Bank Ozk (OZK) 2010 Q1 法說會逐字稿

Good morning. My name is Renee and I will be your conference operator today. At this time I would like to welcome everyone to the Bank of the Ozarks first quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be a question-and-answer session. (Operator instructions) I would now like to turn the conference call over to Susan Blair. Ma'am, you may begin your conference.

Thank you. Good morning. I'm Susan Blair, Executive Vice President in charge of Investor Relations for Bank of the Ozarks. The purpose of this call is to discuss the Company's results for the first quarter of 2010 and our outlook for upcoming quarters. Our goal is to make this call as useful as possible in understanding our recent operating results and future plans, goals, expectations and outlook.

To that end we will make certain forward-looking statements about our plans, goals, expectations, thoughts, beliefs, estimates, and outlook for the future, including statements about economic, real estate market, competitive, credit market, and interest-rate conditions, revenue growth, net income and earnings per share; including our goal of achieving net income of $10 million or more in the second quarter of 2010 and increasing net income further in future quarters; net interest margin including our expectation of achieving further improvement in net interest margin in the second quarter of 2010 and thereafter; net interest income including our goal of achieving record net interest income in the second quarter of 2010; noninterest income including service charge, mortgage lending, and trust income; noninterest expense; our efficiency ratio; asset quality in our various asset quality ratios; our expectations for provision expense for loan and lease losses; net charge-offs and our net charge-off ratio; our allowance for loan and lease losses; loan, lease and deposit growth, including our expectation of achieving positive loan and lease growth in the second quarter of 2010; changes in the volume of our securities portfolio; potential savings from the repayment of certain FHLB advances; the opening of new banking offices; the belief that our Unity acquisition will be accretive to net income and diluted earnings per common share on an immediate and sustained basis; and our goal of making additional FDIC assisted failed bank acquisitions.

You should understand that our actual results may differ materially from those projected in any forward-looking statements due to a number of risks and uncertainties, some of which we will point out during the course of this call. For a list of certain risks associated with our business you should also refer to the forward-looking information caption of the management's discussion and analysis section of our periodic public report, the forward looking statements caption of our most recent earnings release, and the description of certain risk factors contained in our most recent annual report on Form 10-K, all as filed with the SEC.

Forward-looking statements made by the Company and its management are based on estimates, projections, beliefs and assumptions of management at the time of such statements and are not guarantees of future performance. The Company disclaims any obligation to update or revise any forward-looking statements based on the occurrence of future events, the receipt of new information or otherwise. Now let me turn the call over to our Chairman and Chief Executive Officer, George Gleason.

Good morning and thank you for joining us for today's call. We are very pleased to report what was by far the most profitable quarter in our company's history. Our first quarter results were at a record level, even before our strategic acquisition in North Georgia. Among the key factors contributing to our favorable core results were the further improvement in our net interest margin to 4.99%, our fourth consecutive quarter of record trust income, our excellent efficiency ratio and improved asset quality metrics which led to a lower provision for loan and lease losses. Of course our first quarter earnings were propelled even higher by the bargain purchase gain from our very profitable acquisition.

For the past two years we've described the economic and operating environment as providing exceptional opportunities in the midst of extraordinary challenges. We've already capitalized on a number of those opportunities and for several quarters now we've discussed that FDIC lost share transactions are another significant opportunity for us. Through the end of the first quarter we had performed due diligence on approximately nine institutions and bid on all but three.

Our strategy has been to be very active in looking at opportunities while being very conservative in our underwriting and our bidding. In evaluating potential transactions we consider some transactions as being more strategic in nature and other transactions as being more financial in nature. We have said publicly that we want to make a substantial profit on all the transactions we close, but we want to make a much larger profit on transactions that are primarily financial in nature and we will accept a smaller profit on transactions that have significant strategic benefits.

We view our March 26th purchase of Unity National Bank as being strategic for a number of reasons. First, this acquisition provides us with an entrée for further expansion in Georgia, including the Metro Atlanta area when economic conditions improve. Second, we are very fortunate to have acquired a wonderful staff in Georgia with a great work ethic, a fantastic commitment to customer service and a genuine desire to perform with excellence and be successful. With our leadership policies and procedures, I think they're going to do a great job.

Third, as we prefer to do, Unity owned all of its five branches and these branches are well located with nice buildings that are appropriate in size and design for the markets served. Fourth, while we acquired some internet deposits and other high rate CDs at Unity, there is also a good nucleus of core deposit customers. The quality of Unity's deposit base was well above average among the failed banks on which we have performed due diligence so far.

Fifth, while Unity had a large number of problem loans that are covered by our loss share agreement with the FDIC, the portfolio we acquired also includes a number of quality loan customers with whom we expect to continue to do business and solicit new business in due time. Sixth, we like the communities in which our five Georgia offices are located and we think that we are connecting very well with our customers there. These communities have many similarities to some of the Arkansas markets in which we've operated very successfully for many years.

Considering all these factors, we feel that Unity has the highest strategic value of all of the deals that we have looked at so far. The financial implications of the Unity acquisition were immediately favorable as our day one after-tax bargain purchase gain net of acquisition cost contributed $5.9 million to first quarter 2010 net income or $0.35 to first quarter diluted earnings per common share, but more importantly, the strategic qualities of this acquisition lead us to believe that it will be accretive to net income and diluted earnings per common share on an immediate and sustained basis.

Our transition team did an excellent job in this transaction, given our progress with the Unity transaction; we are ready to resume our search for additional acquisitions. In fact, we performed due diligence last week on another bank that we ultimately determined not to pursue based on our due diligence results. We are actively analyzing additional opportunities and we hope that our Georgia acquisition is just the first of many to come. As profitable as such acquisitions can be, we are very fortunate that we already have a great bank that has generated strong earnings growth for many years. As we noted in our last conference call, we have achieved record net income in each of the last nine years.

Our first quarter results would have been excellent even without the Georgia acquisition. Our new Georgia offices were part of our company for only five days at the end of the quarter so they had almost no effect on our first quarter results, apart from the significant day one gain and related acquisition cost.

Accordingly, let's turn our attention to our favorable first quarter core results. Net interest income is our largest source of revenue. Of course net interest income is a function of both net interest margin and average earning assets. Over the past three years we have had very favorable improvement in our net interest margin. This improvement continued in the quarter just ended as our net interest margin increased to 4.99%, an additional 10 basis points from the immediately preceding quarter. And I'll just add parenthetically here that our acquisition had no effect on our net interest margin. It would have been 4.99% even without the addition of the Unity transaction for five days. And that's a 26 basis point increase from last year's first quarter.

There were no significant unusual items affecting first quarter net interest margin, either positively or negatively. All other things being equal, starting in the second quarter of 2010 and thereafter, our net interest margin should get an additional boost from our repayment of our highest rate interest bearing liabilities; specifically as we've discussed before, next month we have $60 million of FHLB advances maturing with a weighted average interest rate of 6.27%. We estimate that assuming continuation of the current interest rate environment, we will achieve annual pretax savings of between $2.8 million and $3.6 million when we repay these advances and replace them with new deposits or borrowings.

One of the factors contributing to the improvement in our net interest margin in recent quarters has been the improving quality and profitability of our deposit base. Although total deposits have declined in recent quarters as we've adjusted our balance sheet, primarily for the reduction in our investment securities portfolio, we have continued to experience two favorable trends regarding deposits. First, our non-CD deposits have grown significantly from March 31, 2009 to March 31, 2010 total non-CD deposits increased from 46.5% to 58.1% of total deposits.

Secondly, broker deposits have been significantly reduced, decreasing from 11.4% of total deposits at March 31, 2009 to just 2.7% of total deposits at March 31, 2010. Not only have these changes helped improve our net interest margin, but they also have had favorable implications for business development opportunities and service charge income.

As a result of our favorable net interest margin we had another good quarter of net interest income, although it was not a record quarter. Specially, net interest income for the first quarter was $27.2 million, a decrease compared to both the first quarter and fourth quarter of last year. This decrease was attributable to our declining average balance of earning assets which resulted primarily from our being a net seller of investment securities throughout 2009. This reduction in our investment securities portfolio was undertaken as a result of our ongoing evaluations of interest rate risk and reflects our emphasis on long-term performance over short-term results.

Let me explain. While our sales of investment securities have reduced net interest income in the short-term, we expect interest rates will increase at some point significantly and we believe that we will benefit from being in a position to be a net purchaser of securities in the future when we expect interest rates will be higher. We've said for several quarters that to get back on a record quarterly pace for net interest income we will have to grow earning assets. Obviously the addition late in the quarter of covered loans as part of our Unity acquisition provides a nice boost to earning assets going forward. Also in the January conference call I stated that we were cautiously optimistic that we will resume positive loan and lease growth in the second quarter of 2010. I noted that the second quarter has historically been characterized by good demand for loans and leases. We continue to expect that we will see positive loan and lease growth in this second quarter.

Given our boost in earning assets from the Georgia acquisition, our expectation for positive loan and lease growth and our expectation for further improvement in our net interest margin, we think we have a decent shot at achieving record net interest income in the second quarter. In addition to loans and leases, investment securities comprise an important part of our earning assets. We've stated many times that we will manage our securities portfolio with a view to maximizing our long-term total returns, buying when we believe it is advantageous to buy and selling when we believe it is beneficial to sell. Therefore, the volume of our securities portfolio may increase or decrease in coming quarters based on changes in market conditions, changes in our balance sheet, changes in our assumptions regarding interest rate risk and various other factors.

Let's shift to non-interest income. Income from service charges on deposit accounts is traditionally our largest source of non-interest income. Typically the first quarter has provided our lowest quarterly level of service charge income each year. We are therefore very pleased with the 14.2% increase in service charge income in the quarter just ended compared to last year's first quarter. This significant increase probably reflects a number of factors including better economic conditions in the first quarter of 2010 as compared to the first quarter of 2009 and our significant growth in core deposit accounts over the past year.

Mortgage lending income in the quarter just ended was down 38.8% from the first quarter of last year. A variety of factors appear to have contributed to the poor first quarter results, but we expect second quarter mortgage lending income will be better than the first quarter.

Our trust staff, under the excellent leadership of Rex Kyle, continued to add new accounts and grow existing relationships in the quarter just ended resulting in a 42.5% increase in trust income compared to the first quarter of last year. This was our fourth consecutive quarter of record trust income.

Net gains from investment securities and sales of other assets in the quarter just ended were $,624,000 compared to net gains in such categories of $4,047,000 in the first quarter of 2009. Net gains from investment securities in the first quarter of 2010 were primarily a result of our continued sales of investment securities to adjust our overall interest rate risk position.

Let's turn to non-interest expense, which increased 7.9% compared to the first quarter of 2009. Obviously this moderate increase in non-interest expense affected our efficiency ratio but our efficiency ratio continued to be very favorable at 37.0% for the first quarter of 2010 compared to 36.9% in the first quarter of 2009. Of course, for many years one of the strengths of our organization has been our excellent efficiency ratio and that strength was again evident in our first quarter results.

While we are discussing overhead, let me mention that despite our focus on FDIC assisted failed bank acquisitions, we are continuing our growth in de novo branching strategy, including plans to open a third banking office in Benton, Arkansas in late 2010 and two additional metro Dallas area banking offices in late 2010 or in 2011. We expect de novo branches to continue to be an important part of our overall business strategy.

One of our longstanding and key goals is to maintain good asset quality. Economic conditions have made our traditional strong focus on credit quality even more important. Over the past several years we have dealt with a number of asset quality challenges and we think we have been relatively successful in handling those issues.

In our last two conference calls we have stated our belief that we are past the midpoint of the current credit cycle and therefore, we believe that our allowance for loan and lease losses ratio has already peaked. As you will recall, the recent high point in our allowance ratio was 2.19% of total loans and leases at June 30, 2009. We continue to believe that that 2.19% allowance ratio was the peak for the current credit cycle. I also stated in the last call that while we expect our net charge-off ratio, net charge-offs and provision expense to vary from quarter to quarter in 2010, we believe that on average these metrics will show improvement in 2010 compared to the results achieved in the fourth quarter of 2009. That continues to be our expectation and as expected, our first quarter results were consistent with that guidance, showing positive asset quality trends compared to the fourth quarter of 2009.

Specifically regarding those three ratios; our annualized net charge-off ratio for the quarter just ended improved to 86 basis points compared to 108 basis points in the fourth quarter of 2009. Our net charge-offs in the quarter just ended improved to $4 million compared to $5.3 million in the preceding quarter and our provision expense in the quarter just ended improved to $4.2 million from $5.6 million in last year's fourth quarter.

In addition to those ratios, our ratio of non-performing loans and leases to total loans and leases also improved to 1.02% at March 31, 2010 compared to 1.24% at year-end 2009. Our ratio of non-performing assets to total assets improved to 2.68% at March 31, 2010 compared to 3.06% at year-end 2009 and our ratio of loans and leases past due 30 days or more which includes past due non-accrual loans and leases as a percent of total loans and leases improved to 1.70% at March 31, 2010 compared to 1.99% at year-end 2009.

In addition to those improvements, we are very pleased to report that through the first 27 days of April we have closed 12 sales of foreclosed real estate to third parties, including that large apartment complex in Arlington, Texas which we've discussed in previous calls. At March 31, 2010 these properties had an aggregate carrying value of $12.3 million and accounted for 15.2% of our total non-performing assets. Collectively these sales resulted in proceeds substantially equal to the company's March 31, 2010 book value of the assets sold. And by substantially equal, I mean our cumulative losses on those transactions have been between $1,000 and $2,000 in the aggregate. The increased demand for many of our foreclosed properties at prices substantially equal to our carrying values is very encouraging and we believe that this heightened level of activity and relatively favorable pricing reflects an improvement in economic conditions generally.

In closing, we think that we had an excellent quarter which became a superb quarter as a result of our very profitable acquisition. Our goal for the second quarter of 2010 and we believe it's a very reasonable goal, is to achieve net income of $10 million or more, exclusive of any bargain purchase gains from acquisitions. For future quarters our goal is to increase net income even further each quarter. Of course we certainly hope to do more FDIC assisted loss share transactions and if we can do more, such transactions could result in significant bargain purchase gains and even higher quarterly net income results.

That concludes my prepared remarks. At this time we will entertain questions. Let me ask our operator, Renee to once again remind our listeners how to queue in for questions. Renee?

(Operator instructions) Our first question is from Andy Stapp of B. Riley.

Nice quarter. I noticed that your provision was roughly in line with net charge-offs; is that a good way to look at the provision going forward?

Andy, it's consistent with our expectations. Certainly we're going to do our mathematical analysis on the portfolio every quarter and make whatever provision is appropriate based on changes in the portfolio and changes in economic conditions and actual results achieved, but our expectation is that there's going to be a high correlation this year between the provision expense and the actual net charge-offs incurred.

Okay. What are you seeing in terms of deposit runoff in Georgia?

We are seeing, as we expected, a fair amount of runoff but it is actually coming in less than we expected. Basically what we wanted to do was reprice their CD book. They did, as I mentioned in my prepared remarks, have a bunch of internet based deposits. Those are of no interest to us so we cut those to an almost nominal interest rate on the Monday following the acquisition which we were legally entitled to do and we cut the other CD rates to 1.50% across the board, which we were legally entitled to do.

So we've seen almost all of the internet deposits leave, which we expected and wanted to occur and we've seen a chunk of the high cost CDs run off. But we didn't tinker at all with their core deposit rates, which they had priced very appropriately and had a pretty good nucleus of core customers. And our 1.50% CD rate is in the middle of the market there as it is. So we've seen a good runoff of the internet, a moderate runoff of the higher cost CDs and seen very few core accounts leave, so we're pretty pleased with all that.

Understood. Your securities yields were up quite a bit, link quarter; just curious what was driving that?

We've been rotating some parts of the portfolio. And I haven't really analyzed that like I normally would, Andy, but we did sell quite a bit of our taxable mortgage backed portfolio in the fourth quarter of last year and we replaced that with bank qualified tax exempt securities. We've also been selling in the fourth quarter of last year and continuing the first quarter of this year selling non-Arkansas, non-Texas, non-bank qualified securities and replacing those with Arkansas and Texas municipal bank qualified and as a result of that, I think we probably made the portfolio a little more profitable and we've put it in a little bit more defensive posture for a rising rate environment. So that's been our strategy there. If that's translated into some better yields, that's a good thing.

Your next question is from Matt Olney with Stephens Incorporated.

Great quarter. George, your franchise now expanding to the Georgia market, how does that affect your goals for efficiency going forward and what kind of timeframe do you have for achieving those goals?

That's a great question, Matt. You know, I don't think it affects our goals a lot. Obviously that franchise was not as efficient. The acquired franchise was certainly not as efficient as our franchise, our core historical franchise has been but we like that franchise. As I mentioned, I like their facilities, I like their markets, I really like their people. We kept 60 of their 69 staff members, which was quite a surprising result.

But we feel very good about that franchise and being able to integrate it as a very profitable strategic part of our company going forward. Now obviously it's going to shrink for a little while because a large number of the assets acquired are troubled assets and even though they're covered by the loss share agreement they'll have to go away and we'll have to work through those and as I mentioned, they had some internet deposits and some other higher costing deposits that are not consistent with our model. But we'll work those down so you'll see that franchise shrink for a while but then I think it affords us an excellent growth opportunity in the future. So, in the aggregate I think it's going to have a fairly negligible long-term impact on our efficiency ratio a year, two years and three years out. Longer-term I think it will help us achieve our goals.

Okay. And secondly, I'm trying to understand the margin impact that we're going to see from the acquisition. It sounds like you aggressively cut deposits and it also looks like there's some good yields coming over from those covered loans. Can you give us an idea of what kind of impact we'll see from that on the margin?

I think the margin impact could be nicely favorable and you're correct, we're assuming the covered assets have a pretty decent yield on them, an imputed yield based on 141R and SOP033 and we have been very judicious in cutting their deposit costs. We of course had two days of high cost Saturday and Sunday we cut their rates on Monday so we had three days at a reduced cost; Monday, Tuesday and Wednesday that went in, but as I mentioned in my prepared remarks, the income impact of Georgia on our margin was nothing. We would have had a 4.99% margin without the Georgia acquisition and we had a 4.99 margin with it, but it was only in there for five days and that was a very negligible impact. But we do think that that acquisition will tend to be slightly accretive to margin in the current quarter and going forward, in addition to the boost that we get to margin from the repayment of those $60 million of high cost FHLB advances that we've had on our books for almost 10 years now next month. So we're optimistic about our ability to improve the margin a bit further.

Your next question is from Peyton Green of Sterne, Agee.

I was going to ask a question actually about the imputed deal but I think you covered it previously, but maybe from a more top down perspective; as you go on calls and attend loan committee meetings, how has it changed in the last three to six months that makes you feel better about getting some positive traction maybe in the second quarter?

On loan and lease growth?

Yes.

Well, we're seeing some excellent opportunities. Loan committees certainly are not where they were volume wise, three years, four years, five years ago but we've seen some good new volume. We've got a good pipeline of transactions that we hope to close this month and next month, late April and mostly in May. So we have a very good pipeline of deals pending and they're low leveraged deals with a lot of equity in them and we think we'll get those closed and that they'll be the first of many loan opportunities that we'll have over the course of this year. We've been pruning the portfolio and probably paid more focus on working things down and working things out that we wanted to get down and out.

Certainly there's still some pruning to be done. We're always pruning the portfolio, but a lot of the heavy lifting in that regard has been accomplished and there is a better economy out there certainly and people are coming out of the foxholes a little bit and doing some new business and there's some great refinance opportunities out there for us. So we think we can turn that into some positive loan growth starting in the second quarter.

Okay. And would this be more income producing kind of low leverage, lot of equity type opportunities or is it still more in the development side?

Some of each. We're seeing some good opportunities in both sectors but I would say all of it is fairly low leveraged. We've got a couple of construction deals that are approved for a really solid borrower, 100% leased to a national credit tenant that are basically 70% leverage deals with 30% cash equity in them. And we're looking at a couple of fairly sizeable high quality shopping centers that are already built and operating and we're looking basically at 55% leverage, 45% cash equity in those deals. So, they're low leverage transactions that have really good profiles.

Great. And then on the deposit side, certainly the mix change has been exceptional. And I don't know that rates are going up anytime soon, but once they start to go up, how would you prepare us to think about the mix change that might happen on the other side of the rate cycle? Do you worry about that or is it something that's very different in how the company's being managed now?

I think we've got the best focus that we've ever had in the 31 years that I've been running the company, on the value and importance of core deposit business and we've been actively campaigning and promoting more intensely than we ever have over the last nine quarters, the development of core deposit customers and I think our staff is better educated, more sensitive, more attuned to that than they've ever been before as a result of the constant drumbeat of that issue from senior management and our marketing folks and our retail banking folks. So I think our deposit base will, even in a higher rate environment where money tends to gravitate more towards CDs perhaps, I think our deposit base is going to continue to have a very favorable mix compared to the historical norms you might have seen from us two years, three years, five years ago.

Will some money that is in low-cost money market and investment accounts now go into CDs when CDs become higher rate instruments again? Probably so. But the flip side of that is there's an intense focus within our staff on building core deposit relationships and I think that tends to push new business that way as well. So I can't tell you exactly how that plays out, but I think we've got over the last two years and a quarter, I think we've accomplished a permanent and fundamental positive shift in our deposit base that will serve us well for years to come and it's in large part due to a shift in the psychology and the priorities of our staff in that regard.

Okay great. And then last question; where did you see the payoffs in this quarter and was that any different than in the past quarter or two in terms of the loan portfolio?

Peyton, I can give you that data. Hold on. Let's see, our total real estate loans were down $3 million quarter to quarter and some categories of real estate were down and some were up, for example residential and I'm just going to round all these numbers off; residential 1 to 4 was down $5 million; commercial real estate was down $7 million; construction and land development was up $9 million; agriculture was down $3 million; multifamily was up $4 million. So net-net, real estate, as I say, was down $3 million. C&I lending was down $15 million and consumer was down $5 million and financing leases were unchanged, [IGRA] was down $1 million and other was unchanged basically. So there was a lot of loans paid off, there were a lot of new loans originated; stuff just moved around as is typical in most quarters.

Your next question is from Dave Bishop with Stifel Nicolaus.

Question for you and you may have sort of touched on this before and I apologize if it's repetitious, but I know in terms of your monthly loan committee meetings when you're reaching out to the regional presidents and such, what's your sense in terms of I guess the watch list, the loan grades; are you sensing more that the VARS that were previously under stress are carrying some of the loan delinquencies or covenant violations or such? What's the tenor I guess from the different regional offices out there?

I would say there are pluses and minuses in that regard, Dave. Overall, obviously as evidenced by the fact that pretty much every asset quality metric we measure and report in the conference call and the press release improved from fourth quarter of last year to first quarter of this year or from December 31 to March 31. Obviously a lot of problems are getting resolved and getting pushed out of the way and dealt with. We are still seeing new problems emerge as you would expect. We're still operating in an environment where unemployment levels are high by historical levels and economic conditions are muted by historical levels and there's still residual effects from the recession that we've been through and the overbuilding and other conditions that led to that. So there are still new challenges.

What I've alluded to I think in the last couple of conference calls and would tell you seems to be the case now is that the emergence of new challenges is showing significant slowing and I think that's reflective of the fact that things in the economy in general are getting a lot better and people who need to make adjustments in their inventories and their balance sheets are doing so.

The economy certainly is going to provide challenges for our industry for this year and next year and even though our provision expense and charge-offs in the quarter just ended at about $4 million, were significantly improved from where they'd been in prior quarters. I consider those numbers to be quite elevated. By our historical norms and even going back six or seven years and ignoring the last six or seven that included several very benign years and several very difficult years in there, but if you go back beyond that and apply our historical charge-off numbers, I think our charge-offs ought to be running on a normalized basis $1 million to $2 million a quarter and we're running two to four times that, even at our first quarter level.

So I think we continue this year with an elevated charge-off ratio but we get back in 2011 and 2012 to much closer to historical norms which will be a lot better than even we did in the first quarter. That's where I think we are. You saw the effects of continued problems in Q1 but the problems are coming at a slower pace and are less severe than they were a year ago and that's reflected in our ratios and our provisioning and our charge-offs and I think that continues to get better over the next couple of years.

Great, good color. And then in terms of the opportunities you see in Georgia, I guess from a lending perspective, is that similar in terms of the types of loans that you've historically made across the rest of the franchise there; the market's fairly similar from that regard?

Well, Georgia is a very different market in the sense that you've got very elevated unemployment metrics over there and particularly in the metro Atlanta area and the franchise we acquired is really a little out of the metro area, but in the metro area I mean you've just got profound overbuilding. So, we are viewing our growth opportunities in Georgia to be a ways out into the future. This is a franchise that's a very good little franchise that provides us a good foothold in a state that will once again be a great banking market at some time in the future, but that is a future thing. So, our goal is to take advantage of a very profitable purchase, to clean up their loan book, to focus on core deposit growth and as economic conditions improve we'll have a lot of lending opportunities over there in future years.

But the lending opportunities that we'll have this year and next year in Georgia will reflect the fact that it's a very challenged, very troubled market and there will be some lending opportunities but they'll be relatively few and far between, just because there's not a lot of stuff that can be done in that market because it's so overbuilt and it's pretty troubled right now. So we'll have to bide our time before we expect to see a lot of growth from Georgia, but I think three, five years out we'll look at it and we'll see good growth there, but that's not likely to be a year one or year two phenomenon.

(Operator instructions) Your next question is from Kevin Reynolds from Wunderlich Securities.

Great quarter. I wanted to ask you if you could provide some additional color, now that you've completed one deal, I think you said if I remember correctly, that you looked at nine and bid on six during the quarter and completed one transaction. I apologize if I've gotten that wrong. But could you talk about maybe the differences across the target markets you might be looking at, where one might find a strategic deal versus a financial deal if there's any difference there? And then second, can you sort of compare and contrast the intensity of competition for failed banks in maybe different states if you don't want to drill down too much to the local level?

Well, it's a big universe of failed bank opportunities out there so our looking at nine and bidding on six, I think those metrics are right and getting one, our little sampling of that may not be reflective of the whole universe, so I don't know that I can give you a lot of useful color there. I'll make a few comments on that. As far as your question about where would we find a strategic acquisition versus where would we view the transactions as financial, the location is only one of a number of elements.

As I mentioned in commenting on our Unity transaction, the things that we found to be strategic about that is they had among all the banks we looked at, a the best probably overall deposit base or at least one of the best overall deposit bases as far as looking at real core relationships. They have a wonderful staff of people, which is really something you can't tell much about until you get in there. It's kind of like opening a present that could be a really ugly tie or it could be the keys to a Mercedes and you just don't know what you're getting on people. But we were extremely pleased as we spent our first two weeks there with our transition team and really got to know our people and thought wow, we got really lucky and got a great staff of people other than the most senior cut of management which didn't stay with us there, at our choice.

And the physical facilities; we've looked at a lot of deals that we thought we'd really like to be in this market but this facility is ridiculous, overbuilt or extremely poorly located and the facilities here were really nice facilities in A and B locations, good to excellent locations and they were appropriate size. A lot of the Georgia bankers really liked buildings and I mean we've seen 10,000 foot buildings built in towns of 800 people with five other banks in town and you have to look at it and think what the heck were they thinking, but these facilities were the right size and appropriately designed and appropriate for the markets in good locations. And you know, in the midst of all the junk loans there's some really good loan customers, so when we looked at it, we thought this was a pretty good deal.

In contrast to that, the guys who did due diligence on the bank that we decided not to bid on last week, we had five guys in there for two or three days and they looked at a mountain of loans and they came back and they said we saw one loan out of every loan we looked at, one loan that we would have made. That operation was actually in probably a better market than the markets we bought in Georgia but there was nothing about the transaction, the bank, after we really looked at it, that was very attractive other than the fact that it was in a really nice market. So you just have to look at the overall deal and figure out are there a lot of elements here, loan customers, deposit customers, staff facilities that you can take the good pieces and make a good franchise out of or is it mostly junk and you're going to make your profit doing a cheap bid and getting a lot of assets and working them out in a very profitable sort of way.

So that's the way we've looked at it and interestingly enough, we've bid on transactions that were almost all financial, we've bid on transactions that we thought were pretty strategic and I'm confident that of all the ones we looked at, we very fortunately landed the most strategic transaction, of the ones we've looked at so far. And we did it in a way that we made pretty decent upfront profit and have been conservative, I think, in the way we've valued assets and we expect it to be accretive going forward.

Okay thanks for all of that. Has there been any change, additions or subtractions from the markets that you would be willing to entertain a failed bank in since your commentary last quarter?

No. We would still say our preference - well I guess there has been one change. In last quarter I would have said our preference, first priority would be to do a deal in Arkansas, Texas, North Carolina or South Carolina and we would add to that A list now, Georgia since we have a franchise there and we really like that and we've got a beachhead in that state, adding to our franchise in Georgia would make as much sense as anyplace else. And then secondarily, we view Florida, Virginia, Tennessee, Missouri as other states and peripherally Oklahoma and Kansas as other states that we have a secondary level of interest and everything else in the continental US is tertiary.

Thank you. Great quarter again.

Your next question is from Joe Stieven with Stieven Capital.

George, actually my last question sort of got answered, but again, George, not only a great quarter but great operating in this last couple of years.

Thank you, Joe. I appreciate it.

Follow up question from Andy Stapp from B. Riley.

I was just wondering if you could talk about - quantify the maximum exposure for the upcoming opt-in requirement on debit card NSFs?

Andy, I'm sorry I can't give you a number on that. I'm sure the guys that are working on that project know that number but I don't have that number and I'm a little cold on that. I've been focused on other things for the last couple of months. Our strategy basically to address that, at the beginning of Q3, because once you notice customers and give them an opt-in or an opt-out option--.

We're actually going to start next month.

Oh, next month. See, I am cold on this. Susan Blair, who's in the room, tells me we're actually going to start next month. So we've targeted customers that are heavy users of that service. Our focus is going to be to encourage those customers very actively through a one-on-one campaign to opt-in. If we're successful and can achieve a high opt-in penetration with the customers that are high users of that service then that should lead to a fairly negligible impact on our overall service charge income. If that campaign is not successful in getting a high level of customers to opt-in then obviously we could have a more significant impact. But that's primarily a Q3 item and beyond, but we've got a pretty good strategy for that and I'm hopeful we'll be very successful with that. I'm sorry I can't quantify that further. We'll have some color for that on the next call.

Okay sounds good. Did you finance any of the OREO sales that you completed in April?

We did finance a couple of those sales, including the apartment complex. We got substantial down payments on those transactions so we felt like those were transactions equivalent to what we would have financed anyway. So we don't feel bad about financing any of those. I think it's FAS66 established the minimum down payment requirements that are required to account for an OREO sale as a true sale, as opposed to a deposit method purchase transaction and all of them met that and met that with a margin for error.

Okay. What was driving the link quarter decrease in other non-interest expenses; was it the last catch-all category that is in your non-interest expense, was it just lower loan work out and OREO expenses?

Well, if you recall and I'm a little cold on the numbers but in the fourth quarter of last year we took $1 million, I think, impairment charge on a direct investment in a real estate project that we had and we wrote down - we had I think it was four or five branches that we had started architectural or engineering or other cost on and had $600,000 or $700,000 of capitalized cost and we just delayed those construction projects because of economic conditions. Obviously we aren't going to open as many branches for a while as we were opening there three years ago, four years ago, so we had delayed those projects indefinitely.

Nobody told us we had to or even suggested that we should, but we though the appropriate thing to do was to write off those capitalized preconstruction costs, early stage development costs on those sites since we had just sort of indefinitely delayed those branch openings. So I don't remember the exact numbers, but I think that was about $1.6 million - $1.7 million for non-interest expense.

Yes, I recall that now. Thank you.

Your next question is from Doug Rainwater from Rodman & Renshaw.

Congratulations. I think just about everything's been touched on but let me just briefly on something Andy touched on. It looks like you've been pretty successful in the realized values of your OREO disposition being pretty close to your carrying value. Is there anything in particular you can point to if it's conservative appraisals, maybe firmer values on location or type of property or maybe just being expedient with the disposal? I don't think we're seeing that across the board, but you appear to have been pretty successful, so I just wonder if you had any color there?

I think there are a couple of things. Number one, we try to be conservative and very realistic in how we value these assets when we put them in OREO and number two, we are constantly reviewing these things at least every quarter every asset is reviewed for value purposes. And then the third thing I would tell you is that I think we managed these properties in a way that creates value. For example, that apartment project, it took me about four or five more months to get it sold than we thought it would, but in the period of time we owned it, which was seven months, we went from a mid-30s occupancy to a low 70% occupancy on that project and applied some good practices to not only the management of the project but the maintenance of the project that improved occupancy, improved operating performance and improved some of the condition and quality of property issues there that just made that thing a lot more marketable.

My impression is that most banks are not very property oriented people and they get it and they kind of leave it the way it is and try to sell it the way it is. We look at a property and say how can we spend a few dollars that's going to make this a much more marketable, much more valuable piece of property or what can we do to the management to make it operate much more effectively and as a result, we tend to get better results.

We've got a property now that's a bunch of duplexes up in Northwest Arkansas that when we took it over I think their occupancy was running about 50% and we're at 100% now. I've got that property under contract, expected to close in the near future. We're going to get a good value for that property because we've got it operating in a good manner. If we were still 50% occupied, I wouldn't be able to get the price for it that we're getting for it, because we've proven now through good management what the project's capable of doing. So I think that being more property oriented than a lot of banks, I think that helps us liquidate this stuff at much closer to fair value.

I appreciate the color and congratulations again on the quarter.

Your next question is from Matt Olney from Stephens Incorporated.

Hey George, I have a follow-up. Assuming you can find and win additional FDIC deals, can you remind us what capital levels that you feel comfortable operating at?

Traditionally our standards have been tangible common equity ratios of 6 to 7.5% and as asset quality metrics are improving and our profitability metrics margin and other things continue to show positive trends, we would be very willing probably to see our capital ratios move back down much closer to or within that historical target band, and again, that's 6 to 7.5% tangible common equity ratio, excluding mark to market adjustment on the securities portfolio. We take that out.

Okay that's helpful. And lastly, you touched on your strategy of the securities portfolio and I think you described that as being very opportunistic and you've held that stance now for several years, but I'm trying to get a better idea of what kind of asset mix shift we could see during the next few years when loan growth does return and some of the securities stuff does run off?

Well, certainly that will depend on the opportunities that are presented in the security sector. When the Fed starts raising rates, we have a thesis that we're following about how the yield curve is going to behave over that period of time and we believe that there will be a very good opportunity to buy securities at a very advantageous price somewhere in that process of the Fed tightening and we're going to see how our thesis plays out, see how that tightening plays out. And basically we feel like we've taken the portfolio about half to cash to put it in terms that an equity fund investor might think in terms of.

We had almost a $950 million portfolio; it's just over $500 million at the end of the quarter and we just shrunk it down because we believe there are going to be better investment opportunities in the future. So when we think those investment opportunities are ripe, we can easily replace local market CD deposits that would allow us to expand that portfolio back. It won't happen, but if it did happen that next week it was appropriate to start building the portfolio back toward a billion-dollar level, we would do that if we thought it was the right time to buy. I don't think we're anywhere near a point where we would see a lot of growth in the portfolio again, but in a year, two years, we certainly could be in that window. So we'll build that portfolio back when we believe we're going to be able to put assets in there that will be very profitable for us on going forward.

(Operator instructions) I do not have any further questions.

All right, there being no further questions, that concludes our call. Thank you for joining us. We look forward to talking with you in about 90 days. Have a good quarter.

Ladies and gentlemen, this concludes today's Bank of the Ozarks first quarter earnings release conference call. Thank you for your participation. You may now disconnect.