texas, and Kansas, and on the Internet, through SNB DirectBanker®. We were organized in 1981 as the holding company for Stillwater National, which was chartered in 1894. At September 30, 2012 we had total assets of $2.2 billion, deposits of $1.7 billion, and shareholders' equity of $250.4 million.

Our area of expertise focuses on the special financial needs of healthcare and health professionals, businesses and their managers and owners, and commercial and commercial real estate borrowers. We established a strategic focus on healthcare lending in 1974. We provide credit and other services, such as deposits, cash management, and document imaging for physicians and other healthcare practitioners to start or develop their practices and finance the development and purchase of medical offices, clinics, surgical care centers, hospitals, and similar facilities. As of September 30, 2012, approximately $521.0 million, or 36%, of our noncovered loans were loans to individuals and businesses in the healthcare industry. We conduct regular market reviews of our current and potential healthcare lending and the appropriate concentrations within healthcare based upon economic and regulatory conditions.

We also focus on commercial real estate mortgage and construction credits. We do not focus on one-to-four family residential development loans or "spec" residential property credits. Additionally, subprime residential lending has never been a part of our business strategy, and our exposure to subprime mortgage loans and subprime lenders is minimal. One-to-four family mortgages account for 5% of total noncovered loans. As of September 30, 2012 approximately $1.1 billion, or 75%, of our noncovered loans were commercial real estate mortgage and construction loans, including $353.4 million of loans to individuals and businesses in the healthcare industry.

Southwest's common stock is traded on the NASDAQ Global Select Market under the symbol OKSB. Southwest's public trust preferred securities are traded on the NASDAQ Global Select Market under the symbol OKSBP. Southwest focuses on converting its strategic vision into long-term shareholder value. Our vision includes a commercial banking model and a community banking model focused on more traditional banking operations in our three-state market.

At September 30, 2012, the Oklahoma Banking segment accounted for $564.7 million in loans, the Texas Banking segment accounted for $554.4 million in loans, the Kansas Banking segment accounted for $202.3 million in loans, and the Out of Market segment accounted for $136.0 million in loans. Southwest offers products to the student, residential mortgage, and rural healthcare lending markets. These operations comprise the Secondary Market business segment. At September 30, 2012, Secondary Market loans accounted for $34.7 million in loans. Southwest engages in residential mortgage lending, but residential mortgages have not been a significant element of Southwest's strategy. Please see "Financial Condition: Loans" below for additional information.

For additional information on Southwest's operating segments, please see "Note 8: Operating Segments" in the Notes to Unaudited Consolidated Financial Statements.

Southwest began 2011 with continued high levels of nonperforming and potential problem assets. In the spring of 2011, Southwest reorganized and took actions intended to strengthen the credit, loan review and workout functions. During the year, Southwest had success in resolving some credits, but downgrades and new problem assets, mainly driven by real estate appraisal decreases with respect to collateral dependent loans, kept the total levels of unresolved credits unsatisfactorily high. The levels significantly affected Southwest's earnings.

Faced with those facts, management and the Board of Directors considered alternatives for bringing nonperforming and potential problem assets to healthier levels. The Board of Directors carefully considered the potential costs and benefits of various alternatives to Southwest and the shareholders, in consultation with financial and legal advisors and management. Management and the Board of Directors concluded that a sale of assets in the near-term was in the best interests of Southwest's shareholders.

Based on this determination, Southwest sold nonperforming loans, potential problem loans, and other real estate with a carrying value before transfer to assets held for sale, of approximately $300.3 million; and sold related other loans with a carrying value before transfer to assets held for sale of $1.3 million.

Loans were transferred to loans held for sale at fair values. The actual sale price reflected a bulk sale discount, which resulted in charge-offs of $88.6 million at the time of transfer. The sales completed in the fourth quarter of 2011 resulted in net proceeds to Southwest of approximately $187.0 million. The results for the year ended December 31, 2011 include a provision for loan losses of $74.9 million and a fair value adjustment in other real estate expenses of $23.6 million in connection with the fourth quarter sales. The provision expense was calculated in accordance with Southwest's standard methodology and was based on the amount needed to replenish the allowance for loan losses back to the required level for the remaining loan portfolio.

As of September 30, 2011, the assets sold were loans with an aggregate fair value of $229.5 million and other real estate properties with an aggregate fair value of $67.3 million.


Table of Contents
                                                Carrying Value         Fair Value          Net Sales Price
(Dollars in thousands)                          9/30/2011 (1)         9/30/2011 (2)          12/14/2011
Loans collectively evaluated for impairment    $         93,850      $        93,074      $          58,246
Loans individually evaluated for impairment
with a specific reserve                                  78,396               64,731                 44,850
no specific reserve                                      72,323               71,725                 50,625
Other real estate                                        56,565               67,261                 34,113

Total                                          $        301,134      $       296,792      $         187,834

(1) Carrying Value - loans were reported at the principal balance outstanding net of the unamortized deferred loan fees. The carrying value of loans specifically evaluated for impairment of $78.4 million was prior to deducting specific reserves of $13.7 million. Other real estate was carried at fair value less estimated costs to sell the asset.

(2) Fair Value - fair value of loans was estimated by discounting the cash flows using risks inherent in the loan category and interest rates currently offered for loans with similar terms and credit risks or fair values of the underlying collateral if repayment was expected solely from collateral for each asset sold on a standalone basis in an orderly transaction. The fair value of the other real estate was primarily based on the appraisal value of the underlying collateral.

FINANCIAL CONDITION

Investment Securities

Southwest's investment security portfolio increased $106.1 million, or 39%, from $275.4 million at December 31, 2011, to $381.5 million at September 30, 2012. The increase is primarily the result of a $53.7 million, or 82%, increase in U.S. government and agency securities, a $29.4 million, or 16%, increase in government agency guaranteed residential mortgage-backed securities, a $21.3 million, or 81%, increase in municipal securities, and a $1.2 million increase in other mortgaged-backed securities.

Loans

Total loans, including loans held for sale, were $1.5 billion at September 30,
2012. The following table shows the composition of the loan portfolio at the
dates indicated:



                                            September 30, 2012           December 31, 2011           Total            Total
(Dollars in thousands)                   Noncovered      Covered      Noncovered      Covered       $ Change        %  Change
Real estate mortgage
Commercial                               $   898,453     $ 20,664     $ 1,028,561     $ 23,686     $ (133,130 )         (12.65 )%
One-to-four family residential                74,081        5,059          80,375        7,072         (8,307 )          (9.50 )
Real estate construction
Commercial                                   206,342          419         227,098        3,746        (24,083 )         (10.43 )
One-to-four family residential                 3,438           -            4,987           -          (1,549 )         (31.06 )
Commercial                                   244,018        1,937         346,266        2,841       (103,152 )         (29.55 )
Installment and consumer
Guaranteed student loans                       4,872           -            5,396           -            (524 )          (9.71 )
Other                                         32,710          118          33,190          270           (632 )          (1.89 )

Total loans                              $ 1,463,914     $ 28,197     $ 1,725,873     $ 37,615     $ (271,377 )         (15.39 )%


Table of Contents

The composition of loans held for sale and a reconciliation to total loans is shown in the following table:

                                         September 30,       December 31,
(Dollars in thousands)                       2012                2011           $ Change       % Change
Loans held for sale:
Student loans                           $         4,872     $        5,396     $     (524 )        (9.71 )%
One-to-four family residential                    7,329              3,547          3,782         106.63
Government guaranteed commercial real
estate                                           22,446             29,624         (7,178 )       (24.23 )
Other loans held for sale                           102                128            (26 )       (20.31 )

Total loans held for sale                        34,749             38,695         (3,946 )       (10.20 )
Noncovered portfolio loans                    1,429,165          1,687,178       (258,013 )       (15.29 )
Covered portfolio loans                          28,197             37,615         (9,418 )       (25.04 )

Total loans                             $     1,492,111     $    1,763,488     $ (271,377 )       (15.39 )%

Allowance for Loan Losses

Management determines the appropriate level of the allowance for loan losses using an established methodology. (See "Note 3: Loans and Allowance for Loan Losses" in the Notes to Unaudited Consolidated Financial Statements.) Management believes the amount of the allowance is appropriate, based on its analysis.

The allowance for loan losses on noncovered loans is comprised of two components. Loans deemed to be impaired (all loans on nonaccrual status and troubled debt restructurings) are evaluated on an individual basis using the discounted present value of expected cash flows, the fair value of collateral, or the market value of the loan, and a specific allowance is recorded based upon the result. Collateral dependent loans are evaluated for impairment based upon the fair value of the collateral. Any portion of a collateral dependent impaired loan in excess of the fair value of the collateral that is determined to be uncollectible is charged off.

The allowance on the unimpaired noncovered loans is determined by use of historical loss ratios adjusted for qualitative internal and external risk factors, segmented into loan pools by type of loan and market area. Our primary markets are Oklahoma, Texas, and Kansas and loans secured by real estate within these markets are included in the "in-market" pool, with the remaining loans defaulting to the "out-of-market" pool.

At September 30, 2012, the allowance for loan losses on total noncovered loans was $43.6 million, $0.6 million, or 1%, less than the allowance for loan losses on noncovered loans at December 31, 2011.

At September 30, 2012, the allowance on the $26.5 million in noncovered nonaccrual loans was $2.6 million (10%), compared with an allowance on $13.5 million in noncovered nonaccrual loans at December 31, 2011 of $0.9 million (7%). At September 30, 2012, the allowance on the $31.2 million noncovered performing troubled debt restructured loans was $3.4 million (11%), compared with an allowance on $32.3 million in noncovered performing troubled debt restructured loans of less than $0.1 million at December 31, 2011.

At September 30, 2012, the allowance for the remaining noncovered loans was $37.6 million (3%), compared to $43.3 million (3%) at December 31, 2011. The decrease in the allowance relating to these other noncovered loans resulted from the decrease in the loan portfolio and consideration of trends and qualitative factors, including portfolio loss trends as well as management's assessment of economic risk, asset quality trends, levels of potential problem loans, and loan concentrations in commercial real estate mortgage and construction loans.

Covered loans were $28.2 million and $37.6 million as of September 30, 2012 and December 31, 2011, respectively. These loans are subject to protection under the loss sharing agreements with the FDIC and had an allowance for loan losses of $0.1 million and $0.5 million based on analysis of expected future cash flows, respectively.

The amount of the loan loss provision for a period is based solely upon the amount needed to cause the allowance to reach the level deemed appropriate, after the effects of net charge-offs for the period. Net charge-offs for the first nine months of 2012 were $1.0 million, a decrease of $53.4 million, or 98%, from the $54.3 million recorded for the first nine months of 2011. The provision for loan losses for the first nine months of 2012 was $22,000, representing a decrease of $53.8 million, or 100%, from the $53.8 million recorded for the first nine months of 2011.


Table of Contents

Nonperforming Loans

At September 30, 2012, the allowance for loan losses was 162.21% of noncovered nonperforming loans, compared to 326.47% of noncovered nonperforming loans, at December 31, 2011 (see "Provision for Loan Losses" on page 41). Noncovered nonaccrual loans, which comprise the majority of noncovered nonperforming loans, were $26.5 million as of September 30, 2012, an increase of $13.0 million, or 96%, from December 31, 2011. We have taken cumulative charge-offs related to these noncovered nonaccrual loans of $13.4 million as of September 30, 2012. Noncovered nonaccrual loans at September 30, 2012 were comprised of 39 relationships and were primarily concentrated in commercial real estate (77%) and real estate construction (13%) loans. All noncovered nonaccrual loans are considered impaired and are carried at their estimated collectible amounts. These noncovered loans are believed to have sufficient collateral and are in the process of being collected. Covered nonperforming loans at September 30, 2012 of $5.2 million are subject to protection under the loss share agreements with the FDIC.

                                                 September 30, 2012               December 31, 2011
(Dollars in thousands)                        Noncovered        Covered        Noncovered       Covered
Nonaccrual loans:
Commercial real estate                       $      20,443      $  4,293      $      4,667      $  3,554
One-to-four family residential                         949            55             1,468           188
Real estate construction                             3,436           130             3,877         3,009
Commercial                                           1,575           328             3,371           370
Other consumer                                          90             3               123             7

Total nonaccrual loans                              26,493         4,809            13,506         7,128
Past due 90 days or more:
One-to-four family residential                          -             -                 23            -
Commercial                                             349           353                 3            -
Other consumer                                          41            -                 17            -

Total past due 90 days or more                         390           353                43            -

Total nonperforming loans                           26,883         5,162            13,549         7,128
Other real estate                                   14,683         4,142            19,844         4,529

Total nonperforming assets                   $      41,566      $  9,304      $     33,393      $ 11,657

Performing restructured                      $         281      $  2,548      $      1,017      $     -

Nonperforming assets to portfolio loans
receivable and other real estate                      2.88 %       28.77 %            1.96 %       27.66 %
Nonperforming loans to portfolio loans
receivable                                            1.88         18.31              0.80         18.95
Allowance for loan losses to nonperforming
loans                                               162.21          2.67            326.47          6.33
Government-guaranteed portion of
nonperforming loans                          $          76      $  3,202      $         76      $  4,764

At September 30, 2012, six credit relationships represented 83% of noncovered nonperforming loans and 53% of noncovered nonperforming assets. These were all collateral dependent and commercial or commercial real estate lending relationships and had an aggregate principal balance of $22.0 million and related impairment reserves of $1.8 million. Aggregate charge-offs for these six relationships were $7.1 million as of September 30, 2012.

Noncovered performing loans considered potential problem loans, loans which are not included in the past due or nonaccrual categories but for which known information about possible credit problems causes management to be uncertain as to the ability of the borrowers to comply with the present loan repayment terms, amounted to approximately $86.8 million at September 30, 2012, compared to $133.0 million at December 31, 2011. Substantially all of these loans were performing in accordance with their present terms at September 30, 2012. Included in this total are $31.2 million loans that are considered performing troubled debt restructured loans as a result of a modification in terms due to a weakening in the financial position of the borrower. Additionally, there are $1.6 million and $0.9 million, respectively, of covered potential problem loans, which are subject to protection under the loss share agreements with the FDIC. Loans may be monitored by management and reported as potential problem loans for an extended period of time during which management continues to be uncertain as to the ability of certain borrowers to comply with the present loan repayment terms.

At September 30, 2012, the reserve for unfunded loan commitments was $2.6 million, a $0.3 million, or 15%, increase from the amount at December 31, 2011. Management believes the amount of the reserve is appropriate. The increased amount is primarily the result of an increased level of commitments.


Table of Contents

Deposits and Other Borrowings

Southwest's deposits were $1.7 billion and $1.9 billion at September 30, 2012
and December 31, 2011, respectively. The following table shows the composition
of deposits at the dates indicated:



                                         September 30,       December 31,
(Dollars in thousands)                       2012                2011           $ Change       % Change
Noninterest-bearing demand              $       429,407     $      400,985     $   28,422           7.09 %
Interest-bearing demand                         113,677            105,905          7,772           7.34
Money market accounts                           385,296            423,181        (37,885 )        (8.95 )
Savings accounts                                 36,461             33,406          3,055           9.15
Time deposits of $100,000 or more               389,969            487,907        (97,938 )       (20.07 )
Other time deposits                             388,863            469,998        (81,135 )       (17.26 )

Total deposits                          $     1,743,673     $    1,921,382     $ (177,709 )        (9.25 )%

Stillwater National has substantial unused borrowing availability in the form of unsecured brokered certificate of deposits from Bank of America Merrill Lynch, Citigroup Global Markets, Inc., Wells Fargo Bank, NA, UBS Securities, LLC, RBC Capital Markets Corp., and Morgan Stanley & Co., Inc. in connection with its retail certificate of deposit program. There were no retail certificates of deposit as of September 30, 2012 or December 31, 2011.

As of December 31, 2011, Stillwater National had other brokered certificates of deposit totaling $0.2 million included in time deposits of $100,000 or more in the above table. There were no other brokered certificates of deposit as of September 30, 2012.

Other borrowings, which includes short-term federal funds purchased, FHLB borrowings, and repurchase agreements, increased $10.2 million, or 18%, to $66.7 million during the first nine months of 2012. The increase primarily reflects the increase need for repurchase agreements during the period.

Shareholders' Equity

Shareholders' equity decreased $56.8 million, or 18%, primarily due to the $70 million repurchase of the Series B Preferred securities, offset in part by income of $15.2 million, for the first nine months of 2012. Net unrealized holding gains on available for sale investment securities and derivative instruments (net of tax) increased to $2.3 million at September 30, 2012, compared to $2.1 million at December 31, 2011.

At September 30, 2012, Southwest, Stillwater National, and Bank of Kansas continued to exceed all applicable regulatory capital requirements. See "Capital Requirements" on page 43.


Table of Contents

RESULTS OF OPERATIONS

FOR THE THREE MONTH PERIODS ENDED SEPTEMBER 30, 2012 and 2011

. . .

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