Hancock Whitney Corp (HWC) 2015 Q3 法說會逐字稿

Good morning and welcome to Hancock Holding Company's third-quarter 2015 earnings conference call. As a reminder, this call is being recorded. I will now turn the call over to Mrs. Trisha Carlson, Investor Relations Manager. You may begin.

Thank you and good morning. During today's call, we may make forward-looking statements. We would like to remind everyone to review the Safe Harbor language that was published with yesterday's release and presentation and in the Company's most recent 10-K and 10-Q. Any possibility to accurately project results or predict the effects of future plans and strategies or predict market or economic developments is inherently limited. We believe that the expectations reflected or implied by any forward-looking statements are based on reasonable assumptions but our actual results and performance could differ materially from those set forth in the forward-looking statements. Hancock undertakes no obligations to update or revise any forward-looking statements and you are cautioned not to place undue reliance on such forward-looking statements.

The presentation slides included in our 8-K are also posted with the conference call webcast link on the Investor Relations website. We will reference some of these slides in today's call.

Participating in today's call are John Hairston, President and CEO, Mike Achary, CFO, and Sam Kendricks, Chief Credit Risk Officer. I will now turn the call over to John Hairston.

Thank you, Trisha, and good morning everyone. We appreciate you joining us today.

It was another very good quarter for the Company and we continue to make progress towards meeting our goals. The quality of our results is improving each quarter and we're growing the Company while simultaneously working through this manageable energy cycle.

Now, let's start with energy, given I know the topic is important to investors. Our expectations first discussed nearly a year ago continue to occur. Our risk ratings for energy credits are experiencing downgrades and the portfolio size will decline, but we expected the cycle would be a provision and potential earnings event for the Company, but did not expect material credit losses or a threat to strong capital ratios or dividends. That is what we are experiencing today and is still our view for the immediate future.

Our criticized, classified, and nonaccrual energy loans did all increase this quarter. The increase was not completely unexpected and risk rating downgrades could drive further increases to criticized loans as we work through the cycle. But as we have done the past few quarters, we continue to build a reserve for those credits and add another $5 million or almost $0.05 of earnings to the energy reserve. At the end of the third quarter, our reserve for the energy portfolio was $35 million, or approximately 2.12% of total energy loans.

A large portion of the increase in criticized and classified this quarter was related to energy credits that were under appeal at June 30 after the shared national credit exam. Approximately $66 million of SNCs were downgraded during the third quarter after second-quarter appeals by lead banks were declined. You may remember we included those potential downgrades in our second-quarter allowance. Therefore, we saw no P&L impact of the aforementioned $66 million.

We recognize that oil prices remain low and that projected duration of this cycle is lengthening from expectations almost a year ago. As anticipated, domestic production has rolled over its past peak due to reductions in onshore drilling. We don't project a date when we expect prices to recover but the preponderance of those that follow the energy industry project price stabilization in the second half of 2016. We have general agreement with that consensus and in that mindset believe nearly all, not 100%, but nearly all of our energy services customers will successfully manage through the current cycle.

A frequent question we receive is with regard to the likelihood of loan losses. Thus far, we have experienced almost zero loss during the cycle. The one and only loss of $750,000 occurred in the first quarter in 2015. We had zero in the second quarter, zero in the third quarter, and as of today, it would appear zero in the fourth quarter. That said, a pervasive energy cycle through 2016 would likely create some credit losses, but we do not expect them to be significant, nor expect losses to put our strong capital levels at risk.

When will those losses occur? As I said a moment ago, so far so good, and timing of actual losses is very difficult to project. We are providing as much detail as we feel appropriate to help the market understand how we view the risk to this portfolio and to earnings.

I will give an example of the difficulty we face in sharing expectations around time. Just last week, after September 30 and not represented in our third-quarter numbers, we had a $21 million substandard energy credit pay off the note in full and a $10 million criticized paydown a few days later. The energy credit portfolio is very lumpy and therefore a single credit downgrade or upgrade or payoff makes an outsized difference in the total numbers. Based on the information we have today, we see continuing opportunities for some of our criticized, classified, and nonaccrual credits to pay off or make sizable investments to the credit -- excuse me, to the current lines of credit.

Consolidation in the industry is happening, albeit a little slower than we expect. Sorry about the train guys, I will pause just for a second. Okay, we will resume.

Now, currently, we expect to see payouts on several credits as client management teams implement their recovery plans. We projected approximately $200 million in energy portfolio reductions for fiscal 2015 and as of the third quarter, that number is approximately $130 million. In previous cycles, quarters 5 through 8 experienced higher energy portfolio reductions than the first four quarters, so we anticipate larger paydowns in the fourth quarter 2015. That payoff number as of today is already over $30 million, all substandard and criticized as of yesterday.

It is important to us and to investors to reduce our concentration risk in energy. At the same time, it's important to us to maintain the long-term relationships with our experienced energy clients that provide a significant source of deposits. They have been and will continue to be an important part of our balance sheet when this current cycle reverses, and it will reverse.

During the quarter, we continued to diversify our loan portfolio and at the end of September, energy loans were down to 11% of the total portfolio. As noted on Slide 8, our concentration in energy is decreasing each quarter mainly by growing loans outside of energy as noted on Slide 7. Our overall concentration has fallen from approximately 13% to 11% in a year, and I expect that trend to continue.

So now let's move on to non-energy, which has a lot of good news and we would like to share that in today's call. The simplicity in our results continued to improve in the third quarter. With zero nonoperating expense items and immaterial levels of purchase accounting, we reported just our GAAP results. Our EPS of $0.52 per share compares favorably on all measures as noted on Slide 4. The comparisons to previous periods reflect not only the elimination of nonoperating costs or the sizable reduction in purchase accounting income, but also core quality growth. We believe our results are solid and in line with tone share in the previous few quarters. Our core revenue grew over $6 million linked-quarter while pre-tax pre-provision earnings increased over $12 million. Loans were up $418 million from June, or 12% linked-quarter annualized, and we expect we will come in at the upper end of our loan growth guidance range. Our fourth-quarter loan growth is typically a little down from the second and third quarters, but so far this October, net loan growth remains impressive versus historical norms. Depending on what happens with energy paydowns through year-end, we could slightly beat our 8% to 9% guidance.

We expanded our core margin. While it was only 1 basis point expansion to 3.15%, the yield on both loans and securities increased this quarter and we finally were able to reverse a declining trend on core NIM. This was a significant win in light of continued pricing pressure and I'm very proud of our bankers for increasing core loan yield and production at the same time. We are working hard every day to keep our margin either stable or growing.

Expenses remained under control and were up less than 1%, mainly up due to personnel costs associated with revenue growth and initiatives. So let me point out a few of those initiatives.

A couple of weeks ago, we announced an agreement to purchase about $200 million of healthcare loans in Nashville with the opening of a loan production office and the hiring of a team of healthcare bankers. We believe this transaction is a good opportunity to capitalize on expanded healthcare across our footprint such as Houston, New Orleans, and Florida while further diversifying our loan portfolio. The acquired book will be included in fourth-quarter results. It was not included in third-quarter results.

The equipment leasing team we secured earlier this year and mentioned on this call is making progress and, as noted on Slide 7, added over $40 million of new leases this quarter. Our market share is improving and we're gaining shares in markets like Houston and Tampa where we changed strategic direction several quarters ago.

We did announce another 5% common stock buyback authorization in late August, and we began buying back stock late in the quarter. We repurchased almost 600,000 shares or about 15% of the authority at an average price below $28 and expect to continue buying back stock if our price stays below that level. Even after using some of our capital for buybacks, we have built more capital this quarter and our TCE ratio increased 12 basis points to 8.24%.

I said earlier, but it is worth repeating, the quality of our results is improving each quarter. The initiatives we have put in place are working. We continue to add talent, grow earning assets, grow core revenue, and diversify our sources of revenue. We are relentlessly focused on improving execution and levering our expense base. I am reasonably confident in revenue and expenses as we end the year and move into 2016. We have a certain level of provision for energy baked into our 2016 EPS target of a 25% increase in core 2016 EPS over similar 2014 core EPS. The risk to meeting that goal purely remains energy provision. Exceeding or meeting or missing that guidance will be unfortunately tied to a handful of stressed energy credits, but at this point, our team is focused on meeting the target and continuing to grow the Company and earnings quality through this very manageable energy cycle.

I will now turn the call over to Mike Achary, our CFO, for a few additional comments. Mike?

Thanks John. Good morning everyone. I think John summarized the quarter very well just now, but I'll take just a few minutes to expand on a couple of items.

First, our net interest margin. We're obviously very pleased to finally see some core NIM expansion, even if it is just 1 basis point. We have placed a lot of emphasis on slowing that decline in our margin in a very competitive environment and that hard work is paying off. We expanded our core loan yield 4 basis points over the course of the quarter and also saw a 3 basis point improvement in the yield on the bond portfolio. While the cost of funds increased 2 basis points, it still remains one of the lowest among our peers at just 30 basis points. These changes and an improved balance sheet mix led to a $6.6 million or 5% increase in our core net interest income for the quarter.

The charts on Slide 6 of our presentation deck are starting to look better and we are continuing efforts to duplicate that success in future quarters. Our guidance for the reported margin is continued pressure from lower levels of purchase accounting with stabilization in the core NIM.

John also mentioned the strong loan growth we reported for the quarter. That growth of $418 million came from many markets across our footprint, contributions from our specialty finance areas such as equipment leasing and institutional lending, and from consumer lending, so areas like mortgage and indirect. We do expect to meet the upper end of our guidance range for 2015, which is year-over-year loan growth of 8%, and do hope to beat it. The wildcard, as always, will be the level of pay downs we will see from the energy portfolio, but also keep in mind we'll be adding about $200 million in healthcare loans in the fourth quarter. We are also providing guidance for 2016 end-of-period loan growth in the range of 8% to 10%. Coming off a higher base, that will be a good rate of growth again in a very competitive market.

The Company kept expenses under control during the quarter with just over $1 million of increased costs on an operating basis linked quarter. We will continue to find savings where appropriate and we will continue also to reinvest in revenue generating initiatives. Our goal is to keep our annual rate of expense growth to between 2% to 3%, and we do expect a manageable increase in expenses for the fourth quarter.

As John mentioned, the biggest question when it comes to our numbers today is our provision for loan losses. Through the first half of 2015, we saw enough improvement in the nonenergy portion of our loan portfolio to help keep the overall provisions stable at about $6.5 million or so per quarter. For the third quarter, our provision didn't benefit as much from the other areas of the loan portfolio and the provision increased to just over $10 million. That did include a $5 million build for energy. We currently expect our provision to remain at increased levels if pricing pressure on oil continues and if we continue to see risk rating downgrades on energy credits.

And finally, I would like to point out Slide 5 in our slide deck. It's been a while since our core operating and reported EPS have converged, and we're happy to have that level of simplicity back in our results. If we do have any nonoperating items in the future, we will communicate the reasoning and note any impact of the remaining purchase accounting where that's appropriate.

John, the call is back to you.

Thanks Mike for covering that. And Victoria, you can open the call for questions. Thank you.

(Operator Instructions). Kevin Fitzsimmons, Hovde Group.

Could I just ask a question just on the provision guidance of it remaining at increased levels? Mike, you had just mentioned a minute ago that, in prior quarters, you had the help of other areas that were improving, but not so much in third quarter. So when you say remaining at increased levels, do you kind of expect what you saw in the third quarter, or do you feel it's more somewhere in between third quarter and second quarter? In other words, do you expect some of that credit leverage or improvement in the nonenergy area to come back? Thanks.

Sure. Sure thing Kevin. And yes, so the past couple of quarters, we've seen of course enough improvement in the nonenergy part of our credit book that helped fund really almost 100% of the additions that we made to the energy reserve. That dynamic did continue in the third quarter although, as I mentioned earlier, it did lessen.

Going forward, the $10 million run rate for our provision is probably a level that we will build from from this point going forward. So while we still expect to see some improvement in the nonenergy portion of our book, we will of course continue to add to the energy portion as appropriate to do so, again based on any risk rating downgrades that take place from this point forward.

Okay, great. And just one quick follow-up if I could ask it. Your comments on energy focused a lot on the direct exposure and how that's declining and you guys are addressing it with the reserve. Can you speak about what you are seeing on the fringes, in other words the indirect energy exposure? Anything in commercial real estate or in the market overall that you are getting a little more concerned about or taking note of? Thanks.

We will let Sam comment on that.

Sure. Good morning Kevin. For Texas in general, I would say that, when we think about Texas, we have CRE projects in markets outside of Houston. That's inclusive of Austin, San Antonio, Dallas. And so those markets are not as impacted as Houston is, but all of those projects continue to perform well, as do those markets. And as you?ve likely heard from the Dallas Fed as well as from some other banks, the Texas economy continues to have the diversification that serves us well -- serve those markets well in terms of stability through this cycle.

We are seeing a slowing of growth in Houston, but the stability in our portfolio continues to hold very well. The CRE projects we have financed there are meeting our expectations. We might expect to see some softening as it relates to vacancy rate in multi-family in the Houston market. But right now, the projected stabilization and slight addition of jobs in Houston I think will serve us well. Those -- if there is some downward pressure on rent rates in the Houston market, the projects we have are underwritten at lower rent levels and lots of equity there, so we think we're going to be in great shape in terms of projects we have financed.

Office rates, as you can appreciate, are under pressure, but we've got very low office space exposure in the market. And we are, in some markets, starting to see a slight increase in consumer delinquency in oil impacted geographies. At this point, those are not alarming. We are continuing to track unemployment levels in key parishes and counties and focus our collection efforts there. We might be able to see a higher level of consumer charge-offs in those areas as the cycle tracks on, but we are monitoring those very closely.

And to this point, average consumer net charge-offs are within the historical ranges of the last two years. So we will continue to monitor it very closely, but to date, we're not seeing significant contagion from the current cycle.

You are saying everything (multiple speakers) is manageable, right?

Yes, absolutely.

Great. Thank you guys.

Michael Rose, Raymond James.

Just I wanted to follow-up on the energy commentary. It looks like -- and again, I know each company is different, but it looks like your reserve levels relative to some of the other peers that have reported their reserve levels are a little bit lower and your service exposure is little bit higher. Can you help us try and reconcile where you are and then any thoughts on the borrowing base redeterminations, how far you are through it and maybe on average what you are seeing in terms of reductions? Thanks.

Sure. I will take this one, John, if you like. This is Sam.

We have seen some of those reports of higher overall reserve levels at some of the other institutions. What I will say is our reserving methodology is built around our risk rating protocols, which we think are very disciplined. And we combine that with a view of our historical losses.

We don't have anything that indicates a 4% reserve for our portfolio is appropriate at this stage. Should we continue to see additional risk rating migration, obviously driven by the elements of and the duration of the cycle, we could see the potential for additional reserves in order to -- they might be colorful in future periods (technical difficulty) we see additional migration.

But we view our risk rating process as that, a process and not just an event. And so we make appropriate adjustments to the reserve position based on that risk rating migration. So that's how we approach it, and the current reserve position at 212 basis points is appropriate relative to the risk profile that we see in our portfolio today.

So we have taken and are taking a very methodical approach to our risk rating downgrades and to our energy ALLL. And certainly again, if the risk rating downgrades increase, you'll see an increase in our energy ALLL. Whether we get to that 3.5% or 4% range remains to be seen. I think you captured it well when you stated that we feel good about the reserve at this point.

To your other part of your question, we are still early in the fall redetermination. I would estimate we're about 25% through that process, so the bulk of that will happen through the remainder of this month and on into November. We expect to be finished around the Thanksgiving time frame. And our expectation is we're going to see on average about a 15% compression in terms of size of the borrowing bases. That's an early projection. We've seen some that are less than that at this early stage, but that's our expectations. We're probably going to see about a 15% compression.

Okay. And then maybe as a follow-up, maybe the way to reconcile the lower reserve allocation, maybe if you can quantify this, are you dealing with larger service companies relative to some of your other peers, maybe larger service companies that have greater global cash flows and can weather the cycle better? If you can give us any color on maybe average outstanding or average size of companies that you are dealing with. And then just as one other follow-up, do you have any second lien exposure and if you could quantify that? Thanks.

I will answer the last question first. We don't have any second lien exposures. We are speaking specifically to the RBL space. That's not a statement we have traditionally participated in. So we don't have any overhang related to that.

As it relates to the service segments, I can't answer how our portfolio compares to other institutions. What I will say is that we're dealing with a portfolio of mature clients in terms of relationships with our Company. And I don't have the data handy here in terms of average size of those clients in terms of either the relationship or the revenues handy here today. But what I will say is that that is a book, as we?ve said before, that we are very familiar with. It's largely what has comprised our portfolio of energy related credits in prior cycles, and so we've added on the RBL component here in the last few years. So, it's a portfolio of clients that we feel are largely mature and demonstrated management capability through cycles.

Michael this is John. It is a good question and while we really wouldn't be able to do a comparative analysis to other portfolios, the average client size is fairly large and fairly mature, and there is a demonstrable percentage of the book that's tied to transport in the Gulf of Mexico which tend to be -- no one is immune from the cycle, but the cycles out there are so much longer that -- or the contracts are so much longer that we expect we will feel that a little bit less than you would onshore smaller operators. So hopefully that answers your question.

Yes, so (technical difficulty) the exposure of the contracts are anywhere from 5 to 10 years?

A little longer.

A little longer, okay.

I think what we will find, Michael, is it's honestly -- we get the question a lot about the reserve, and we do follow a disciplined process of adding to the reserve primarily based on risk rating downgrades and where we feel we need to add an unallocated portion, because we see erosion that may predate downgrades. We've done that in the past and so far, that's been adequate. As Mike and Sam both said, we are probably around a little past 50% of the way through the cycle and the next two or three quarters will be good to show a little bit of transparency on how (technical difficulty) overall portfolio holds up.

But like I said in my opening comments, we've gone through now -- we think we just finished the fourth quarter of the cycle -- four quarters of the cycle and yet we've got less than $1 million in NCOs. So that would be probably a figure we would point to in terms of the reserve as well.

Great. That's great color. Thanks for the commentary.

Brad Milsaps, Sandler O'Neill.

Just curious, John. With your guidance for 2016, with the core EPS growth over 2014, what are you guys assuming in the way of any help from interest rates, if at all, to help get to that number?

This is John, but I will let Mike address the interest rate part and then I will come back and give you some additional color.

Yes Brad, this is Mike. The assumptions around the interest rate environment through the end of 2016 are really no change, so we're not counting on any help from an increase in rates as we go through 2016. Having said that, if rates do increase at some point, that sure would be a help and would be a tail.

And Brad, this is John again. What we are counting on and have counted on for the last couple of quarters is a more granular loan production continuing in 2016 that we enjoyed in 2015 where a little bit higher yielding components of our loan balance sheet is where we have seen the better growth and the better production levels. That continued through the third quarter and we are, to use your words, counting on -- we are counting on that to continue through 2016.

Got it. Yes, I had seen your core loan yield has held in pretty well for the last couple of quarters. Is that kind of a big part of what you are counting on?

Yes -- I'm sorry, go ahead Mike.

No, no, of course John, it absolutely is, and that really is one of the recipes for us to be successful as we finish 2015 and move into 2016 in that stabilization in our core NIM and we can't -- that can't happen unless we have stabilization in our core loan yield. So that and our ability to add through our earning asset base, primarily through loans, is really what we're counting on. It's kind of the linchpin of our abilities to grow revenue next year along with continued success and improvement, building momentum around all of our revenue-generating initiatives, really most of which are pointed at fee income.

Please don't interpret anything we said to say we'd be disappointed with an interest rate increase (multiple speakers).

We are not counting on it.

Right.

Right, right. And just on the flipside of that, we have seen it from a couple of other banks this quarter, but there's kind of a little bit of a tick-up in some of the deposit categories and specifically interest-bearing deposits I think around 20 basis points or so up from 15. Is that a new product or -- I'm kind of surprised to see that just given your loan deposit ratio with all the liquidity you have on your balance sheet.

No, no new products per se. I think that's just a potential sign of things to come as we eventually at some point move into a higher rate environment. And that is a little bit of an uptick and maybe a little bit of a deposit mix change toward interest-bearing transactions and potentially to a little bit lesser degree timing of deposits. So you see that in our numbers, and I think that's probably a little bit of an industry trend.

And this is John. The real driver of that is loan growth. We need to stay in front of it and are anxious to create -- add new accounts, add new deposits in order to fund what is a fairly aggressive expectation on growing loans. That could put pressure a little bit on deposit costs.

Right.

Sure. Great. Thank you guys. I appreciate it.

Emlen Harmon, Jefferies.

For the 2016 loan growth guide, it's 8% to 10%. You said energy could be a swing factor there one way or another. But what is your current expectation for the size of the energy book underlying that 8% to 10% overall growth?

Boy, that's a great question but a tough question, Emlen. And in the opening comments, I mentioned that, historically, in cycles that lasted a little longer like this one has so far and it's projected to last, the second year of the cycle saw more energy paydowns than the first year of the cycle. And we've experienced $130 million in paydowns so far and line utilization causes that not to net precisely to a reduction of portfolio. But that typically speeds up in Quarter 5 and the fourth quarter of 2015 will be the fifth quarter of the cycle the way we count it. And so I expect that number to tick up in the fourth quarter and then probably stay at an elevated rate through next year.

We haven't and didn't plan, on this call, giving guidance in energy loan paydowns for next year yet simply because I want to see that turn occur. And then I think we will have a little bit better handle on how much to communicate. But I, at this point in time, knowing what I know now, I would expect paydowns in 2016 to be at a higher pace than paydowns that we've experienced in the previous four quarters.

Got it, thanks. In terms of risk reduction efforts in the energy book, are those centered around criticized assets? Are you looking at the larger book as well in places where you can potentially take down exposure?

Obviously, we wanted to get our losses where we identified the higher risk profiles, so we continue to work very closely with our clients in those specific relationships that are criticizing classified, but we make assessments throughout the year. As I said, our risk rating process is a process. And so where we see developing risk in a relationship, even if it's not criticized classified, we would work very closely with that client to see if there are measures we or they need to be taking to deal with developing issues. So it's a very close relationship environment where we are working with our clients.

And this is John. I'm sorry, I interrupted you. Go ahead.

No, no, please continue.

In case you were looking for a percentage there in terms of what I think we'll end the year with next year as a percent of our total loans that are energy-related, given we dropped 13% to 11% this past year, and I think that will accelerate, I would be surprised at anything greater than 9% -- or 9% or greater. So I think we will be at 9% or maybe a little less by the end of next year.

Got it, thanks. And then just on the allowance, aside from energy, what changes have you guys made to the general reserve factors and the allowance just given the import of energy to a number of your markets?

Nothing significant at this point, Emlen, but that's something we're watching very closely, especially with regard to the indirect impact of energy on some of our markets, especially in southern Louisiana and over in Texas. So, Sam had mentioned a little bit of an uptick in consumer delinquencies, so that's an example of something that we are going to keep our eye on obviously and watch very closely.

Mike, it might be fair to say that the eastern side of the franchise keeps on getting better --

Absolutely.

-- and is more pressure on the western side of the franchise. They are somewhat offsetting.

Yes, and that's a great, great point, John, because everything really to the east of southeast Louisiana, so everything we have in southern Mississippi, Alabama, and over into Central Florida really has really benefited net-net from the energy cycle.

And in Louisiana specifically -- this is John ? in Louisiana specifically, we have interesting contrast of -- I guess I will cite the report that came out this week from the State of Louisiana where they projected -- or reported a 1,200 job loss the previous month in energy, but a net 2,500 job gain for the month. So there are contrasting really good things happening inside Louisiana that are somewhat offsetting the pressure down in the oil patch. And it would be nice if those were all in the same markets. They are not. The markets that are most energy impacted are seeing job declines in the areas that aren't are seeing job growth. So we see that as a good factor for Louisiana, and as the energy cycle subsides, should cause the overall Louisiana GDP to nicely grow. So, we are enthusiastic about the state despite the energy bubble that we are facing right now.

John, I think two great examples are related to what you just cited, is job growth related to the chemical corridor in Louisiana as well as refining and medical jobs in New Orleans.

Yes, one of the best job growth markets so far, Mike, was in Baton Rouge, which is heavily influenced by petrochemical and mostly chemical. So they are seeing some good improvement and expansion given the low cost of crude.

I hope that was some good color for you Emlen.

That was. Thank you.

Jefferson Harralson, KBW.

I wanted to ask you about the $66 million in appeals. Is that a relatively common thing when the shared national credit exams come out? And what is in general -- I guess I can maybe guess at it, but what is the nature of the disagreement in the appealed shared national credits?

Hey Jefferson, this is Sam. As to the level, I think we saw several published reports about maybe elevated levels of appeals in the last cycle. I can only speak to our book, but nationally, there was an appearance that maybe there were a higher level of appeals. And the nature of that comes down to some of the dynamics relative to our view of the strength of the cost, leverage, cash flow, overall construction of the balance sheet, etc. So, it didn't -- we are not always going to agree on everything, but certainly we have a very constructive dialogue with the regulators at those points of time. So I can't speak to the national view but as it relates to our book, we continue to feel confident in terms of the quality of those credits that were on appeal, but ultimately have to make the adjustments in the ratings as the regulators direct.

Now, one thing I will tell you is, just for clarification, part of the move, as John said, in the third-quarter criticized number were those accounts that were on appeal. We went ahead and made the reserve allocation for those during the second quarter, but because they were on appeal, we didn't make the actual move into criticized until the third quarter. We wanted to be sure we had the full impact of the results of those appeals. And in a couple of cases, there was some movement relative to certain aspects of those credits. So we feel like we were justified, and it was the appropriate thing to hold off on making those prescreen adjustments until we fully heard the appeals.

Jefferson, this is John. Perhaps -- our convention has always been that if there is an appealed credit out of the SNC review, we go ahead and deal with the impact to the reserve as if it's going to be declined in the quarter it's rendered and then deal with the loan classification in the following quarter when we get an answer on the appeal. That's just always been the convention that we followed.

We have never had as many appeals by -- even close to the number of appeals that we dealt with this time in that whole with $66 million. So we debated internally whether we should go ahead and take the $66 million in downgrades in the second quarter, but then we would've been breaking the convention, so we did what we have been doing in the past, deal with it in the reserve, which we did, and then wait for the answers, and that's what we did.

In retrospect, it probably would have softened that curve that we reported at investor day if we had absorbed the $66 million. So it looks like there was a much bigger deterioration in the third quarter than in reality there was because it was really more related to the SNC review a quarter earlier. I'm sorry for that complexity, but that's just the way --

That's okay. And these are loans that you are not the lead banker I think? And if so, do you know -- do you have any visibility into whether other people in the SNC are also appealing them? Was this a group appeal or an individual appeal of a loan someone else is leading?

Jefferson, this is Sam. The agent bank protocol is the bank that makes the appeal. So, in these cases, the upstream agent bank would have been making the appeals. So we would be part of the group below that that would be impacted by the results of that appeal, but the agent bank is the lead and In this case, we were not the leads on these particular credits that were appealed.

So in actuality, the lead bank -- the agent bank is actually the one appealing. You sort of get the appeal pressed down upon you in a way. It's not a bad thing, but that's what it sounds like.

Well, again, each bank can deal with it how they feel (technical difficulty) and make the downgrade on their books or they can (technical difficulty). So different banks may take a different approach there, but all of the banks that are in the (technical difficulty) have to make the appropriate adjustments once the appeal has been decisioned.

All right. Also my follow-up is the healthcare loan book that you bought, $200 million, what was attractive about that and what size do you think that book can be over time?

Well, it was -- the bankers were really attractive to us. We've already got a pretty sizable healthcare book today, but we didn't have a dedicated healthcare banking team in an industry that we believe will grow across the footprint we operate in. And Houston has a very large medical establishment. New Orleans has a big one and it's had tremendous investment in it, several billion dollars in the last couple of years. And then Florida has always been a strong healthcare provider and it's growing given the demographic changes there.

So it was an industry that we thought we needed a bigger slice of. So, what was attractive was the quality of the team of bankers, which I don't know if we pointed out in the last call, but that included a credit -- some credit expertise that came with those experienced bankers. And we expect to lever their expertise a little more broadly in the healthcare industry and maybe a little more broadly geographically.

So what was attractive was really the ability to have that team, have them help us in developing tools and products to grow that healthcare industry responsibly in markets we already operate and maybe a little more, and then to get the healthcare book, allowed us to essentially fund the cost of that team from the get-go. The team started on October 5, and we would expect to bring the portfolio on over the next several weeks.

On a going-forward basis, we are well under the concentration limits prescriptively defined by our board and management. We didn't want to offer out there how big that would get at this point in time until we have a little more time with the team to pick which subsegments we think we want to focus on first. So we will talk more about that maybe in a quarter or two.

All right, great. Thanks guys.

Matt Olney, Stephens.

I am going to stick with the energy discussion, and I'm trying to get a better feel for when the absolute level of criticized energy loans could stabilize. And John, I heard your comments about the energy payoffs on some of these criticized energy loans over the last few weeks, which is obviously a positive, but where would you expect that stabilization point on the criticized energy loans?

Sam and I are sitting here looking at each other. That would be a great crystal ball to project. I will offer a few things and let Sam add some expertise to it.

In past cycles, the RBL book stabilizes faster when crude begins to snap back because the value of the collateral in the ground goes up pretty quickly. So we don't really fear any loss in that book and most other banks that we talk with feel the same way we do, so we don't think there's a lot of risk in there. Services typically drags a little longer because those contracts get renegotiated not necessarily in 30-day increments. So I think criticized and classified loan numbers for RBL will snap back pretty rapidly as stabilization recovery occurs. And if you believe the consensus opinion that the second half of 2016 -- if the services portfolio lags a little bit, then you are probably talking about four quarters from now. But I mean that's a real crystal ball answer that's really tied more to the consensus than our past experiences.

In our past experience, the recovery happened faster, but I don't want to gain that call given where the consensus lies today.

Sam, do you have anything to add to that?

Just a couple of comments. One thing I was thinking just to add on to something Jefferson asked about, as we talk to these clients, we do have the luxury of spending time with the clients, with the management teams, understanding what they have in flight, understanding what's going on. And that's a little different perspective than the regulators might have from time to time. So we are pretty close in terms of knowing what those plans are.

Having said that, the depth and the duration of the cycle, as we have been saying, are going to be the primary drivers here. The longer the cycle continues at current price points, the more stressful we'll see throughout the industry with potential impact on our portfolios. The impact is going to be different for different banks based on the profile of the clients. It doesn't mean we're not going to have challenges, but they are going to be some companies that will weather this cycle. They're going to survive, and there will likely be some that do not. So we may very well see criticized levels and nonaccrual levels increase, but we also may likely see some merger activity and consolidation activity the longer the cycle endures. We are always seeing some level of that, but the longer the cycle endures, the more of that we could see. So that could be a real impact to the overall level of criticized and nonaccrual loans as well.

Positively.

Positively.

In some ways, this is a little bit like predicting when interest rates are going to go up. Hopefully, in 2016, we see higher rates and high oil prices.

I will predict with some confidence that the energy cycle will not last as long as the interest rate cycle has lasted.

That's helpful guys. Thank you. And then as a follow-up, can you talk about any color on the net additions of commercial lenders in recent quarters? And is this initiative still continuing?

It is. This is John. Thanks for that question. We added about 20 bankers over the course of the third quarter, and that was evenly split between the various retail segments and commercial, so about 10 in each.

And John, what about a year-to-date number?

A year-to-date number -- I'm having to reach back. I've got it. I think total will be about 63 if my memory is correct.

Okay. Thank you.

Jennifer Demba, SunTrust.

Could you -- when you look at your criticized and classified credits in energy, what are the percentages in oilfield service versus E&P lending?

Let's see. We have -- let's see. We've got that information I think on Slide 14 of the --

I'm sorry, I missed that. I can go to another question. John, is there any thought to offering broader commercial banking services in the national market alongside the hiring of that healthcare team?

Not outside healthcare. And when we say, national, there are some public companies that are in that healthcare book, but I guess we would call that a national offering. But anything that is more facility related or office related we would expect to continue just in our region. Given the team is located in Nashville and that's a big healthcare market, I would expect to probably grow the book there, but primarily just in the Texas to Florida region.

And what about just hiring general C&I or commercial real estate lenders in Nashville? Is that being contemplated?

It is. We initially filed for approval to have a loan production office there, but I would expect that -- it wouldn't surprise me at all if, before the fourth quarter was over, we converted that to a business financial center and hired some additional team members there. But we will take it slow. We don't plan to open a bunch of offices there from the get-go. Per the color we've given in previous calls, we want to stay in market as much as we can, but we will add some bankers there and that LPM and convert it to a BFC.

Yes, BFC would technically be --

I'm sorry. Yes, business financial center, that would technically be a branch.

Thank you very much.

Jon Arfstrom, RBC Capital Markets.

Just a couple of clarification questions, a little bit on oil I guess. But Sam, on Slide 12, there's a bullet point that said should pricing pressures on oil continue, we could see continued downward pressure on risk ratings. Are you basically saying the current oil price ? or are you saying something worse from where we're at today?

I am not projecting the direction of hydrocarbon prices. It's just that the current softness if sustained for a period of time would continue to have an impact in terms of those risk ratings.

Okay. So not to put words in your mouth, but we're assuming the current environment, something like that?

Yes.

Yes, okay. Good. And then for Mike or John, you talked about the higher provision assumptions, and I think we all understand that. But going back to the 2016 EPS goal, if you will, the 25% growth, I guess the way it I look at it, my assumption would be your provision assumptions are now a bit higher in terms of hitting that goal higher than what we maybe assumed in Q1, and the offset is maybe a little stronger loan growth. Is that the way we should look at it?

Yes, absolutely, as well as stabilization in our core NIM. But at the same time, and I think John pointed this out in his opening comments, a higher provision at levels that we're at right now, at $10 million or even higher, certainly represents a significant challenge toward achieving that goal. We're not coming off the goal of course, but it does represent a challenge.

And that's the reason you see some of the initiatives getting added like the healthcare one, to try to offset that potential risk as much as we can.

Yes, okay. Okay. That does help me quite a bit there. And then just on other initiatives, in your near-term outlook, you talk about some of the fee investments that you've made continuing to mature. Can you talk a little bit about that and give us an idea of what you are seeing and what we can expect from that?

Sure. We enjoyed a good bit of noninterest income growth in the second quarter, and that was really out of just hitting maybe a little earlier than anticipated. Our third quarter shows as being relatively flat, but there is some noise inside that number. We continue to see good improvement in mortgage. We saw improvement in credit card. We saw a really good improvement in investment, annuity, and in service charge income, the service charge income being one that rolls as we grow accounts, so we were glad to see that one.

Derivative income was the single largest contributor to having a little bit less than we expected in the past. And I will let Mike add some color on that when I'm done. But in general, what I would expect to happen is seasonally fourth quarter is not a good quarter for mortgage just because transactions tend to slow down. We did add a very quality team of mortgage bankers in Tampa. We tried to add them early enough such that their increased production in that market, and they are very good team, would tend to offset the seasonal decline we see in the fourth quarter. That pipeline is building and hopefully will hit in time to offset the normal cyclical reduction we see in mortgage.

So I think what we will see happen is noninterest income ease up over time unless there's some interruption. The only disappointment so far in initiatives is our mutual fund complex has not run off the revenue that we anticipated as we began to work more in wholesale. And that is certainly a disappointment but it has caused -- it's really not a failure to execute on our side. It's really just the market. And we would hope to have a little bit better performance in those funds in the future. That would make a big difference if it did.

Jon, I will just add a little bit of color to John's comment about some of the noise in fee income in the third quarter. One part there was some seasonality in trust. So we typically book a lot of tax prep fees in the trust area in the second quarter and of course don't have those going forward. I believe that variance was about $400,000.

And then the other item that caused a little bit of noise was a valuation adjustment that we do in our customer swap book. And that's related to the derivative products that we sell our customers and then keep the offset on our balance sheet or through our balance sheet. So we have to value those each and every quarter. And with a little bit of a swing in interest rates, the basis for that valuation, there was about a $1.2 million, $1.3 million negative variance between the second and third quarter. So those two items together, those kind of comprise the noise that John mentioned related to fee income.

Okay. Okay, good. Thanks for your time.

Christopher Marinac, FIG Partners.

I'm just wondering if you could drill down a little bit on what you're seeing close to home in New Orleans and how the market feels now and sort of what your expectations would be for the next year.

Thanks for the question, Chris, and good morning. New Orleans continues to do well. In the last really bad energy cycle, the New Orleans economy took a lot of hits. Many of those companies moved to Houston after Katrina, and so the job losses that we've seen in New Orleans have really been completely offset by growth in other sectors. So the New Orleans economy is doing well, continues to see new business starts.

Interestingly, the condo build boom continues and prices continue to go up. Tourism, both individual and convention and trade show business, is also booming. And so New Orleans continues to thrive very well. We enjoyed a good market share improvement year-to-year in New Orleans and both consumer and commercial banking has been a positive surprise. So overall, we are still very bullish on New Orleans.

And John, the energy changes have not really impacted the city, just to confirm what you're saying there?

Well, it's on top of mind, to be fair. There are a lot of investors that are in the city. There are a lot of folks who live there. It's really been more damage on the north shore above Lake Ponchatrain in terms of professional job loss. There was a lot of engineering, a lot of science, a lot of geologists there that were part of the two large layoff announcements that happened the last couple of quarters.

So New Orleans, the city itself and the parishes there south of the lake are doing great. The north shore suffered some, but it's always been a healthy market and I expect it will rebound. But we consider the New Orleans region, including Houma-Thibodeaux and Morgan City, the most pronounced economic decline we see have been in those communities inside of what we call the Houma-Thibodeaux MSA. It's been tough down there because so much of a percentage of jobs are tied to the oil patch. And so it's been a great market for a long time and it will come back and be great again, but right now that's probably the most pronounced weakness we've seen.

Okay, that's great. Thanks very much.

I'm not showing any further questions at this time. I would now like to turn the call back over to Mr. John Hairston, President and CEO.

Thanks, Victoria, and thanks for moderating today. And we would bid everyone a good weekend. Thanks for attending the call and thank you for your interest in Hancock Holding Company. Good day.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone have a great day.