Prosperity Bancshares Inc (PB) 2006 Q3 法說會逐字稿

Welcome to today's teleconference. [OPERATOR INSTRUCTIONS] Please note this call may be recorded. I will now turn the program over to your moderator, Mr. Dan Rollins. Go ahead, sir.

Thank you. Good morning, ladies and gentlemen. Welcome to prosperity Bancshares' third quarter 2006 earnings conference call. This call is being broadcast live over the Internet at www.ProsperitybankTX.com and will be available for replay at the same location for the next few weeks. I'm Dan Rollins, President and Chief Operating Officer of Prosperity Bancshares. Here with me today is David Zalman, Chairman and Chief Executive Officer; H.E. Tim Timanus, Jr., Vice Chairman; and David Holloway, our Chief Financial Officer; we are also pleased to have Don Stricklin, President and Chief Executive Officer of Texas United Bancshares here with us.

David Zalman will lead off with a review of the highlights for the third quarter of 2006; he will be followed by David Hollaway, who will spend a few minutes reviewing some of our recent financial statistics; Tim Timanus will discuss our lending activities, including asset quality, and local economy information; and I will provide some information on our proposed merger with Texas United Bancshares and an update on the status of the operational integration of SNB Bancshares; finally, we will open the call up for questions.

During the call, interested parties may participate live by following the instructions that will be provided by our call moderator, or you may e-mail questions to investor.relations@prosperitybankTX.com. I assume you have all received a copy of the earnings announcement we released earlier this morning. If not, please call Shana Evans at 281-269-7221 and she will fax a copy to you.

Before we begin, let me make the usual disclaimers. Certain of the matters discussed in this presentation may constitute forward-looking statements for the purposes of the Federal Securities Laws and as such, may involve known and unknown risks, uncertainties, and other factors which may cause the actual results, performance, or achievements of Prosperity Bancshares to be materially different from future results, performance or achievements expressed or implied by such forward-looking statements. Additional information concerning factors that could cause actual results to be materially different than those in the forward-looking statements can be found in Prosperity Bancshares' filings with the Securities and Exchange Commission, including Forms 10-Q and 10-K and other reports and statements we have filed with the SEC. All forward-looking statements are expressly qualified in their entirety by these cautionary statements.

Before I turn the call over to David, please allow me to take a minute to honor the memory of our Director, Charles Howard. Tragically, Dr. Howard died last Sunday in an airplane crash. He joined our Board in 2002 in conjunction with our merger with Paradigm Bank Texas. He was a Founding Director of Paradigm in 1980 and was a well respected physician and businessman. We will all miss his guidance and support. Our thoughts and prayers are with his wife and family at this time. Now let me turn our call over to David.

Thank you, Dan. I would like to welcome and thank everyone participating in our third quarter conference call this morning. I am very pleased to report that the third quarter of 2006 was another record quarter for our company. Some of the highlights this quarter include our organic loan growth for the year to date is 9.6% on an annualized basis. We have worked very hard over the past few years to reposition assets from our bond portfolio into our loan portfolio. We continue to make progress on this goal. We have increased our loan to deposit ratio from 37% at year end 2003 to 62% at the end of the third quarter. On a pro forma basis with Texas United Bancshares, this ratio will approach 70%.

We had record high quarterly earnings. We earned 16.4 million in the third quarter compared to 12.5 million for the same period in the prior year, an increase of 31.2%. Earnings per share increased 8.9%. We reported diluted earnings per share of $0.49 for the third quarter of 2006 compared to $0.45 for the same period in the prior year. We've increased annual cash dividends by 12.5% to $0.45 on an annual basis. Our Board of Directors have declared a quarterly cash dividend of $0.1125 per share, an increase of 12.5% payable on January 2, 2007 to all shareholders of record December 15, of 2006.

Since our IPO in November of 1998, we have rewarded our shareholders with an increased dividend each year. Return on average assets for the three months ended September 30, 2006 was 1.46%. Our return on average common shareholders equity for three months ended September 30, 2006 was 10.17% and return on tangible shareholders equity for the same period was 33.61%. Our efficiency ratio improved to 44.38% for the three months ended September 30, 2006. Asset quality remains very strong, with non-performing assets to average earning assets ending at a very low 3 basis points and non-performing assets to loan and other real estate at 6 basis points.

As I reflect back on the past quarter, I find myself particularly excited and proud of our team and our bank. The operational integration with Southern National Bank has been completed. The addition of the former Southern National Bank locations and the fast-growing Fort Bend County should provide excellent opportunities for our team going forward and we could not be more excited with all of the new team members that have joined us from the Southern National Bank team. We are eagerly planning our merger with Texas United, a $1.8 billion Texas banking franchise. This combination will increase our banking centers' network to approximately 131 full service locations across Texas. The merger more than doubles our locations in the greater Dallas-Fort Worth metroplex to 29. It improves our presence in Austin, our state capitol, to 10 locations, and it establishes a bulkhead for us in the fast growing Bryan/College Station area with five locations. The merger will also make us the third largest Texas-based commercial bank by deposit size. We are very pleased with all of the Texas United associates who are helping to make this a very successful merger. We are planning to close this transaction early in the first quarter of 2007.

As we enter the last quarter of 2006, I must say I am very happy with our financial results, considering the shape of the yield curve throughout the year. Our associates continued to tighten an already tight belt to allow us to reward our shareholders with solid earnings growth. In closing, we are proud of our past and intend to stay the course. We plan to continue our focus on organic growth and we plan to continue to pursue accretive acquisitions. Although we want to grow, we will not take our eye off the ball when it comes to asset quality and building shareholder value. We intend to continue building loans, focus on customers, reward people that produce results, continue building shareholder value, and honor our service commitment by greeting the customer with a smile, calling the customer by name, and finding a way to say yes.

Thanks, again, for your support of our company. Let me turn over our discussion to David Hollaway, our Chief Financial Officer, to discuss some of the specific financial results we achieved. David?

Thank you, David. On the balance sheet side, loans increased to 2.214 billion, up 46.2% from a year ago 9/30 and deposits increased to 3.593 billion, up 24.8% from a year ago 9/30.

Looking at income statement items and financial ratios, the net interest income was 35.97 million for the third quarter of '06, a 24.4% increase over third quarter '05. The year-over-year increase was primarily due to a 25.7% increase in average earning assets. The net interest margin on a tax equivalent basis for the third quarter '06 was 3.77% compared to third quarter 2005 of 3.81% and second quarter 2006 of 3.82%. Non-interest income for the third quarter of 2006 increased to 8.9 million, up 10.2% from third quarter 2005, primarily due to the increase in deposit volumes year-over-year. Non-interest expense for the third quarter 2006 was 19.8 million, up 9.7% from the third quarter 2005 and this was primarily due to the increased operating costs associated with additional banking centers acquired in the SNB acquisition.

And as mentioned before, our efficiency ratio for the three months ended 9/30/06 was 44.3% compared to 48.8% for the three months ended 9/30/05. Return on average assets was 1.46 for the three months ended 9/30/06 compared to 1.43 for the three months ended 9/30/05, and return on average common equity and average tangible common equity was 10.17% and 33.61% respectively for the three months ended 9/30/06 compared to 11.28% and 29.06% respectively for the three months ended 9/30/05. I would also note that our tangible equity ratio increased from 4.56% at 6/30/06 to 5.01% at 9/30/06. Now, let me turn over the presentation to Tim Timanus for some detail on loans and asset quality.

Thank you, Dave. Non-performing assets at quarter end September 30, '06 totaled $1,270,000, or 0.06% of loans and other real estate compared to $1,171,000, or 0.05% at June 30, '06, and $840,000, or 0.06% a year ago at September 30, '05. This represents an increase of $99,000 in non-performing assets from quarter end 6/30/06 and $430,000 increase from quarter end September 30, '05. The September 30, '06 non-performing asset total was comprised of $1,182,000 in loans, $29,000 in repossessed assets, and $59,000 in other real estate.

Net charge-offs for the three months ended September 30, '06 were $307,000 compared to net charge-offs of $206,000 for the three months ended September -- excuse me, June 30, '06, and net charge-offs of $89,000 for the quarter ended September 30, '05. The average monthly new loan production for the quarter ended September 30, '06 was $87 million compared to $100 million for the quarter ended June 30, '06 and $53 million for the third quarter ended September 30, '05. Loans outstanding at September 30, '06 were $2,214,000,000 compared to $2,205,000,000 at June 30, '06 and $1,514,000,000 at September 30, '05. The September 30, '06 loan total is made up of 42% fixed rate, 38% adjusting as prime moves, and 20% resetting at specific intervals such as quarterly or annually.

I have some economic data that may be of interest. Job growth for Texas for 2006 is projected to be at 3%. For the last 12 months, that number for Houston has been 2.7%. For Dallas, 3.7%. And for Austin, 3.5%. Housing sales for Texas increased 8.1% year-over-year as of last month, August. For Houston, that percentage was 11.2%. For Dallas, it was 2.3%. For Austin, it was 13.9%. For Corpus Christi, it was 19.6%. And for Victoria, it was 7.6%. I'll now turn it over to Dan Rollins.

Thank you, Tim. I want to spend just a few more minutes talking about our integration with SNB Bancshares and the status of our proposed merger with Texas United. As David said, I'm pleased and proud to report that the integration of Southern National Bank into our organization is complete. Only six short months ago, we completed our largest acquisition ever. Today, the loyal associates that joined our team from SNB are fully engaged in our bank and are doing a fantastic job in customer service and we're beginning to continue the progress that they had before we merged the banks together.

As David also mentioned, we're very excited about our future with Texas United Bancshares. Don Stricklin, Steve Stapp, [Gene Payne], Ray Nichols, [Kent McKuhn], and their teams are all fully engaged with us to ensure a smooth transition. We are viewing this as a four in one transaction, as we've talked about and our teams are working diligently towards four separate computer conversions next spring and they are committed to the goal of minimizing any customer inconvenience. I am confident that we will be able to achieve our goals with the strong leaders from TXUI on our team.

This is a great time to be a Prosperity banker. Our team is winning business every day and is competing effectively in this very competitive and challenging environment. Our organic or same-store loan growth on a year to date basis as David mentioned is 9.6%, right on track with our target and our loan pipeline is strong and our team is focused on producing results. At this time, I believe we're ready to take calls, questions.

Thank you. [OPERATOR INSTRUCTIONS] We'll take our first question from Campbell Chaney with Sanders Morris Harris. Please go ahead.

Hi, guys. I have a question on your investment portfolio. I notice the unrealized losses hasn't varied all that much in the last year or so with some pretty wild swings in interest rates. Can you give us some color, David, on what you are doing to hedge the portfolio to keep those swings from being more than they really reflect in the interest rates?

Campbell, this is David Zalman. Truthfully, it's all because of good management.

Well, that goes without saying.

Yes, but the truth of the matter is really we don't have that big of a portfolio of available for sale. In fact, probably only 24% of our portfolio is in held -- is available for sale, and probably because of the rates, where they have been over the last couple of years, our duration on our portfolio is probably lower than it's ever been at, I think it's around 2.6 years, is our duration, or 2.7 years. So we really haven't -- we really haven't extended and probably you haven't seen the losses with the rates going up simply because our duration is just very low right now.

Okay. So we really shouldn't expect kind of -- we should expect more of the same, not much volatility in available for sale. How about the health for maturity, is that much the same story?

The same thing for the whole, the health and maturity portfolio, again. It's the biggest part of the bond portfolio, but, again, 2.7-year duration, I mean we're at one of the lowest durations we've ever been at right now.

Got you. Then one last question about integration expenses. Can you tell us how much you spent on integration for both the Southern National and also any money you may have spent preparing for the Texas United?

I don't know that there's any significant number in there of any material amount. Integration is just a part of the process that we go through year after year, so looking back if you're comparing the information, we had First Capital in March of '05. We had Southern National this year. I think that's just a part of our process and I don't think there's any significant number that we would identify or pull out in that process. It's just part of business for us.

Got you. Great. Thanks a lot. Good quarter.

Thank you, Campbell.

Thanks, Campbell.

Thank you. We'll take our next question from Brent Christ with Fox-Pitt. Go ahead, please.

Good morning, guys.

Good morning, Brent.

A couple quick ones. First, in terms of the loan growth in the quarter, looked like the Southern portfolio was down a little bit. Was that planned runoff or was that just pay downs? It seems like it was mostly coming in the commercial real estate area?

I think most of what we're seeing in the Southern National portfolio is just the disruption in the producers' daily lives as we've integrated the banks together. They have not been able to spend as much time producing business as they should be able to going forward, as they have learned a new computer system, learned the new processes that are in place. That's just a normal part of the process for us. I don't think we can identify, -- we did not identify any particular credits that we expected or wanted to run off in their portfolio as much as it is just day to day happenings where they are not focused on producing as much business and that should change going forward.

But the bottom line, Dan, I would say what's happened is not unexpected in any type of, any type of merger like that.

It's very normal.

Very normal.

Then just a follow-up on the loan front. You noted the monthly average production was down a little bit this quarter compared to the second quarter. Is the seasonality much of an impact in that at all?

I think when you look back last year, the same thing happened to us from second quarter to third quarter. Brent, we also have an ag portfolio and the third quarter is the quarter that ag portfolio -- we hope to get paid back, the second quarter we're funding up on that ag portfolio and we should be earning our money back. You see that when you look at the numbers on the ag side. Some of the commercial business and the ag-related communities could also be in the same boat. So I mean I think that's just part of the seasonality of the process.

Got you. And then one last question on the expense side. Seemed like you had quite a bit of flexibility if you look on a sequential basis. Was that incremental cost savings related to the southern deal, or was that just kind of tightening your belt a little bit, given the challenging interest rate environment?

This is Dave Hollaway, Brent. Yes, I mean it's the last point that you made, it's just across the board. Some of it's still coming from the acquisition. Some of it's just across the board where we've asked in this rate environment with the yield curve being what it is we've just gone through all the different areas of the bank and said guys, we've really got to run a tight ship here until things can reverse in terms of the yield curve.

I think you're seeing -- we certainly think you've seen the integration of Southern National go extremely fast, comparatively to deals in the past. I think we actually saw some cost saves in this quarter or the end of the cost saves from the First Capital deal a year ago. It took longer to get all those cost saves in. The Southern National transaction with six or seven locations all right here next to us. That's done. So I think it's across the board.

Do you think this quarter's run rate is sustainable going forward?

That's always the million dollar question. Again, we're going to make every effort to run as lean as we can. This becomes, again, being in this rate environment becomes a revenue generation thing. If we can pick up in fee income and really get that margin to start moving the other way again, then who knows from a pure expense side, it's just -- to be determined, I think, is the answer.

But naturally, David, you would expect the efficiency ratio to go up and with the merger of Texas United for some short period of time.

That's right. If you were looking at their third quarter numbers and our third quarter numbers, just taking what we've just done and meshing them together, you're looking at a roughly low 50, low 50 efficiency ratio, just meshing the two together as of right now.

Okay. Thanks a lot.

Thank you, Brent.

Thank you. We'll take our next question from Brett Rabatin with FTN Midwest. Go ahead.

Good morning, guys, how are you?

Good.

Question on your funding cost increases linked quarter, I wasn't expecting quite as much of an increase in your interest-bearing liability costs given that I know you were going to manage those pretty tightly and probably run off some higher cost stuff from a previous acquisition. So I was curious on the increase and then I noticed most of it was in savings and money market, which is up about 40 basis points. So I was hopeful for some color on that. Then just if you think you can manage that more tightly going forward relative to where pure funding costs are going forward.

Brent, this is David Zalman. I would comment that -- I would say that probably there was some catch-up for us. We had been lagging as far as money market accounts. I would still tell you we increased those. Southern National Bank, as we said earlier, did pay probably more for their time deposits and, again, we're not paying the high rates, but at the same time, Southern National Bank was probably paying lower rates on their transaction accounts and so to try to bring those more in line with our transaction accounts, that's probably what's caused some of the increase in that, in the rate increase. But I think going forward, we can draw up those, more of those transaction accounts up to where everybody is and again, going forward, a lot of it will be determined by what future interest rates do probably.

I think over the last couple of quarters, Brett, you've heard us consistently saying that we have been lagging the market up. In fact in our last quarter call we talked about the fact that if rates stopped moving up, we were still going to have to come up. So I think that's exactly what you're seeing. I don't think this was a surprise to us. As markets moved -- as rates moved up, we lagged that market up. Rates have stopped moving and we still had to come up the last step to get to where everybody else was as we were following them up the ladder.

I guess, I remember the comment and you had mentioned being more competitive to increase deposits going forward. I guess given where deposits were at the end of the quarter at least, it seemed to me like you were not able to grow your deposits as fast, yet the costs were obviously higher. So I guess the comment I'm looking for is whether or not the trend in 3Q of adjustment more towards market rates is over, or if you still have some increases there relative to market rates to go in the next quarter or two.

The answer is exactly what you said. We have brought rates up and we don't expect to have to bring rates back up in the last quarter. I think we are there.

I think what you're seeing is a red hot competitive deposit market, just like we've been talking about and you probably heard from all of our peers. The competition out there in the newspaper every day and on the radio and in the mailers at our houses, I mean the competition for deposits is fierce.

But, again, I would say we're still not, we're not the market leader in interest rates by far. I mean we're not.

Okay, and then just last question, in terms of -- aside from the acquisitions that you have going on, I was hoping to get any color you might be able to give on movement of loans into securities, i.e. how much cash flow do you have in the securities portfolio and--?

Yes, just updating that, right now when we look at the model at 9/30, looking out over the next 12 months, it's projecting cash flow coming out of the bond portfolio, roughly $400 million. So we certainly would like to be able to lend that out. Again, kind of just using some basic metrics of 10% organic growth on 2.2 billion, just looking at $220 million net up in loans so that cash flow coming out of the bond portfolio would be more than enough to fund that.

Okay, great. Thank you, guys.

Thank you.

Thank you. We'll take our next question from Ron Peterson with Sterne, Agee. Go ahead, please.

Thank you. Good morning.

Good morning, Ron.

The -- looks like there were some runoff in deposits at Southern National. Could you just give us some color on that? Was that kind of expected given the changes in rates you've been doing?

Yes, Ron. David Zalman. When we did the -- when we even made the deal with Southern National, even in our models, we thought that we would see the runoff that we did. In fact, there may even be a little bit more runoff and, again, it's because they were probably one of the market leaders in interest rates and so it's nothing that was not expected and primarily it's all in the CD, or certificate of deposit area, not in the transactions area.

Okay, and how does Texas United compare on their rates versus where you are?

Their rates are very similar to ours. In fact, I think you can pull up -- they issued their press release this morning also and they got their net interest margin calculation in there. You can see their deposit rates are in many cases better than ours and in really good shape. They are not on the high end as Southern National was.

I think Texas United, and Don is here with us, but they actually have a higher interest of non-interest bearing demand accounts than we do.

And a higher net interest margin than we do. Ron, did you pull their report up this morning?

Yes, I didn't get a chance to go through all of it. I was just looking through it right now.

Okay.

Yes.

Thanks for your support.

Thank you.

[OPERATOR INSTRUCTIONS] We'll take our next question from Adam Barkstrom with Stifel Nicolaus. Please go ahead.

Good morning, Adam.

Let's see, I wondered if you could talk about deposit service charges for the quarter. They were flat, a little bit down. Was that strictly a function of the, I guess slight runoff that you experienced in non-interest bearing CDA accounts?

No, I don't know that I would draw that parallel. I think, again, when we're looking at our service charge income, it's really retail-driven. It's not, as you normally think it's a lot of commercial accounts and rates effect the account analysis. It's not really that it's just more of a retail look. But looking from one quarter to the other, it's a hard call on what human nature does. The seasonality of these things, I don't know if we would have a real good answer why it drops off a little bit, but what I would point out is as you're kind of looking at quarter by quarter, our fee income over the last couple years, or in that fact, our history, this is our second best fee income quarter ever. Last quarter was our best quarter.

So you expect, I guess with the service charges perhaps a little bit of a seasonal uptick next quarter?

That's what we would expect. I mean if we were going on history, as you're looking back normally the fourth quarter you see a bump up just because of, I guess it gets to be Christmas time.

People spend a little too much.

Right.

Who knows what it is.

Right. Then just to sort of maybe circle back, someone asked about overhead costs and looks like the -- I guess biggest of the categories, biggest benefactor was the salary and employee benefits line. What specifically happened there on a linked quarter basis? That was down pretty nicely.

When you look--.

I'll jump in, Dan. Just let me jump in. There's a page with the full time equivalents. Go ahead, if you're going to that page, go ahead, but that's the key there.

That's exactly what I was going to say. This is FTE-driven and it's head count-driven off of acquisitions. That's what I was saying earlier. When you look back, we started -- we finished the first quarter with 844 people and we finished the third quarter with 914. That's an increase of 70 folks. And during that time, we took in the Southern National team. Southern National had almost 170 folks when we made the announcement. But not all of that head count reduction is from Southern National. That's what I was talking about a few minutes ago about the integrations. Some of that head count reduction is the tail end of the first capital acquisition from a year ago. So you know, I think what you're seeing is today, we're running on a pretty clean head count. There's very few -- as far as I know, there's no more room on a head count number today to move that number south from where it is. So that's what you see, is the benefit that comes from that.

Okay.

Does that answer your question?

Yes.

For the quarter -- for the quarter, it was 17 people down.

Okay. Okay. Looking at, I guess, the loan categories and looking at loan growth linked quarter, just wonder if we could get some color. It looked like commercial and construction, first of all, both of those categories were up. Wondered if you could give some color there and then commercial real estate, I guess seeing that commercial and construction were up, I was a little surprised to see commercial real estate down. What are your thoughts on that?

This is Tim. I think what you're seeing is just a reflection of normal business movement. Having said that, we have asked our lenders to be a bit more focused on commercial lending. So we're starting to see more applications in that regard, but these things cycle from month to month to quarter to quarter with no clear explanation. There certainly hasn't been anything on the economic front that dictates any change of things. Typically we see a slowdown in all loan activity in the summer, and I don't know whether it's just because Texas is too hot and humid for anybody to do business in the summer or what, but it typically happens. So I don't think we have any brainstorm on that or anything particularly enlightening to say about it.

Does that help you, Adam?

Yes, I guess, given the fact that -- you've certainly got plenty of room to continue to run down your securities portfolio. I think, I just want to verify one number. Obviously the 400 million, that's an annualized cash flow number and you project it out. What did you do, 10% of 220, that 10% loan growth, you have plenty of room to fund that. Obviously that is -- which is a good thing. That is improving your loan to deposit ratio. What are your thoughts on kind of that trend looking forward and then looking at loan loss reserves, is that going to lead us to contemplate building reserves from here?

I'll answer that, Adam. This is David Zalman. We have a very, very sophisticated model when you look at our reserve for loan losses, and looking at it this quarter, we're very adequately reserved for that. Having said that, I guess you can look at the amount of charge-offs we've had for this quarter compared to prior quarters and what we're actually provisioning and you could easily make the analogy that the charge-offs have picked up, but I will tell you that those charge-offs have actually been from banks that we've acquired and so we're monitoring that very closely and those charge-offs really, when we brought over the reserve for loan loss from the other banks, we knew that this was going to happen. But I would tell you that if we ever do see charge-offs that loans that were making coming from loans that we originated exceeding what our provision was, we would increase it, but I would tell you right now that we do not see that.

I think that's very fair. Everybody's very focused on that, Adam and I think our team is -- and the modeling that we're using is -- takes a lot of inputs into it.

All right. One last question. Following the close of the Texas United deal, what would your thoughts be -- have you guys -- I'm sure you've kicked it around, but any thoughts on the share repurchase plan?

We've talked about that many, many times, Adam. I think our answer has been we certainly have a share repurchase plan filed with the SEC now, but our belief is is we've got better uses for that capital and if there's no other uses for that capital, then certainly that's something that we would consider. We're not closing a door, but we continue to believe, as David said in his comments, that there are opportunities out there for us to continue doing exactly what we've doing, which has been growing organically with the core bank and finding partners that want to partner up with us to do accretive acquisitions and we think that's good use of our capital.

I concur with what Dan says. The bottom line is as long as we can continue with the model that we have and continue to increase earnings double-digit like we have, we'll probably stay with the model that we have. Now, having said that, if pricing gets just so expensive where we can't make accretive mergers and acquisitions, then we would probably reverse back to something else, as you mentioned.

All right. Thanks, guys. Good quarter.

Thanks.

Thank you. At this time, we'll take our next question from [Matt Olney] with Stephens, Inc. Go ahead, please.

Hey, thanks, guys. I understand your team is obviously going to be pretty busy over the next few quarters closing and integrating Texas United. But I just want to get a comment on what you guys see in the overall Texas M&A environment.

David Zalman, again. As I mentioned, it hasn't slowed any at all. There's a lot of, there's a lot of activity out there. We still continue to receive phone calls from other bankers that would like to consider joining us and I would say that it's probably more active today than it's been in prior years. Having said that, we've slowed down simply because of the merger with Texas United and our first focus is to integrate and execute the Texas United transaction before we move on to anything of significant size. We may look at something smaller but you won't see us do significant size deals until we actually integrate and execute our deal with Texas United.

There's a lot of talk going on out there. That's all I can say, lot of talk.

It's a very active market, very active.

With your asset size at 6.6 billion, around that, once the Texas United deal closes, is there a minimum size that you would -- it would have to be to be considered? I mean for example would you do another Graveland that was sub $100 million once Texas United gets closed?

A lot of people, especially since we're getting up to the 6.5 billion, 6.6 billion, that you can't do deals, small deals anymore. And I -- I would say we're not going to go out and look for 100 or $200 million deals. On the other hand, if theres 100 or $200 million deal that's in our backyard, in Dallas, Fort Worth, Houston, Austin and it can really improve our position and it's accretive to us, we're not going to say no to that because those are easy transactions for us. We can do them really quick. Everybody wants to do large ones and there's a lot of -- believe it or not, there's still 50, about approximately 50 banks in Texas that are over $500 million in size, or 56. So there's a lot of opportunity there, but there's also some opportunities that fill in that won't be hard that we would consider, yes.

All right. Thanks, guys.

Thanks.

Thanks.

We'll take our next question from Bain Slack with KBW. Go ahead, please.

Good morning.

Hi, Bain.

Two questions. One, I just wonder if you could give a little color on the growth that you saw in the construction portfolio on a linked quarter basis, and then I guess just the second thing is looking -- thinking about the integration of Texas United, if you could help just walk us again through the timing, because I think I remember Dan, you saying this would be sort of a -- it's really four mergers and you're going do them sequentially independently. But it looks like in the press release that there was a comment that the operational integration would be completed by second quarter. If you could just kind of help us -- walk us through that.

Yes, let me do that one first and somebody else can pick back up on the construction loan piece after that.

Okay.

We're on the same target schedule that we've always been on, Bain. We do see four separate computer conversions for the four separate operating banks on the Texas United team, as we've always done, we typically like to do a conversion very quickly after closing. So if we close early in the first quarter, our expectation would be that we would do the first of those conversions, probably within the first 30 days and we'll schedule right behind that the next three in three, four, five, six-week increments. So our expectation would be that by the time we get to the end of the second quarter, we will have completed all of the computer conversions. That does not complete the integration. That's the, that's the disconnect I guess in what we're talking about.

The computer conversion really kicks it off and gets it started and it's half or more of the process, but then it takes time to let it all kind of fall into place and digest. That's what I was talking about earlier with the difference between First Capital in '05 and Southern National in '06 with First Capital in 30 some odd locations spread out across south Texas, we still were experiencing cost saves and some head count reduction in the second, third quarter of this year from that transaction last March, whereas in the Southern National transaction with six locations right here in our backyard and you've been here, that's done.

So I think we expect this to be a longer term process to drop all the cost saves in and to complete all of the integration pieces, which is to get fully 100% up and running, but the computer conversion piece is the first piece of it and we'll complete all four of those before the end of the second quarter as we talked about. Does that help you?

Yes it, does, very helpful. I guess for modeling in the cost saves, we need to be looking through all of '07, and are you saying maybe even possibly early '08 or?

I would expect that we will see the -- kind of like the First Capital deal, that was not a significant number in this quarter, but there were some there. I think that by the time we finish '07, you're going to have 85 or 90% of those numbers in by the end of that year.

Okay.

Bain?

Yes.

This is Tim. Regarding your question on the construction lending, I think it's driven internally by our policy and externally by the economy. Internally, we still prefer a loan that's got hard collateral to one that doesn't. So a real estate loan in the universe of lending is relatively attractive to us.

In addition, as previously mentioned, the economy in our marketplace continues to be decent, if not strong. The housing sales are good. Commercial occupancies are decent. So there is demand out there from a construction standpoint, and once again, when you look at the various categories of lending that we can be involved in, there's obviously risk in all of them, but in our opinion, there's less risk if you have hard collateral as opposed to having soft collateral. So we try to do construction lending and the economy has facilitated that.

Tim, I would add, this is David, Bain, if you look back in December of 2005, we were really only about $206 million in construction loans and today we're at 432 million. And if you really look at what's happened in my opinion, too, the banks that have joined us, that being First Capital Bank and Southern National Bank, the type of lending they did was more in the line of construction, interim construction lending and I think their lenders that have joined us have done just a great job. We were good and comfortable with it, but these guys are really good and I think that's one of the bigger reasons you're seeing the growth in the construction, is because of the banks that have joined us have specialized more in that area than some of the other areas.

Now, having said that, somebody would even question with the national analysts that foresee 11.5% decline in housing starts this year and an 11% decline in 2007, when we look at the Texas housing market, it -- we see it still continues to fly high. The state's population has soared by 2 million people so far this decade. The home inventories remain low, and prices continue to appreciate. So the Texas market, you hear a lot of noise on a national basis, the regional trends for Texas really look pretty good and bright right now. Probably if you asked the question what could change that, probably some of the things that could change that, and we realize that, is that maybe some of the larger home builders that operate on the East Coast and West Coast could say, well, they are not making, they are not hitting sales on that area and they could come into the Texas market. But overall, we look -- it's very -- things look very good in Texas. We don't have a, we don't have a lot of auto plants in our state and we still have the oil and gas. So things are still looking really good and we're still looking at population continuing to grow.

Okay. I guess within this 430 million, 432, is there -- could you give a breakdown of maybe what's 1 to 4 and what's maybe commercial real estate and other?

We don't track those numbers exactly. We're working to get those numbers for you and hopefully we'll have them here in the next quarter or so.

Okay.

I think our gut tells us that 80 to 90% of that number is 1 to 4.

That's right. That would be correct.

Okay. Great. That's helpful. Thanks.

Thank you, Bain.

We'll take our next question from Brett Villaume with FIG Partners. Go ahead, please. Mr. Villaume?

Hello, sorry. I had it on mute. Hi, fellows, it's Brett Villaume with FIG Partners.

Good morning.

How are you?

Great.

I wanted to ask you about, after Southern National was acquired and the fabulous demographics around Fort Bend. Now, I was wondering if you could maybe educate me and also tell me if you have any further expansion plans for Collin County and around Plano, considering how wonderful the demographics are in that county.

I think there's a couple of counties in Texas that are just on fire. Fort Bend County is one. Collin County is one. Montgomery County on the north side of Houston is one. Tarrant County has been growing very fast. Certainly the pickup with Texas United puts us with two locations there in that Collin County. We go into two locations in Frisco with the Gateway Bank transaction. So that certainly gives us some extra presence. We've not been a de novo office, opening a de novo office on every corner bank. So I don't see us changing our stripes there and beginning to open de novo offices.

There's certainly plenty of them being opened in those high growth markets. We've been looking for partners and bankers that want to join our team and want to help us grow and on that front, we've actually done fairly well. Year to date I think we've now hired six or seven new lending officers across the system, most recently two in the Corpus Christi area that have joined us in the last week. I think we want to continue to look for producers to do that and if we can find people that want to be in those markets, we can certainly build around those people. But we don't believe in the build it and they will come style of banking.

I would add that with the merger of Texas United, we really brought on some very talented people, not to mention -- not to say that we didn't have talented people before, but just the increase in size in our presence, the 29 locations in the Dallas-Fort Worth metroplex gives us a lot of momentum and we have a lot more management and leadership there today. So I think the combination of our teams that we had in Texas United put together can really take us to a new level over there and we're really focused in that area.

Okay.

Does that help you?

Yes. Thank you very much.

Okay. Thank you.

We'll take our next question from Campbell Chaney with Sanders Morris and Harris. Go ahead, please.

I just have a point of clarification. I think, David, you said the securities portfolio looking out 12 months is going to give you 400 million in cash. Is that a pro forma including Texas United, or is that not?

No, that's just taking in our portfolio at 9/30 and looking out. Just as a point of reference, and Dan can correct me if I'm wrong, but Texas United, the Dallas portfolio, you only have about 200 million.

30 million, something like that.

Okay. So really it's set. And then from a strategic standpoint on your acquisitions, are you giving any thought or thinking about buying outside of depository institution universe, maybe a service business or specialty finance or something like that? Can you give us some color?

I can answer that. We're really not -- we're really focused on building the core commercial banking. We still feel like we have a -- we have a way to go just on the loan side, to build the loan to deposit ratio where we need and I don't think, you never want to say never. But I don't think that we want to divert our attention to more ancillary projects and I think we're going to focus really on the bank on our bread and butter. That seems to be where we make the most of our money.

We believe we have a very unique model in today's environment in Texas. I can't tell you anybody else that's delivering the customer service the way we're delivering that customer service. The old style community banking with decision makers in the field, with decision makers out there talking to customers every day, being responsible for growing their locations every day. I think that's very unique today in Texas when you compare us to the other players that are out there and I think we want to continue to focus on what we do best.

Great. Thank you.

It appears we have no further questions at this time.

Great. I want to thank everybody for participating today. We appreciate your support and your time on the call with us today. We look forward to talking with you all again in the future. Thank you all very much.

Ladies and gentlemen, this concludes today's teleconference. Thank you for your participation and have a wonderful day. You may disconnect at any time.