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TCBI > SEC Filings for TCBI > Form 10-Q on 12-Nov-2013All Recent SEC Filings

Show all filings for TEXAS CAPITAL BANCSHARES INC/TX | Request a Trial to NEW EDGAR Online Pro

Form 10-Q for TEXAS CAPITAL BANCSHARES INC/TX


12-Nov-2013

Quarterly Report


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

Forward-Looking Statements

Statements and financial analysis contained in this document that are not historical facts are forward looking statements made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995 (the "Act"). In addition, certain statements may be contained in our future filings with SEC, in press releases, and in oral and written statements made by or with our approval that are not statements of historical fact and constitute forward-looking statements within the meaning of the Act. Forward looking statements describe our future plans, strategies and expectations and are based on certain assumptions. Words such as "believes", "anticipates", "expects", "intends", "targeted", "continue", "remain", "will", "should", "may" and other similar expressions are intended to identify forward-looking statements, and include statements related to our business strategy, financial condition, revenue, liquidity and sources of capital, the effects of government regulation applicable to our operations, including the determination of our capital ratio, the appropriateness of our allowance and provisions for loan losses and the collectability of loans.

Forward-looking statements involve risks and uncertainties, many of which are beyond our control that may cause actual results to differ materially from those in such statements. The important factors that could cause actual results to differ materially from the forward looking statements include are disclosed under the heading "Risk Factors" in our Annual Report on Form 10-K for the fiscal year ended December 31, 2012 and include, but are not limited to, the following:

Changes in interest rates and the relationship between rate indices, including LIBOR and Fed funds;

Changes in the levels of loan prepayments, which could affect the value of our loans or investment securities;

Changes in general economic and business conditions in areas or markets where we compete;

Competition from banks and other financial institutions for loans and customer deposits;

The failure of assumptions underlying the establishment of and provisions made to the allowance for credit losses and differences in assumptions utilized by banking regulators which could have retroactive impact;

The loss of senior management or operating personnel and the potential inability to hire qualified personnel at reasonable compensation levels;

Changes in government regulations, state and federal laws, or policies affecting one or more of our business segments, including regulations promulgated pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act;

Potential losses resulting from claims and litigation, whether founded or unfounded, if not resolved in a manner favorable to us;

Adverse changes in the default rate of our loans and our failure to effectively manage our credit risk; and

Adverse changes in cost and availability of capital.

Forward-looking statements speak only as of the date on which such statements are made. We have no obligation to update or revise any forward-looking statements as a result of new information or future events. In light of these assumptions, risks and uncertainties, the events discussed in any forward-looking statements in this quarterly report might not occur.


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Results of Operations

Except as otherwise noted, all amounts and disclosures throughout this document reflect continuing operations. See Part I, Item 1 herein for a discussion of discontinued operations at Note (9) - Discontinued Operations.

Summary of Performance

We reported net income of $33.5 million and net income available to common shareholders of $31.0 million, or $0.74 per diluted common share, for the third quarter of 2013 compared to net income and net income available to common shareholders of $32.5 million, or $.80 per diluted common share, for the third quarter of 2012. The dividend on preferred shares reduced income available to common shareholders by $2.4 million, or $0.06 per share, during the third quarter of 2013. Return on average common equity was 13.74% and return on average assets was 1.25% for the third quarter of 2013, compared to 17.27% and 1.40%, respectively, for the third quarter of 2012. Net income and net income available to common shareholders for the nine months ended September 30, 2013 totaled $90.7 million and $85.7 million, respectively, or $2.05 per diluted common share, compared to net income and net income available to common shareholders of $89.2 million, or $2.25 per diluted common share, for the same period in 2012. Return on average common equity was 13.14% and return on average assets was 1.19% for the nine months ended September 30, 2013, compared to 17.56% and 1.38%, respectively, for the nine months ended September 30, 2012.

Net income increased $904,000, or 3%, for the three months ended September 30, 2013 as compared to the same period in 2012. The $904,000 increase during the three months ended September 30, 2013, was primarily the result of a $11.9 million increase in net interest income, offset by a $2.0 million increase in the provision for credit losses, a $121,000 decrease in non-interest income, an $8.5 million increase in non-interest expense and a $408,000 increase in income tax expense. The $1.4 million increase in net income during the nine months ended September 30, 2013 was primarily the result of a $32.3 million increase in net interest income, a $2.6 million increase in non-interest income and a $139,000 decrease in income tax expense, offset by a $7.0 million increase in the provision for credit losses and a $26.6 million increase in non-interest expense.

Details of the changes in the various components of net income are further discussed below.

Net Interest Income

Net interest income was $108.8 million for the third quarter of 2013, compared to $96.9 million for the third quarter of 2012. The increase was due to an increase in average earning assets of $1.4 billion as compared to the third quarter of 2012. The increase in average earning assets included a $1.4 billion increase in average loans held for investment, offset by a $69.9 million decrease in loans held for sale and a $38.6 million decrease in average securities. For the quarter ended September 30, 2013, average net loans and securities represented 98% and 1%, respectively, of average earning assets compared to 98% and 1% in the same quarter of 2012.

Average interest bearing liabilities for the quarter ended September 30, 2013 decreased $38.2 million from the third quarter of 2012, which included a $963.1 million increase in interest bearing deposits and a $98.9 million increase in subordinated notes, offset by a $1.1 billion decrease in other borrowings. Demand deposits increased from $2.0 billion at September 30, 2012 to $3.1 billion at September 30, 2013. The average cost of interest bearing deposits decreased from .29% for the quarter ended September 30, 2012 to .26% for the same period of 2013. The change in funding composition decreased the cost of interest bearing deposits and borrowed funds to .26% in the third quarter of 2013 compared to .27% in the third quarter of 2012.

Net interest income was $308.0 million for the nine months ended September 30, 2013, compared to $275.7 million for the same period of 2012. The increase was due to an increase in average earning assets of $1.5 billion as compared to the nine months ended September 30, 2012. The increase in average earning assets included a $1.3 billion increase in average loans held for investment and a $199.0 million increase in loans held for sale, offset by a $40.8 million decrease in average securities. For the nine months ended September 30, 2013, average net loans and securities represented 98% and 1%, respectively, of average earning assets compared to 98% and 1% in the same quarter of 2012.

Average interest bearing liabilities for the nine months ended September 30, 2013 increased $190.0 million compared to the first nine months of 2012, which included a $854.3 million increase in interest bearing deposits and a $106.9 million increase in subordinated notes, offset by a $771.3 million decrease in other borrowings. Demand deposits increased from $1.9 billion at September 30, 2012 to $2.9 billion at September


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30, 2013. The average cost of interest bearing deposits decreased from .31% for the nine months ended September 30, 2012 to .26% for the same period of 2013. The change in funding composition decreased the cost of interest bearing deposits and borrowed funds to .25% for the nine months ended September 30, 2013 compared to .29% in the same period of 2012.

The following table presents the changes (in thousands) in taxable-equivalent net interest income and identifies the changes due to differences in the average volume of earning assets and interest-bearing liabilities and the changes due to changes in the average interest rate on those assets and liabilities.

                                                          Three months ended                               Nine months ended
                                                       September 30, 2013/2012                          September 30, 2013/2012

                                                 Net               Change Due To(1)               Net              Change Due To(1)
                                                Change          Volume        Yield/Rate        Change          Volume        Yield/Rate

Interest income:
Securities(2)                                 $     (489)     $     (437)     $      (52)     $   (1,359)     $   (1,338)     $      (21)
Loans held for sale                               (1,886)           (680)         (1,206)             793           5,666         (4,873)
Loans held for investment                          15,509          17,449         (1,940)          36,365          46,437        (10,072)
Federal funds sold                                     20              15               5              34              39             (5)
Deposits in other banks                                 6              20            (14)              21              72            (51)

Total                                              13,160          16,367         (3,207)          35,854          50,876        (15,022)
Interest expense:
Transaction deposits                                (145)             (3)           (142)               3             221           (218)
Savings deposits                                      678             859           (181)           1,077           1,971           (894)
Time deposits                                       (162)           (103)            (59)         (1,092)           (680)           (412)
Deposits in foreign branches                         (50)            (63)              13           (148)           (205)              57
Borrowed funds                                        964           1,123           (159)           3,818           4,316           (498)

Total                                               1,285           1,813           (528)           3,658           5,623         (1,965)

Net interest income                           $    11,875     $    14,554     $   (2,679)     $    32,196     $    45,253     $  (13,057)

(1) Changes attributable to both volume and yield/rate are allocated to both volume and yield/rate on an equal basis.

(2) Taxable equivalent rates used where applicable.

Net interest margin, the ratio of net interest income to average earning assets, was 4.21% for the third quarter of 2013 compared to 4.36% for the third quarter of 2012. This 15 basis point decrease was the result of a decrease in interest income as a percent of earning assets offset by a reduction in funding costs. Funding cost including demand deposits and borrowed funds decreased from .20% for the third quarter of 2012 to .17% for the third quarter of 2013. The cost of subordinated debt issued in September 2012 and the trust preferred as a percent of total earning assets was .10% for the third quarter of 2013. Total cost of funding, including all deposits and stockholders' equity increased slightly to .24% for the third quarter of 2013 compared to .22% for the third quarter of 2012.

Non-interest Income

The components of non-interest income were as follows (in thousands):




                                                      Three months ended                     Nine months ended
                                                        September 30,                          September 30,
                                                   2013                2012               2013               2012


Service charges on deposit accounts            $        1,659     $        1,684     $        5,109     $        4,912
Trust fee income                                        1,263              1,216              3,773              3,562
Bank owned life insurance (BOLI) income                   423                549              1,384              1,658
Brokered loan fees                                      4,078              4,839             13,600             12,618
Swap fees                                                 983              1,397              3,616              2,815
Other                                                   2,025                867              5,358              4,639

Total non-interest income                      $       10,431     $       10,552     $       32,840     $       30,204


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Non-interest income decreased $121,000 during the three months ended September 30, 2013 compared to the same period of 2012. This decrease is primarily related to a decrease of $761,000 in brokered loan fees due to a slowdown in our mortgage finance volume. Swap fee income decreased $414,000 during the three months ended September 30, 2013 compared to the same period of 2012 due to a decrease in swap transactions. Swap fees are fees related to customer swap transactions and are received from the institution that is our counterparty on the transaction. See Note 11 - Derivative Financial Instruments for further discussion. Offsetting these decreases was a $1.2 million increase in other non-interest income.

Non-interest income increased $2.6 million during the nine months ended September 30, 2013 compared to the same period of 2012. This increase is primarily related to an increase of $982,000 in brokered loan fees due to an increase in our mortgage finance volume. Swap fee income increased $801,000 during the nine months ended September 30, 2013 compared to the same period of 2012 due to an increase in swap transactions. Swap fees are fees related to customer swap transactions and are received from the institution that is our counterparty on the transaction. See Note 11 - Derivative Financial Instruments for further discussion.

While management expects continued growth in non-interest income, the future rate of growth could be affected by increased competition from nationwide and regional financial institutions. In order to achieve continued growth in non-interest income, we may need to introduce new products or enter into new lines of business or expand existing lines of business. Any new product introduction or new market entry could place additional demands on capital and managerial resources.

Non-interest Expense

The components of non-interest expense were as follows (in thousands):




                                                      Three months ended                     Nine months ended
                                                        September 30,                          September 30,
                                                   2013                2012               2013               2012


Salaries and employee benefits                 $       36,012     $       31,009     $      114,744     $       90,258
Net occupancy expense                                   4,342              3,653             12,334             10,936
Marketing                                               3,974              3,472             12,020              9,469
Legal and professional                                  3,937              4,916             12,584             12,237
Communications and technology                           3,696              2,885             10,165              8,088
Allowance and other carrying costs for OREO               267                552              1,179              7,706
FDIC insurance assessment                               4,357              1,332              6,134              4,497
Other                                                   5,424              5,702             17,283             16,579

Total non-interest expense                     $       62,009     $       53,521     $      186,443     $      159,770

Non-interest expense for the third quarter of 2013 increased $8.5 million, or 16%, to $62.0 million from $53.5 million in the third quarter of 2012. The increase is primarily attributable to a $5.0 million increase in salaries and employee benefits due to general business growth.

Marketing expense for the three months ended September 30, 2013 increased $502,000, or 14%, compared to the same quarter in 2012, primarily due to general business growth and treasury management programs.

Legal and professional expense for the three months ended September 30, 2013 decreased $979,000 compared to the same quarter in 2012. Our legal and professional expense will continue to fluctuate and could increase in the future with growth and as we respond to continued regulatory changes and strategic initiatives.

FDIC insurance assessment expense for the three months ended September 30, 2013 increased $3.0 million compared to the same quarter in 2012 due to a $3.0 million assessment by the FDIC that was paid during the third quarter of 2013. The assessment related to the year-end call reports for 2011 and 2012, which were amended for the change in the risk weight applicable to our mortgage finance loan portfolio as described in Note 7. As previously disclosed, the amendment caused one capital ratio to fall below "well-capitalized" for each quarter end. We do not believe this is an assessment warranted under our circumstances, and we have disputed the charge. Any recovery of the $3.0 million expense would be credited to non-interest expense in a future quarter.


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Non-interest expense for the nine months ended September 30, 2013 increased $26.6 million, or 17%, to $186.4 million from $159.8 million compared to the same period in 2012. The increase is primarily attributable to a $24.4 million increase in salaries and employee benefits. Of this increase, approximately $7.7 million related to a charge taken to reflect the financial effect of the planned organizational change announced during the second quarter of 2013 related to the retirement and transition of our CEO and includes assumptions about future payouts that may or may not occur. These payouts, when and if realized, will be directly linked to our performance and stock price, but are required to be estimated at the time of the event. Additionally, there was another $2.2 million of charges related to the increased probability that certain company financial performance targets for executive cash-based incentives will be met. These incentives are expensed based on current stock prices. The remaining $14.5 million increase was primarily due to general business growth and incentive expense directly related to our performance and the increase in the price of our common stock.

Marketing expense for the nine months ended September 30, 2013 increased $2.6 million, or 27%, compared to the same period in 2012, which was primarily due to general business growth and treasury management programs.

Communications and data processing expense for the nine months ended September 30, 2013 increased $2.1 million compared to the same period in 2012 as a result of general business growth.

For the nine months ended September 30, 2013, allowance and other carrying costs for OREO decreased $6.5 million, to $1.2 million, $454,000 of which related to deteriorating values of assets held in OREO. Of the $454,000 valuation expense in the first nine months of 2013, $290,000 related to direct write-downs of the OREO balance and $164,000 related to increasing the valuation allowance.

FDIC insurance assessment expense for the nine months ended September 30, 2013 increased $1.6 million compared to the same period in 2012. Included in the year-to-date September 30, 2013 expense was a $3.0 million assessment by the FDIC that was paid during the third quarter of 2013. The assessment related to the year-end call reports for 2011 and 2012, which were amended for the change in the risk weight applicable to our mortgage finance loan portfolio as described in Note 7. As previously disclosed, the amendment caused one capital ratio to fall below "well-capitalized" for each quarter end. We do not believe this is an assessment warranted under our circumstances, and we have disputed the charge. Any recovery of the $3.0 million expense would be credited to non-interest expense in a future quarter.

Analysis of Financial Condition

Loan Portfolio

Total loans net of allowance for loan losses at September 30, 2013 increased $342.9 million from December 31, 2012 to $10.2 billion. All loan categories within loans held for investment increased for a combined $1.3 billion increase. Loans held for sale decreased $913.2 million from December 31, 2012 as a result of seasonal trends and rising long-term interest rates.

Loans were as follows as of the dates indicated (in thousands):

                                                            September 30,         December 31,
                                                                2013                  2012


Commercial                                                 $      4,782,234     $      4,106,419
Construction                                                      1,125,908              737,637
Real estate                                                       2,087,058            1,892,451
Consumer                                                             19,619               19,493
Leases                                                               85,936               69,470

Gross loans held for investment                                   8,100,755            6,825,470
Deferred income (net of direct origination costs)                  (49,427)             (39,935)
Allowance for loan losses                                          (84,006)             (74,337)

Total loans held for investment, net                              7,967,322            6,711,198
Loans held for sale                                               2,262,085            3,175,272

Total                                                      $     10,229,407     $      9,886,470


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We continue to lend primarily in Texas. As of September 30, 2013, a substantial majority of the principal amount of the loans held for investment in our portfolio was to businesses and successful professionals and entrepreneurs in Texas. This geographic concentration subjects the loan portfolio to the general economic conditions in Texas. The risks created by these concentrations have been considered by management in the determination of the adequacy of the allowance for loan losses. Management believes the allowance for loan losses is appropriate to cover estimated losses on loans at each balance sheet date.

We originate a substantial majority of all the loans held for investment. We also participate in syndicated loan relationships, both as a participant and as an agent. As of September 30, 2013, we have $1.3 billion in syndicated loans, $395.2 million of which we acted as agent. All syndicated loans, whether we act as agent or participant, are underwritten to the same standards as all other loans originated by us. In addition, as of September 30, 2013, none of our syndicated loans were on non-accrual.

Loans held for sale consist of legal ownership interests purchased in single-family residential mortgages funded through our mortgage finance group. These loans are typically on our balance sheet for 10 to 20 days or less. We have agreements with mortgage lenders and purchase legal ownership interest in individual loans they originate. All loans are underwritten consistent with established programs for permanent financing with financially sound investors. Substantially all loans are conforming loans or loans eligible for sale to federal agencies or government sponsored entities.

Summary of Loan Loss Experience

The provision for credit losses is a charge to earnings to maintain the reserve for loan losses at a level consistent with management's assessment of the loan portfolio in light of current economic conditions and market trends. We recorded a provision of $5.0 million during the third quarter of 2013 compared to $3.0 million in the second quarter of 2012 and $7.0 million in the second quarter of 2013. Despite experiencing improvements in credit quality, we have seen levels of reserves and provision increase due to growth in the portfolio. We do continue to maintain an unallocated reserve component to allow for continued uncertainty in economic and other conditions affecting the quality of the loan portfolio. We believe the level of unallocated reserves at September 30, 2013 continues to be warranted due to the ongoing weak economic environment which has produced more frequent losses, including those resulting from fraud by borrowers.

The reserve for loan losses is comprised of specific reserves for impaired loans and an estimate of losses inherent in the portfolio at the balance sheet date, but not yet identified with specified loans. We regularly evaluate our reserve for loan losses to maintain an appropriate level to absorb estimated loan losses inherent in the loan portfolio. Factors contributing to the determination of reserves include the credit worthiness of the borrower, changes in the value of pledged collateral, and general economic conditions. All loan commitments rated substandard or worse and greater than $500,000 are specifically reviewed for loss potential. For loans deemed to be impaired, a specific allocation is assigned based on the losses expected to be realized from those loans. For purposes of determining the general reserve, the portfolio is segregated by product types to recognize differing risk profiles among categories, and then further segregated by credit grades. Credit grades are assigned to all loans. Each credit grade is assigned a risk factor, or reserve allocation percentage. These risk factors are multiplied by the outstanding principal balance and risk-weighted by product type to calculate the required reserve. A similar process is employed to calculate a reserve assigned to off-balance sheet commitments, specifically unfunded loan commitments and letters of credit. Even though portions of the allowance may be allocated to specific loans, the entire allowance is available for any credit that, in management's judgment, should be charged off.

The reserve allocation percentages assigned to each credit grade have been developed based primarily on an analysis of our historical loss rates. The . . .

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