Prosperity Bancshares Inc (PB) 2013 Q3 法說會逐字稿

Good day, everyone, and welcome to today's program. At this time all participants are in a listen-only mode. Later, you will have the opportunity to ask questions during the question-and-answer session.

(Operator Instructions)

Please note, this call may be recorded. It's now my pleasure to turn the conference over to Ms. Charlotte Rasche. Please go ahead, ma'am.

Thank you. Good morning, ladies and gentlemen, and welcome to Prosperity Bancshares' third-quarter 2013 earnings conference call. This call is being broadcast live over the Internet at www.prosperitybankUSA.com, and will be available for replay at the same location for the next few weeks. I'm Charlotte Rasche, Executive Vice President and General Counsel of Prosperity Bancshares, and here with me today is David Zalman, Chairman and Chief Executive Officer; H.E. "Tim" Timanus, Junior, Vice Chairman; David Hollaway, Chief Financial Officer; Randy Hester, Chief Lending Officer; and Chris Bagley, our Chief Credit Officer.

David Zalman will lead off with a review of the highlights for the recent quarter and an update on our recently announced merger and acquisition activity. He will be followed by David Hollaway, who will review some of our recent financial statistics, and Tim Timanus will discuss our lending activities, including asset quality. Finally, we will open the call for questions. During the call, interested parties may participate live by following the instructions that will be provided by our call moderator, Keith; or you may e-mail questions to Investor. Relations@ProsperityBankUSA.com.

I assume you have all received a copy of the earnings announcement we released earlier this morning. If not, please call Tracy Elkowitz at 281-269-7221, and she will send 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.

Now let me turn the call over to David Zalman.

Thank you, Charlotte. I would like to welcome and thank everyone joining us for our third quarter earnings announcement. I'm very excited to announce such positive results for the third quarter of 2013.

I am delighted to announce that Prosperity Bancshares will increase its quarterly dividend to $0.24, or $0.96 annually, which represents an increase of 11.6% from the $0.86 per share currently being paid. At Prosperity, we strive to continue to share our success with our shareholders and have the shareholders' interest in mind. Prosperity listed on the NASDAQ Stock Market in late 1998 and began to pay dividends in 1999, when we paid the first dividend of $0.10 per share annually. That was before any stock splits.

As mentioned before, we are excited about our upcoming merger with First Victoria National Bank. We expect to close the transaction in November of this year and conduct the operational integration in December. As of September 30, 2013, First Victoria National Bank on a consolidated basis reported total assets of $2.473 billion, total loans of $1.648 billion, and total deposits of $2.195 billion. We are also very excited about our recently announced merger with F&M Bank Corporation. We expect to close this merger in the late first quarter of 2014 and conduct the operational integration in the second quarter of 2014. As of September 30, 2013, F&M on a consolidated basis had total assets of $2.470 billion, total loans of $1.882 billion, and total deposits of $2.257 billion.

With regard to earnings, we posted earnings of $55.278 million for the 3 months ending September 30, 2013, and that's compared to $46.176 million for the same period in 2012, which represents an increase of $9.102 million or 19.7%. Our diluted earnings per share for the quarter ending September 30, 2013 came in at $0.91, compared to $0.82 for the same period last year, an increase of 11%. Our net interest margin on a tax equivalent basis increased to 3.59% for the 3 months ended September 30, 2013, compared with 3.52% for the same period in 2012; and increased from 3.43% for the 3 months ending June 30, 2013. Excluding the loan discount accretion associated with purchased accounting adjustments, the net interest margin showed a noticeable increase when compared to June 30, 2013.

Our Tier 1 leverage ratio stands at 7.37% at September 30, 2013, compared to 6.92% for the same period last year and 7.07% at June 30, 2013. Our strong earnings continue to build capital. We were very pleased with our organic loan growth of 2.5%, 10% annualized on a linked-quarter basis. Of the banks purchased in the last year, American State Bank, Community National Bank, and First Federal bank in Tyler, loans have seemed to have stabilized.

The loans acquired in the Coppermark Bank acquisition decreased $84 million in the third quarter of 2013, compared with the second quarter of 2013. However, most of the decrease was attributable to loans that were paid off because the property sold or because the project met the metrics that would allow it to get secondary market financing without personal guarantees. We are still seeing record production in loans, but also are experiencing many paydowns. Tim will discuss this more in detail in his comments.

Our strong asset quality continues to be one of the core values of our bank, with our non-performing asset ratio of only 9 basis points of average earning assets. Our allowance for loan losses was $59.913 million as of September 30, 2013, with total non-performing assets of $12.687 million for the same period, representing a healthy coverage ratio.

Our deposits were $12.456 billion at September 30, 2013, an increase of 13.7% compared with September 30 of 2012. Excluding deposits assumed in acquisitions since the third quarter of 2012, and new deposits generated at those acquired banking centers since respective acquisition dates, deposits at September 30, 2013, grew 3.9% compared with September 30, 2012; and decreased by 0.05% on a linked-quarter basis. Historically, deposits are seasonally low in the third quarter of the year and we see strong deposit growth in the fourth quarter. In 2012, we saw unusually large deposit inflows in the fourth quarter, and commented then that some of these deposits would leave the bank as they were targeted for certain projects.

With regard to the economy, Texas and Oklahoma continued moderate expansion during the first half of 2013. The expansion can be partly attributed to the strong energy sector that continues to fuel economic growth in both states. The employment growth in both Texas and Oklahoma also continues to outpace the nation. The general economic outlook for Texas and Oklahoma for the remainder of 2013 is positive as follows -- the business outlook surveys suggest optimism; housing inventory continues to decline as sales increase; and energy continues to drive the economy.

Thanks again for your support of our Company. Let me turn over our discussion to David Hollaway, our Chief Financial Officer. Thank you.

Thank you, David.

Net interest income for the 3 months ended September 30, 2013 was $126.5 million compared with $106.9 million for the same period in 2012, an increase of $19.6 million or 18.4%. This increase was primarily due to a 15.3% increase in average interest-earning assets. Non-interest income decreased $2.3 million or 9.5% to $21.5 million for the 3 months ended September 30th, 2013 compared to $23.8 million for the same period in 2012. On a linked quarter basis, non-interest income decreased $3.8 million or 14.7% and this decrease was primarily due to the impact of the Durbin Amendment on debit card income, which was down $2.7 million.

Non-interest expense for the 3 months ended September 30, 2013 was $61.5 million compared to $60.2 million for the same period in 2012, an increase of $1.3 million or 2.1%. This increase was primarily impacted by the expenses related to the Coppermark transaction, which closed on April 1, 2013. As mentioned earlier, the net interest margin on a tax-equivalent basis excluding the purchase accounting adjustments improved on a linked quarter basis from 309 to 319. The efficiency ratio was 41.6% for the 3 months ended September 30, 2013, compared to 46.1% for the same period last year and 42.5% for the 3 months ended June 30th, 2013. Finally, the bond portfolio metrics at September 30 showed a weighted average life of 4.4 years, effective duration of 4, projected annual cash flows of approximately $1.4 billion.

With that, let me turn over the presentation to Tim Timanus for some detail on loans and asset quality. Tim?

Thanks, Dave.

Our non-performing assets at quarter end, September 30, 2013, totaled $12.687 million, which is 20 basis points of loans and other real estate. This is compared to $14.864 million or 24 basis points at the end of the second quarter of this year. This represents a decrease of 15% in non-performing assets from June 30, 2013. The September 30, 2013 non-performing asset total consists of $5.237 million in loans, $18,000 in repossessed assets, and $7.432 million in other real estate. As of today, $1.362 million of the September 30, 2013 non-performing assets are under contract for sale. This represents 11% of the non-performing assets at September 30, 2013 that are under contract for sale. There obviously can be no assurance, though, that any of these contracts will close.

Net charge-offs for the 3 months ended September 30, 2013 were $288,000, compared to net charge-offs of $1.423 million for the 3 months ended June 30, 2013. This is a decrease of 80%. $4.025 million was added to the allowance for credit losses during the quarter ended June 30, 2013, compared to $2.550 million for the second quarter of 2013. The average monthly new loan production for the quarter ended September 30, 2013 was $210 million, compared to $186 million for the quarter ended June 30, 2013. This average monthly new loan production for the third quarter of 2013 was a 13% increase on a linked quarter basis. Loans outstanding at September 30th, 2013 were $6.183 billion compared to $6.172 billion at June 30, 2013. The September 30, 2013 loan total is made up of 46% fixed-rate loans, 36% floating-rate loans, and 18% variable-rate loans.

I will now turn it over to Charlotte, who will coordinate your questions.

Thank you, Tim. At this time we are prepared to answer your questions. Keith, can you assist us with questions?

Certainly.

(Operator Instructions)

We'll take our first question from Dave Robinson with Deutsche Bank. Go ahead. Your line is open.

Hey, Dave Rochester here. Good morning, guys. Can you just talk about the big jump in accretion this quarter, what drove that? Was it just more prepays and how do you see that trending in 4Q with the deal closing this quarter?

I'll start off, Dave. This is David Zalman. Obviously there's two components to the net interest margin increase. One is the accretion market value accounting from the loans and the other part of the equation is just our overall core net interest margin increase. I like to look at it more leaving the accounting accretion out of it because that sometimes is out of our control and looking at our net interest margin on a core basis. Our net interest margin on a core basis increased I think primarily due to the securities income, probably less amortization an increasing the yield on that and I think that's primarily the main thing.

I mean, part of that, what you're seeing in the numbers in the third quarter is what we've said previous conference calls. This number's going to tend to be lumpy because there's two categories to it. One, we use kind of layman's terminology here, what we call the FAS 91 or the accretable part tends to be a little more consistent, although that's based on cash flows coming off of those loans. But it's the 03 section of this group that it's a hard call. Those in theory are loans that are quote-unquote, impaired and it just depends what the final resolution there is with those loans and the mark on those loans, what happens to them. That's where the lumpiness comes in. If we do a better job than what was anticipated a year or two ago, there could be some income coming back to you us. If we do a worse job there could actually be as loss coming to us. What you saw in this past quarter which is I guess and Chris or Randy can jump in, but I guess because of where the economy is and that these guys work really hard at taking care of these assets. It was a positive this quarter. Guys any other color on that?

I would just emphasize part of what you said, that these loans that have purchase accounting marks have those marks because they are, have a negative credit implications to them. So I think it would be a mistake to just assume that any of those marks are going to come back into income. Having said that, we're focused on trying to collect these loans at par and historically we've had reasonable success at that. But to make a projection going forward as to what the accretion would be, I think is very difficult to do and probably not prudent.

I appreciate that. Switching gears to the expense side, I would imagine you guys are probably already ready for this. Wondering if there are any additional expenses that will be coming in 4Q just related to stress testing and what not.

I think not just fourth quarter but as we look into the new year. With all the, with the size that we are, there's additional regulation on us and yes, specifically to stress testing and all that goes with it, there will be additional expenses. Can I give you a specific number? No, but absolutely that's something we need to be aware of those expenses will go up. David, any other comment?

I think it's one of our biggest challenges that we have because the regulatory environment has two things. One, the size that we've grown to, I think there's a lot more eyes watching us, how you double in size from a year or so ago. I think just from a regulatory standpoint. I think number two, once you go over $15 billion, then it throws you into another elite groups of banks and I think that requires a lot more. Our in-house, our audit team, our internal auditor in the past is we're looking at, there's a lot more emphasis from the regulatory standpoint on internal auditing. There's BSA, there's lot more emphasis. So there's a lot more on modeling. I comment that we need nuclear scientists working for us. Just to give you some idea, just a year or so ago we probably had at best maybe a year and-a-half ago maybe 10 people a day or 12 people a day that I consider working directly for the government on a day-to-day basis, working mainly in compliance in BSA and stuff like that. Today, we're probably looking when it's all said and done with the modeling and DFAS we're probably more like 50 people a day. That's how much that has increased, quite frankly.

Got you. So are you thinking maybe you get a little bit of expense growth in 4Q, outside of the deal of course that's closing?

Yes, I think that's probably a good assumption, a little bit just because of what we're having to get done from an infrastructure perspective on all this.

Got you. Just one last one. Could you talk about where your blended loan production yield was for the quarter. I'm just trying to get a sense for how that compares to the book yield, just excluding the accretion portion.

Well, I'm not sure I understand the question when you say the blended yield.

Just the all-in loan production yields, whatever you guys booked this quarter.

What types of loans it came from? Is that the question.

I think he's asking Tim from all the loans that came into the bank over the last quarter including commercial, real estate, everything, what's your average yield? Do we have that information?

No, we don't have that.

We know what it is but we don't have it with us, Dave, sorry.

No problem. No problem. Thanks, guys, I appreciate it.

We'll take our next question from John Pancari with Evercore. Your line is open.

Good morning, guys.

Morning.

On that expense question on the regulatory costs, have you seen some of those costs come on-board already or have you yet to really see that lift?

We've seen some of those costs come on-board and we'll see some more of those costs come on-board in the fourth quarter and in 2014.

We've really been seeing it for a year now.

Right over the last 12 months, absolutely.

Yes.

Okay. All right. And then flipping over to the loan side, can you give us a little bit more color on the drivers of the C&I loan growth this quarter? It was pretty solid. Just want to get an idea of the types of loans you're seeing and markets.

Well, I think it is solid, number one. I don't think it's a blip. The economies in Texas and Oklahoma are decent. So while there are no guarantees, I would anticipate that, that demand would certainly stay probably equal to what it has been here over the last few months. The energy sector continues to be strong and that spills over into real estate and other sectors. So it's really coming from all the various parts of the economy that we service. I mean, it's not any one particular area. We see a lot of retirement homes being done, and things of that nature, because of our aging population. We see a lot that's directly related to oil and gas exploration and a lot that's indirectly related. So it's really all the above, I think.

Okay. But the weakness in the CRE side, was that more of the fill paydowns and some of the acquired credits?

Yes. We had, as David mentioned, we had quite a few credits in Oklahoma, for example, that paid down that really had nothing, those paydowns had nothing to do with the relationship between the bank and the borrowers. They were projects that sold and the new buyers either had their own financing or didn't require financing. That was a large part of what happened. David also mentioned that some of the projects reached a cash flow status and an NOI status that enabled them to go out to the marketplace to commercial lenders and get without recourse financing which is something that we typically had been hesitant to do. So it's normal for us to see projects move out on that basis. So it's just part of business, obviously. Good loans get paid off sometimes.

Okay. Thank you.

We'll go next to the line of Jefferson Harralson with KBW. Go ahead.

I wanted to follow up on that accretable yield question and on the impaired portfolio. You had $41 million sitting there I guess to run through earnings if the marks come out as expected. I guess what, at what sale price relative to original loan value would they have to sell for that to be the right mark?

Chris, you want to take a first shot at that?

Yes, I don't, I'm questioning what your number is. The net balance of the 03 marks you're talking the purchased impaired credit.

Yes.

There's an accretable yield that would earn on that net balance. The mark component I wouldn't predict any income accretion from it because those are impaired credits going in. It's possible we'll get income from them. It's possible if not it would be hazard to predict the how much it is and when if it occurs.

You can't predict what you sell --

Where are these loans marked currently? If they sold for $0.30 on the dollar do you get gains? If you sell for $0.40 on the dollar do you get gains. Do they have to sell for $100 --

-- Off the top of my head, I think it's about 50% all-in.

All right.

They're going to be different credits of different marks. That 03 purchased impaired component. That bucket of loans if I remember correctly is 50% all in mark. All right, and let's say if it is 50%, let's say you sold them all right now for $0.50 on the dollar, would you get $41 million backend through earnings over time or would you get 20?

No.

We'd get nothing.

You would get nothing. So to sell for meaningfully better than wherever you have them marked to get any of that 41.

Correct.

You'd be selling them at book value our current book value so there would be --

And that balance after the market is the prize maybe that's another way to look at it.

Last one. So this quarter you did sell loans for $4 million over your book value?

Correct.

Okay. Thank you.

We'll take our next question from Scott Valentin with FBR Capital Markets. Go ahead, your line is open.

Just a question on the securities yield. I know kind of what I call the core yield I guess, ex some of the purchase adjustments, was up about 8 basis points linked quarter, now two quarters in a row of improvement. I'm sure some of that is premium amortization. But are you actually seeing, are you able to move the yield higher in the portfolio through new additions versus payoffs?

This is David Zalman, but I'll let David jump in it. I think primarily the improvement came from just less amortization on the portfolio that we have. In the past quarters, we would buy securities in advance of the paydowns and so sometimes you'd see us borrowing as much as $700 million or $800 million from the Federal Home Loan Bank. We really haven't, because of our loans increasing and interest rates going up, we haven't bought in advance lately but probably buying today, the rate that we would get today would be some improvement over the yield that we have in the portfolio today, yes.

Okay. And just a follow-up on the core loan yield, down about 10 basis points linked quarter. I guess that still reflects competitive market and I assume the loans are adding the portfolio today are still below where the overall portfolio is.

Yes, and yes.

I agree, that's two yeses.

I think it's just something I think that you hit the nail on the head, basically.

Okay. And then one last final question. Your core organic growth was 10%, the core kind of Prosperity franchise and I guess Coppermark explained the decline to kind of one off type of transactions. The other two franchises declined as well. I know you talked about eventually getting to stability maybe in the fourth quarter. Is that just normal kind of borrowers moving credits in time for the loan officers to gain traction under the new prosperity kind of policies and procedures?

I would say first you said that the others actually lost too, I think American State Bank had $961 million this quarter, compared to $967 million l last quarter. So it's about $5 million or $6 million. Community National actually increased $1 million. And East Texas was down about 5, it was $104 million compared to $111. All in all we didn't see a big deal. As I said before in the past, usually when a bank joins us sometimes we lose as much as 10% to 20% of their deal in the first year. It takes about a year for them then to stabilize and get used to what we're doing and then grow the bank probably. The growth really doesn't start until probably about two years. If you want me to give you some color on the Coppermark deal. Basically we looked at it pretty thoroughly, again I won't go into too much detail. We had a $7.1 million payoff on a hotel which was sold, another $4.1 million payoff on another hotel that was sold. A $14 million student housing project which was sold. $4.1 million oil and gas credit was refinanced with a mezzanine lender. $6 million memory center was refinanced to nonrecourse. I don't think that we're losing those. It's good to know that we're not losing those to the competition. I think they're either getting paid off or going to a secondary finance deal where they're not requiring as stringent as we are. I think looking at, going back to our legacy growth, I think we had great legacy growth. Again, I know it's hard for you guys when you see this because you're seeing all these different numbers and that's why we do try to break them out, bank by bank. But I think when you look at the legacy growth and we get the other guys, you've never see it again. When you look at First Victoria and you look at F&M bank as they come on, again, I think in the first year you could have anywhere from 10% to 20%, maybe 15% just because the kind of loans that they may had that we may want or not want. You may see those gone. So I think in our history that's just it is what it is, I would say. Again, I think the good news about the Coppermark deal, we looked at it very thoroughly, in general all of them was because properties sold or moved to another secondary lender, really.

I think it might also be important to emphasize that as I said in my comments earlier, our average monthly new loan production for the quarter was $210 million, compared to $186 million at the last quarter. But I think it's also important to see the perspective looking at that against the production for the calendar year 2012. We averaged in 2012 $138 million a month and that was really just nine months ago. We've gone from $138 million a month in average new loan production to $210,000. So production's really been strong.

And I would say also, again, these banks take, it takes a while for them to get used to our system. I would say the good news Coppermark I've seen them present quite a few new loans and are moving a lot faster trying to build their loans back up in Oklahoma too.

Okay. Thank you for the color. Very helpful.

We'll take our next question from Brett Rabatin from Sterne Agee. Go ahead. Your line's open.

Hi, guys. Good morning.

Good morning.

Was hoping to get a little more color maybe around just given where rates are today and F&M closing here next year if you had any kind of second thoughts about their energy book and maybe you keep those loans and then just kind of what you're doing with rates where they are today in the securities portfolio?

Okay. There was kind of a couple of questions there, I think. One, you're asking about F&M and what we think about the loans and their portfolio and then the second question was what?

David, just around given what's happening with the 10 year here, it coming down so much, what you're doing in the securities portfolio? Maybe, I don't know if you had sort of the cash flow perspective, I know you typically give that from a quarterly perspective in terms of what you have rolling l off in the portfolio.

Right. Well, again, I think from a security standpoint in the past we probably haven't bought any securities probably in the last two months, really. Again, we were thinking that we saw interest rates go as high on the product that we buy, as high as 3%. I don't know, the 10 year over the last few days has dropped back to around 2.5 or something like that. I think that, over a shorter period of time once all the euphoria goes through here, I think you will see the 10 year I think most people do think the 10 year will go up, maybe not this year as much, but probably next year to over 3%. We're pulling back on what we're buying. We're only buying as we need it instead of buying ahead like we used to. We do think that we probably right now we're not going to buy. I think that rates are a little bit low. I say that, maybe they'll go lower. On the securities portfolio we're probably holding until we absolutely do need it. I think the cash flow, David, what do you see on the cash flow.

About $1.4 billion right now. Annually.

$1.4 billion annually is coming back off of the bond portfolio. With regard to the F&M question on their portfolio, as you all know they have probably about $400 million in shared national credits and participations. Again, our bank in the past has not been a real big believer in shared national credits and participations. Having said that, I think we're going to give it a realistic attempt and look and we look at each and every loan, but my general overall feeling is that we'll probably be reduced by some percentage, that part of their portfolio. I don't think it will all be gone but I think there's some percentage. It's just our tolerance for the amount of risk is usually not as much as everybody else's in the shared national credit and participation arena. I wouldn't say all of it but there's some percentage probably.

Okay. That's great color. The other thing I was curious about was just the 13% increase in the average monthly production to $210 million this quarter, is that a function of resi one to four, C&I, can you talk maybe about the increase and any thoughts around lending hires and how you're thinking about that.

I think it comes from all the sectors that we're active in. I don't think you can say that it results from any particular type of loan.

The only thing that went down was CRE this quarter.

It comes and goes like any other sector. I don't know if you heard that, Brett, but Chris said, probably the only thing that really went down this quarter was the CRE loans, really.

We have a very focused effort to get our loan officers out, calling, and trying to bring in business. Hopefully good business, needless to say. So I think it's a function of a decent economy and the fact that our people are just trying very hard.

Okay. I'm sorry.

From what I can tell, in sitting in loan committee, seems like as the bank gets larger and larger it looks like more emphasis or seems to be more loans moving into the C&I category than maybe in the past commercial real estate or one to four family, the emphasis has kind of changed a little bit.

The larger loans, certainly.

That's right.

No question about that.

Okay. Great. Thanks for all the color.

And we'll take our next question from Andy Stapp with Merrion Capital Group. Go ahead. Your line is open.

Hi, guys.

Good morning.

Most of my questions have been answered. But just wondering what caused the linked quarter increase in non-accrual loans?

What was the increase?

Non-accrual loans?

Yes. You kind of caught us off guard they were so small we didn't --

Probably up about 15%, something like that.

Yes, I think, Randy's looking it up, but again, I think that --

Just lumpiness?

We sold so much ORE, there used to be more ORE than non-accrual.

Right.

And again, it was so little I don't think we placed a lot of emphasis on looking at that. I see what you're talking about. Non-accrual loans went from $4.295 million to $4.954 million so we're looking at what a $600,000 --.

Any loan that's a problem is certainly material but the overall number is obviously not material to our results. So I don't think there's anything unusual about it, I guess is the answer.

Okay.

I don't think it represents any weakness in the economy or any particular weakness in our portfolio.

Okay. Thank you.

And we'll take the next question from Gary Tenner with D.A. Davidson. Go ahead. Your line's open.

Thanks. Good morning. Just one question regarding the provision increase this quarter. I mean, it's not a big number but given the overall credit metrics a little surprised to see it pop up a little bit. Is that just a function of the new loan production versus runoff of some loans that were marked and not reflected in the reserve previously?

Yes, I think all of those, it's model driven and that's a methodology driven number there's a lot of moving parts in there. One maybe unique part to Prosperity Bank is you have this migration from acquired loans to non acquired status as the accretion burns off. That's a subcomponent of it that moves the number some.

That's all I had. Thanks.

The next question comes from Jon Arfstrom with RBC Capital Markets. Go ahead. Your line's open.

Thanks. Good morning.

Good morning, Jon.

Couple questions. This is following up on Jefferson's question. We're going to split the atom on the impaired bucket again. Was this broad-based number of loans paying off or was it maybe one or two larger credits that you did well on?

It's one or two larger credits. There's not that many credits in that bucket. From a numbers perspective, they tend to be larger credit.

Okay. And then Dave Hollaway, know you may not be able to answer this question but any idea on First Victorian, F&M, how large the impaired bucket might be?

That is a good question. Chris might jump in on here. We've got our third party looking at F&M way too early. First Vic, we're just starting that. It's a good question we don't have the answer yet, Chris any color?

I think he's asking more, are you asking more for the ratio of the impairment for the mark-to-market or the total dollars basically? There's two categories. I consider the 03 and then the 91. I know there's two different categories. Which one are you asking about, Jon?

I'm asking more about the 03. If you have the 91 we'll take it because it's obviously pretty important numbers.

We're in the process of doing that assessment as we speak, so just to give you some color as to what it looks like, we looked at 90% of the portfolio in dollars. We've identified those credits that we think the rising level of impaired status and we sit down and discuss in more detail and gather information from the First Vic team and we turn that over to the third party for the valuation, so we're just in that process. I can't really give you guidance on the numbers other than to tell you from a timing perspective on transaction date we'll start valuing all those credits.

I think it's safe to say from a due diligence perspective that we certainly have an idea of what the credits are but it's really too early to put a number on it.

Put guidance on the marks.

It's too early to put a number on it.

If it's any help, I don't think it's anything, I don't think it would be anything unusual. First Victoria's a very good bank, very clean bank, very similar to ours. I don't think that you're going to see some big number jump out there if that helps any.

That's true.

Yes, that helps. Maybe an obvious question. I'm assuming on the 03 loans it's the same approach that you would use in your regular credit workout?

After it's marked in terms of how we deal with the he'd credit.

Yes.

Yes, those credits meet our definition of a watch list credit. We're looking at them quarterly updating the cash flows, trying to mediate or resolve those credits as soon as possible.

And then I guess Dave Hollaway, a question for you on Durbin, it looks like there's one more month of headwinds coming. Is that correct in terms of the run rate? July 1, is that right?

Right, July 1. So it was impacting us for the quarter this past quarter.

Full quarter. Okay. And then have you guys done anything different in an attempt to offset Durbin or is it just something where you absorb the fee hit and move on?

No, yes, that's a great question. We're doing multiple things trying to offset that, try to kind of go through some of this as we talked about. We're trying, as you notice, we're trying to develop these new lines of business that if you kind of go back in time, the American State Bank transaction already had a trust area as an example. First Victoria coming up has a trust area. We'll try to leverage that, and increase that revenue stream. The American State Bank also had a, they will be getting the process of a credit card product which we're going to deleverage and go forward, try to create more business there. First Victoria coming up, they just visited with us. They have Dave you might help me here, but a wealth management private banking concept.

That's right.

To help offset some of this. So we're doing quite a few different things ultimately to try to offset this $10 million annualized that we're losing from Durbin and it's, as you know, the Durbin's just a cliff thing. One day you're at one number, the next day its dropped off the cliff all these things that we're looking at from a revenue generation. It's going to take a little time. We've been working hard to try to get this up so we can see some legs on it when we get into 2014 and actually see some results. You want to add some other color to it.

I would just put a big umbrella around it, saying it is we are not happy that we lost $10 million to Walmart. There's no question about it. It's one of our primary focuses and I think that next year we will recoup some of that money. We're looking at a number of different options to increase income and as Dave said in credit cards or ISO operation or wealth management, with trust and a number of other things as well. We're hoping that we will recoup some of that money.

Home mortgage effort's part of that too.

Right.

Okay. And then I may have missed this, Dave Hollaway, did you give an estimate for what the nonrecurring merger charges might be for Q4?

We have not.

And that's all I'm going to get on that?

> ( Laughter ) At this point we don't have a good number to give you.

Okay. Okay. Thanks.

And we'll take our next question from Michael Granger with the GM Capital. Go ahead. Your line's open.

Hi. Good morning. Just wondering what the mark-to-market difference was on the held to maturity securities at 9/30 and then also what was the low point for that number during the quarter, during the bond market sell off in the earlier part of the quarter?

I don't know that I'm understanding the question.

I guess it's two questions. One, what's the, I guess in this case, what's the unrealized gain or loss at 9/30 in the whole portfolio? That's the number one question. Number two would be when everything was falling off the cliff do we have a sense of what that unrealized number was I guess during the quarter? I think the first one, I think the first part, at 9/30, this is on a total portfolio, of course, 99%, 98% of it's in HDM, as of 9/30, the unrealized loss on the portfolios was about 40 -- I want to say off the top of my head but it's close, $45 million, $47 million. And then on the second question. I don't know that I have an answer for you as to what it was during the sell off. Do you remember?

I've got the numbers here. Our total held to maturity securities are $7.4 billion. Our available for sale is only $173 million. So very little of our money is in available for sale. I think before the rate started moving up so dramatically, we had a couple of quarters ago a $200 million gain in the portfolio. Today, or I'm sorry, September 30 we showed a $41 million loss in the portfolio. So those are the exact numbers.

Okay. Any sense of where, kind of where it went to during that sell off or?

I don't have it off of the top of my head, no, I'm sorry.

Okay. All right. Thank you.

Operator.

(Operator Instructions)

We'll take our next question from Jennifer Demba with SunTrust Robinson Humphrey. Go ahead. Your line is open.

Good morning.

Good morning.

Sorry, I got cut off the call for a few minutes. Dave, I know you're going to take a break from acquisitions for a while but I'm wondering if you can talk about your pipeline right now and also your results are a lot noisier than they've probably ever been in the history of the company and just wondering how you, if you could talk about how you think about managing the company through this purchase accounting phenomenon and looking at your strategy.

I think the first question was primarily where we're at in the pipeline. Your first statement I think is completely accurate. I think our first and foremost we're really focused on now going to be at least six months to a year is really doing the operational closing both First Victoria National Bank and the F&M Bank Corporation and then secondly the operational integration of those two. We definitely have our hands full with that in addition to the regulatory burden that comes along with it, of being a bigger bank. Those are our primary focus for the near term. Having said that, I think that we have probably still today a number we probably get one call a month, in asking if we're interested in a bank or more. So the pipeline is full. Again, I don't know that we're focused on in the immediate short term to be looking at banks. I think one day we'll be back there again. Right now our focus is to put this together. Two, the numbers noisier, you can say that the numbers are noisier. I think it's still really a plain, vanilla bank, basically. The only thing that makes it noisy is this mark-to-market accounting, what I call voodoo accounting. I agree with you there. Basically once you dive into it, it's pretty simple to understand. I think that there's on one hand I think maybe what you're referring to as noisy, that you have a bigger gain on the accretion because a loan got paid off that maybe we had marked less. On the other hand it's probably noisier because at the same time the offsetting of that is I think you had a bigger, you had a bigger amount of money to put into the provision for loan loss. I think those two numbers offset each other. I think the other numbers in what we're presenting this time, there's, it is what it is. There's not a lot different there. I think those are the only two things that really it is. I agree, we don't necessarily agree with voodoo accounting but it is what it is. I think overall we still run a very simple, uncomplicated bank. With not a bunch of derivatives or any derivatives at all, really.

I might add, I think the strategy of dealing with it is pretty simple and pretty straightforward. We try to come up with a mark that's legitimate relative to the condition of the credit and that's the best we can do in that regard. And then once that's done we try our best to collect really what the borrower owes the bank in full. Sometimes we're successful. Sometimes we're not.

I think again, it's the 91ers I refer to the 91, that's the mark put on the entire portfolio except the impaired ones, I think that's pretty easy to understand. That seems to run. You can kind of monitor it and it runs with some consistency based on your average lives. It's the 03 that it is. I think if you look at our total 03 credits, what do we have in 03 credits, Chris?

I think it's $60 million or $70 million left.

I think $60 million or $70 million in 03 credits for the size of bank that we are at. I know that there will be some. Our hope is that we could collect all of it. We may or may not. We can't tell you what's going to come in. I don't think it's a huge number, really.

Okay. One other follow-up question. Previous question about offsets to the loss of revenue from the Durbin Amendment. Do you think, David, it realistically takes a few years to kind of recoup that with these other initiatives?

I would ask you all to give us two years but our goal is to do it in a year's period.

Okay. Thank you very much.

It appears we have no further questions at this time. I will now turn the program back over to our presenters for any closing remarks.

Thank you, Keith. Thank you, ladies and gentlemen. We appreciate you taking the time to participate in our call today. We appreciate the support that we get for our company and we will continue to work on building shareholder value. Thank you.

This concludes today's program. We thank you for your participation. You may now disconnect at any time.