Texas Capital Bancshares Inc (TCBI) 2016 Q4 法說會逐字稿

Welcome to Texas Capital Bancshares, Inc. fourth-quarter 2016 earnings conference call.

(Operator instructions)

Please note, this event is being recorded.

I would now like to turn the call over to Heather Worley, Director of Investor Relations. Please go ahead.

Thank you, Nicole. Welcome to the Texas Capital Bancshares fourth-quarter and full-year 2016 earnings conference call. I am Heather Worley, Director of Investor Relations. Should you have any follow-up questions, please call me at 214-932-6646.

Before we begin our discussion I would like to remind you that our call will include forward-looking statements that are based on our current expectations of future results or events. Forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from the statements. Any forward-looking statements made today are as of the date of this call and Texas Capital Bancshares does not assume any obligation to update or revise any such forward-looking statements. Statements made on this call should be considered together with cautionary statements, risk factors, and other information contained in today's earnings release, our most recent annual report form on 10-K and in subsequent filings with the SEC.

Joining me on the call today are Keith Cargill, President and CEO, and Peter Bartholow, CFO and COO. After a few prepared remarks, our operator, Nicole, will facilitate a Q&A session. At this time, I will turn the call over to Keith, who will begin on slide 3 of the webcast.

Keith?

Thank you, Heather, and welcome, everyone. As Heather mentioned, I'm Keith Cargill, President and CEO of Texas Capital Bancshares. After sharing my comments on the quarter and year, Peter Bartholow will offer his perspective and then I will close before we open the call for Q&A.

Let's get started. The fourth quarter showed a surge of LHI growth in December, while full-year loan growth consistent with guidance. Our hope is that the December bump in LHI growth is an early indicator of our business in private client shifting to more pro-growth mindset post-election, but it is too early to tell. Having just completed a statewide tour of each of our five key markets and holding luncheons with approximately 50 of our business CEO and private clients, there is a noticeably positive shift in attitude, as they overwhelmingly were bullish on their prospects for growth in 2017. When and if their attitude translates into increasing loan demand is not yet known, but certainly the signs are encouraging.

Fourth quarter was very strong for our MCA, or mortgage correspondent aggregation business, despite seasonal headwinds. In fact, the MCA business delivered sufficient increasing profits in the third and fourth quarter to post a profit for the year and position us for a strong profit contribution from MCA for the upcoming year. The strong MCA growth expected to continue in 2017 is an especially capital efficient contribution to earnings, requiring risk-based capital in the 40% to 50% range. Importantly, we posted another solid quarter in average DDAs and total deposits as well.

Not only is our growth in traditional LHI and overall mortgage finance driving solid net revenue growth, but they also are improving our fee income to total income mix. Having largely completed phase one, staffing, from the rebuild and expansion of private wealth advisor's undertaking in 2015 and 2016, PWA should begin to contribute to improving our fee income mix, the total income, over the next several years also. Improving fee income is one of our key revenue metrics for our strategic focus to lift the ROE run rate over the years ahead.

Equally significant for our delivering higher sustainable ROE is the operating leverage and efficiency ratio improvement we believe we will achieve over the next three-plus years. In both instances, operating leverage improved and we reduced our efficiency ratio consistent with guidance. Some metrics remain acceptable as we experienced a reduced need for provision from prior quarters in 2016. The provision of $9 million reflects significant improvement in criticized loan balances during the fourth quarter. The third quarter required a $22 million provision, well above the $9 million in the fourth quarter. Net charge-offs were 29 basis points of total loans, or 38 basis points to only traditional LHI loans for 2016, with $36 million related to energy.

Combined loan-loss reserves to traditional LHI equaled 1.38% at 12/31/16 as compared to 1.28% one year ago. Net income increased 13% on a linked-quarter basis and increased 39% from the fourth-quarter 2015. EPS increased 10% linked quarter and increased 37% from the fourth-quarter of 2015. Year over year, net income was up 7% and EPS was likewise up 7%. With the heavy loan-loss provisions focused largely on energy and the substantial build out expenses incurred with six expanded and new businesses, 2016 net income and EPS was solid and sets us up for improving earnings in 2017.

On slide 4 we offer our energy update. Energy loans now represent 5% of total loans, dropping below $1 billion from Q3 to Q4. We believe that our $57 million in energy loan loss reserves is more than adequate after realizing $36 million in charge-offs in 2016. Energy non-accruals declined by $29 million, linked quarter. We are initiating new energy loans with new and existing clients, but advances under those new credit facilities have not overcome the pace of continued pay downs.

Permian Basin assets are becoming increasingly valuable and we see strong sales prices on production as well as proven undeveloped properties causing outsized pay downs of debt. The deleveraging has helped stabilize borrowing basis. The spring 2016 redeterminations contracted borrowing bases in the mid-20% range, while the recent fall of 2016 borrowing bases came in, in the low-single digits, plus or minus range.

Slide 5 updates our Houston market risk real estate. As you will note, credit quality remains solid on this portfolio, with no deterioration in criticize or classified loans. Slide 6 shows our geographic diversification. While it appears that our national business have overtaken our Texas regions, in fact the Texas loan business is slightly larger than national business clients lending outside of Texas, when you adjust for the 20% of national business clients based in Texas. Peter?

Thank you, Keith. As Keith mentioned, the record profitability in Q4 and for 2016 came despite the build out expense incurred over the year and elevated provisions related primarily to energy. [EPNR] notably was very strong and we believe demonstrates the earnings power of the Corporation. It increased 15% from 2015 to a level of $318 million. The Q4 comparison was up 26% from the prior year. This performance has been driven by net revenue growth of 16% for the full year and 24% from the year-ago quarter.

Consistent, as Keith mentioned, with our long term objectives, we experienced significant growth in non-interest income, principally from MCA activity and its gains in fees. Those are reflected primarily in other income, with a smaller portion included in brokered loan fees. Income in MCA significantly outpaced the seasonal reduction in brokered loan fees that originate from the warehouse. Also noteworthy is the improvement in core levels of ROE and ROE in the last half of 2016. As Keith has addressed, we saw a significant reduction in the provision linked quarter but meaningful increase year over year.

Slide 7 for the NIM review, as adjusted for the growth and liquidity assets, NIM increased by four basis points from Q3 and the same four basis points between 2015 and 2016. The yields on traditional held for investment loans increased 5 basis points from Q3 and 18 basis points from the year-ago quarter. Those improvements result from the impact of the rate increase in December 2015, benefit of better fee pricing, and a minor benefit from the increase in Fed funds rate last month.

With the mix sift between warehouse and held for sale, the yields for total mortgage finance produced no meaningful impact on NIM for the quarter. Represented -- they represented a smaller similar share of earning assets at yields below the traditional LHI, with a minor impact on overall NIM. They are producing, however, a major benefit to net interest income and to fee income.

For the effective liquidity assets, NIM was an adjusted 3.69% compared to 3.68% in Q3. The growth in liquidity assets has been driven obviously by strong deposit growth, with the significant impact on NIM and ROA. Liquidity assets represented just under 19% of earning assets for Q4, a small increase from Q3 and level with Q4 of 2015. As Keith noted, loan growth was very good and consistent with guidance given previously for 2016. Traditional held for investment growth balances grew by 11% on average balances for the year. Growth in average balances for the fourth quarter was a little more limited due to historically high levels of payoffs occurring early in the quarter. Growth at the end of the quarter was strong, producing held for investment balance of $300 million above the quarterly average.

At the end of Q4, we realized significant contribution from the 2016 business initiatives that were designed to replace the planned reductions and the rates of growth in CRE and energy. In total mortgage finance, that includes MCA and the warehouse, we are managing a large and industry-leading business with a high risk adjusted return, strong fee income, improved capital efficiency. It also provides superior funding profile in both deposits and access to additional liquidity.

We achieved meaningful improvement in market position in 2016. In contrast to industry trends, total mortgage finance grew substantially during the year. Growth from Q4 of $2.2 billion, 54%, to $6.3 billion in 2016 fourth quarter grew $303 million, or 6%, from Q3. The expansion of MCA more than overcame the seasonal reduction in the average warehouse balances. In Q4, MCA represented 18% of total mortgage loans compared to 8% in Q3 and we expect that ratio to increase in 2017 with a commensurate benefit to capital efficiency.

The successful warehouse participation program had an average balance in Q4 of just under $1 billion compared to $880 million in Q3 and $392 million in the year-ago quarter. The program to reduce participation balances has begun, providing the ability to offset a portion of the seasonal and rate growth and contraction expected in Q1 of this year.

On slide 9 the trend of strong deposit growth was sustained throughout 2016. Demand deposit average basis up 26% from the prior year, total deposits increasing 17%. In the fourth quarter, DDA balances exceeded $9 billion for the first time, an increase of 3% from the third quarter and an increase of $2.4 billion, or 35%, from the year-ago quarter. Change in composition of balances will be most beneficial with the effective rate increase last month and any others which could come in the future quarters. With the growth in traditional held for investment loans, the growth in balances in mortgage finance and the growth in DDA balances, the dollar impact of asset sensitivity increased again in 2016 fourth quarter.

On slide 10, non-interest expense discussion is warranted. The NIE trends for the quarter were influenced primarily by performance, representing half of the total. The linked-quarter increase in stock price drove over $3 million and then fairly typically, we have year-end adjustments to incentives for line of business performance that exceeded plan; the true up based on actual performance over the year.

Continued build out in 2015 and 2016 initiatives has also been a major factor throughout the year. We anticipated the increase for Q4 due to the ramp of the new and expanded businesses in SBA, ABL franchise and public finance and despite increases in expenses, all of the lines of businesses were profitable for the last part of the fourth quarter. As expected, the efficiency ratio rose again in Q4 and was 54.6% for the year. It was consistent with guidance and improved except for the effect of the stock price increase in Q4. I will comment later on our outlook for improvement in operating leverage in our discussion on guidance.

I think the quarterly and annual highlights speak for themselves, again with strong PTPP and DNR, strong growth in the fourth quarter and for the year, demonstrating again what we believe were the very strong earnings power of the business model. In ROA and ROE, we saw the impact of elevated provision was a principal factor for a decline from 2015. As anticipated, the benefit of growth in net revenue and better NIE productivity generated much better results in the last half of the year, exceeding 10% ROE and a much more respectable ROA. We commented earlier the impact of the liquidity build has had a pronounced impact on both NIM and ROA, again that we feel are not reflective of core performance. We believe our results demonstrate the opportunity for significant improvement in the coming quarters.

Turning to slide 13 and the outlook for 2013 -- excuse me 2017, our outlook for traditional held-for-investment growth is actually consistent with a trend that we noted in 2016, high-single, low-double-digit before the possible impact of the strength in the economy. The equity raised in Q4 provides the capacity to support additional growth after risk-weighted loan growth in 2016 exceeded ROA -- ROE, excuse me, ROE for the year. On the strength of MCA, we expect to have strong growth in year-over-year average balances for total mortgage finance, low-double-digit growth, seasonal weaknesses in the warehouse in Q1, combined with the impact of a rate increase for flat year-over-year average balance.

Reduction in participations sold will mitigate the reduction in balances for volumes build again in late Q1 and over Q2 and Q3. MCA growth to $1 billion average balance for 2017 compared to $400 million in 2015. We expect some market share expansion from new and current customers in both components of that business. Total deposits, we expect low- to mid-teens growth with continued improvement in the DDA composition, obviously beneficial as rates continue to increase. We also think that average balances for liquidity assets will grow more modestly in the coming year.

The outlook for core NIM has increased, reflecting that the year-to-date performance has exceeded guidance and that we will benefit from a December 2016 increase. Before the impact of liquidity, we have increased it 10 basis points now to 370 to 380 and also increasing guidance for reported NIM with a new range of 320 to 330. The outlook for net revenue NIE and efficiency ratio have also improved. Modest improvement in 2017 due to the mid-December change Fed funds rate, but we anticipate or include in our guidance no additional changes in interest rates.

Full-year contribution from key initiatives in 2015 and 2016 will increase, with strong activity in MCA after the first full-year contribution in 2016. New initiatives extend profits -- will extend profits, with balances already achieved in late Q4 after the small losses incurred over 2016. We expect a low 50% efficiency ratio and recall that conditions in Q1 will generally result in an increase in the efficiency ratio, fewer days for net increase income, FICA expense reductions offsetting that in quarterly incentive and we expect a reduction or no growth and 123R expense moving to more normal levels. We expect seasonal weaknesses in the warehouse activity, partially offset by strength in MCA and we see improved operating results for the expanded business lines.

For the core bank, before the effect of MCA and the other initiatives, the bank has performed extremely well and should continue improvement. We have general growth plus opportunistic recruitment of RMs and have today no major new business initiatives in the works. We always anticipate rising regulatory costs, hopefully declining as a percent of net revenue.

Provision range we give is necessarily wide. We do the opportunity for improvement and we will provide updates as the year progresses. It is just too difficult to predict with precision this early in the year. Our guidance is based on general stability in the energy sector but no meaningful improvement in the economic outlook. Some ponder there is always some possibility of weakening in the economy if pro-growth agenda of the new administration cannot be realized. Keith?

Thank you, Peter. On slide 14, we provide a snapshot of asset quality for 2016. Despite net charge-offs of 0.38% of traditional LHI, we increased our loan loss reserve to 1.38% at year-end 2016, as compared to 1.28% in 2015. The majority of our charge-offs related to energy loans. We believe our energy reserve to be more than adequate for our expected future losses during this cycle.

As Peter mentioned earlier, before I close, that our hope is that rising regulatory costs will increase at a pace slower than net revenue but it is going to be close and we each know that. Before we actually see any effect from potential lessening of regulation, deregulation, we really think we got some important continued work to do, to be sure we are always regarded highly by our regulators. It will be touch and go whether that rate increase and regulatory costs will in fact exceed net revenue, but importantly the gap is still a very positive gap and widening gap relative to non-interest expenses in 2017, so we are very pleased with that progress overall.

In closing, we delivered a strong core earnings year despite continued high provisions, mostly related to energy. Further, the significant built out expenses related to MCA, asset-based lending, SBA, franchise finance, private wealth, and public finance will slow in pace during 2017, with the higher expense run rates pressuring Q1 and Q2 year-over-year comparisons, with improving year-over-year expense comparisons in Q3 and Q4 of 2017. Of course, what is driving that is the pace of hiring and build-out that took place in the third-quarter and fourth-quarter of 2016 and so for the full-year run rate impact you're going to see that pressure on the front end.

The strong surge in LHI growth at the end of Q4 2016 is hopefully a positive indicator of our business and private clients' shifting attitudes to more pro-growth than in recent past years. It is too early to know when and if this more positive attitude will be sustained and result in more loan demand. Recent client feedback is nevertheless encouraging. The energy portfolio is well reserved for remaining losses and we believe the new energy loans are of excellent quality.

Overall, we showed significant improvement linked quarter in criticized loan balances, resulting in a markedly lower provision in the first three quarters of 2016. The combined outstandings of mortgage finance loans and MCA resulted in strong balances for the seasonally weak fourth quarter. MCA in particular has shown strong growth in outstandings in profits and should provide a meaningful profit contribution in 2017.

Finally, we are gratified to see our strategic focus gain traction on improving ROE to a higher sustainable run rate. This focus on lifting ROE includes initiatives to improve efficiency in existing businesses and support functions, improve non-interest income from new and existing lines of business, and optimize growth in our highest risk-adjusted return businesses. We are optimistic about the year ahead and confident that our organic growth model will deliver strong results. Heather?

We will go ahead and open up the Q&A now, please.

(Operator instructions)

Our first question, Ebrahim Poonawala, Bank of America Merrill Lynch.

Good afternoon. The first question I had on deposit and I'm sorry if I missed this in the opening remarks, there is a significant decline [in fee end] balances and deposits, but just wondering if you could give some color on what was going on there. As we look into 2017, to the extent you can, what are the key drivers of deposit growth and how do you think about cost of these deposit, particularly if you get multiple rate hikes?

Most of the deposits, Ebrahim, are demand deposits. That doesn't obviously preclude our ability or willingness to pay interest of rates rise far enough to justify that, so the ability to pay interest on demand deposits in some quarters is viewed as a negative in our business, because of the lag and the spreads that we can garner is actually a net positive.

As you know, we provide significant Treasury management services and that's been the source of most of our deposit growth and will be again in 2017. That also is directed against the mortgage finance industry. I mentioned that we get good deposits out of MCA and we certainly have in the traditional warehouse.

We are deposit rich in escrow balances that are both in monthly terms or principal and interest and annually or on a different seasonal basis for tax and insurance. Q4 tends to be a time when you get significant reductions in deposits from tax and insurance escrow payments. There is no change in the actual trend that comes about from that dip at quarter end.

With the rate bumps, Ebrahim, I might add there could be a little pressure on Treasury fees, but it only further solidifies this big base of DDAs to mitigate fee charges. We feel very good about how solid our DDA base is and it will only become even more solid as we the rate bumps. I think we will see increases in Treasury fees but not at the same pace we might've seen in the last year or two.

Got it. That's helpful. Just sticking with rates and if you I heard you correctly, Peter, I think you mentioned you don't have any rate hikes embedded in your forecast on slide 13. It would be helpful if you can provide the some sensitivity to the NIM assuming you get multiple rate hikes or what the NIM change we should anticipate for 25 basis points move in the Fed funds.

Ebrahim, all we have been able to say is it is representative last year about $4.5 million a quarter in net interest income. We believe because we or larger and because we are more asset sensitive and we have a reduced effect of loans that have floors that, that number could be a little larger in 2017.

So 25 basis points impact would be $4.5 million to NII or higher, obviously, this year because of lower loans withdraws. Got it.

That's $4.5 million per quarter.

$4.5 million per quarter, understood. Just one last question on provisioning. I wanted to understand what your assumptions were around charge-offs and incremental [deserving account] against loan growth to come up with that $60 million to $70 million number.

Low $60 millions to mid $70 millions and the range we said is necessarily wide because we just don't have enough confidence about things that could improve that. Keith commented we have a very large reserve against what we think is our net new energy exposure. We have been -- growth in the past has resulted in about 95 to 100 basis points of incremental reserves.

Than the rest of it is just built around uncertainty. Could we experience weakening in the economy that would expose some sector of our business? There is nothing that we know about that would require that level of provision today.

As we see changes put in place with the new administration, net-net it should be beneficial to growth but we are uncertain yet what kind of effect it could have on an industry here or there that we bank. That is our caution and being bankers we want to be cautious.

We're overall optimistic, but we are going to have to see how some of these issues on the table that are encouraging to our business owners, how those actually play out. As opposed to changes in regulation that could be actually disruptive on new agreements with NAFTA and so on. That is where we're coming from on such a wide range.

That's fair. Makes sense. Thanks for taking my questions.

Our next question comes from Brad Milsaps, Sandler O'Neill.

Good evening, guys. Peter, just wanted to talk for second on the MCA business. To get to the $1 billion of average outstanding for the year in 2017, what should we think about in terms of how many loans in dollars would be passing through in any given quarter. Secondarily, what -- was curious if you guys could comment maybe the fees or gains that you're receiving percentage-wise on stuff you're moving through. Just trying to get a sense of how best to think about fee income as a part of that business going forward.

For the first time, I guess beginning in the last part of Q3 and over Q4, we finally saw things that are meaningful in terms of net fees. We are collecting two categories -- three categories, actually, of fees. One is a file fee that shows up in brokered loan fees. Another category is gain on sale where we did have some.

We are not ready to disclose that yet, but it is a meaningful contributor to the profitability for the fourth quarter that gave us a profit for the year. Then we do get mortgage servicing fees. On the other side of that, we have hedging costs.

Net of all that is a positive. We are running $7 billion or $8 billion -- even at lower levels, $7 billion or $8 billion a month through the warehouse. The time on balance sheet, as you recall, is less -- excuse me, greater for the MCA.

We are seeing more than 50% of the new business is coming from customers that are not warehouse customers. We see 25,000 to 35,000 loans each year.

Okay. Just in terms of the MCA business, can you -- apologize if I missed it, but how much did you sell in the fourth quarter? It sounds like you did not sell as much as maybe you would have to kind of keep it to get the balances up, but I'm just curious. Any color on that would be great.

No, we did not. We went through a normal pattern and actually sold a little bit down at year end. I don't have that detail and I'm not -- at this point we would not provide it anyway.

Okay, got it. Thanks, guys, I appreciate it.

Our next question comes Michael Rose, Raymond James. Michael your line is now open.

Our next question comes from Brady Gailey, KBW.

Good afternoon, guys. You all made some kind of strategic hires in 2016. With the kind of better economic backdrop it sounds like your customers are growing their businesses at a faster pace. Do you think that the hiring in 2017 will be greater than 2016 or will it be more kind of status quo?

It is never a status quo, as you know, Brady. If we have disruption in a given market or in an industry niche, or better yet, consolidation of a competitor with a merger, that would cause us to likely do some outsize hiring. However, we think we are well positioned to pick up some really top-[A] players in our C&I core business. We feel good about where we are on staffing our new and expanded business, so those -- pace of that hiring should actually diminish some over the course of 2017.

We do think we are in an excellent position to pick up some strong people in the C&I banker category and we expect to do so. It would not be on a kind of pace that would remind you of 2013, when it was a record hiring quarter after quarter. At least at this point we don't believe that will happen.

If we see the first-team All-Stars show up, we are going to execute on it and hire.

Okay. Post the election, you guys mentioned your loan growth being December heavy. Now we are kind of through the majority of the month of January, but would you consider the election to be a game changer for the outlook for your loan growth in the state of (multiple speakers)?

To early to call. We believe that, as Peter mentioned, our loan growth had picked up enough in the last half of 2016 that we were pushing beyond the ROE and with the election, it caused us to really think carefully about what that could mean. You may remember we said for some time over the last several years that we have had our clients tell us, our business owners, mostly privately owned companies, tell us that they've been hesitant to grow their businesses. They felt like they had really a disadvantage and uneven playing field and risk/reward simply was not there.

The big companies they compete against being often multinational could push income around the world and effectively have a much lower tax rate than our clients and that was a huge advantage. Further regulation increasing in all these industries of clients of ours, not just banking, they felt like it had an outsized negative affect on them where the biggest companies could hire small armies to manage -- and manage regulation much better. I do think some of the things on the table portend the possibility and maybe even likelihood that we will see our clients that want to grow their businesses more strongly.

The tour I did visiting with our CEOs around our state last week was incredibly bullish. That was [set of] 50 instead of our thousands of clients, but it was a very, very bullish feedback as we went around the table, me not leading the witness at all, which is hard for me, but I did not. Virtually every CEO and business owner and private client said they were very encouraged and they would be growing their business most likely faster than the last few years.

We just don't see it showing up instantly. We think it's going to take some actual legislative draft towards tax reform, things that would really change the risk/reward for our clients in a meaningful way before we will see a big pickup in loan demand.

The end of the year was encouraging. It is just too early at this point, Brady, to say it is in motion, though, on the loan demand.

I think, Brady, the year-end growth really came about from things underway long before the election.

That's usually how that works.

The initiatives that we have been working on throughout the year produced a significant part of that total growth.

Okay.

We are prepared. We have the capital to grow with the clients if they do kick it up a couple of notches.

Got you. Last question for me is [SNIC] balances were about $2.1 billion last quarter. Did that change much in 4Q?

Nothing significant.

Okay. Thanks, guys.

Our next question comes from Geoffrey Elliott, Autonomous Research.

Hello. Thank you for taking the question. Deposit costs increased over the quarter. If I look at non-interest-bearing deposits, they were up almost as much as loan yields. Could you talk a bit about what happened there and then how you expect deposit costs to move as we go through a cycle of rate rises?

Geoff, I missed the first part your question. I apologize.

I was talking about the increase in non-interest-bearing deposit costs. I think they were up 4 basis points sequentially and that compares with 5 basis points sequentially for loan yields. What was behind that? How do you expect deposit costs to behave as we move through the rate rise cycle?

We have one deposit category that moves in lock step with the rate increase. That's deposits that come from downstream corresponded banks that show up in our call report as money market savings account. That is not what it is.

Is a substantive for Fed funds where we agree to pay a small premium over the Fed funds rate in return for their making those balances extremely sticky. Contractual obligation for them to do so is just what we have done basically for many, many years and through the cycle. That is the only significant category that moves in lock step.

It's $1.6 billion or $1.7 billion. We have, depending on who comes in when, it can have the impact that you see. We are not posting significantly higher rates as a result of what's happened in the marketplace.

We are not experiencing unusual competition for funding that will move rates higher significantly. We expect a significant lag between further rate moves and the impact of rates in the total cost of deposits.

We don't have a hard beta that we can point to, but again we don't believe we are exposed to loss of deposits in the event that rates rise. If rates rise very much, we not only will not lose deposits, we will not pay much more than we are now for those.

Great, thank you.

Our next question comes from Michael Rose, Raymond James.

Sorry about that. Apparently I don't know how to work the mute button. (Laughter) Just wanted to ask, so you guys announced you guys had hired some folks in the public finance business. Just wanted to talk about that filled out and maybe more holistic talk about where you stand in the build out and costs for the six of the businesses that you've talk about over the past few quarters and where that stands. Thanks.

Absolutely. We're are pleased to report all six businesses are profitable, including the mortgage -- excuse me, the public finance business and that business came in existence with us sometime in the mid-third quarter. That is a record turn from startup to profitability of any business we have launched in 18 years. We are very pleased with our team and the market opportunity seems quite good, the credit quality excellent and therefore the risk-adjusted return we are very, very pleased with.

We also expect the business to grow at a very nice pace this next year. As we get ultimately some tax reform, hopefully, that yield adjusts accordingly. Since we are only beginning the business, we think that's going to be a positive momentum for our us on overall yield over the next three or four years as it grows.

All right. Then just where you stand in the expense build out in terms of the other businesses, are they pretty much complete, excluding (multiple speakers)?

Except for the incremental with MCA, but the growth rate in revenue and profit is much faster than the incremental growth that we require on additional FTEs. We are in excellent condition on our technology. As you know, spent a lot of money, a lot of time to get it right and very well accepted in the market.

With respect to the SBA business, we have a bit more build out to do there, although it is profitable, that is very positive. It will be one of the six businesses that required some more build out than the other five over the course of 2017. Again, extremely pleased with the prospects of returns on that SBA business, and we now have SBA bankers in each of our five cities and we are off -- with that business, off to the races I hope.

Okay. As a follow-up for Peter, if there is tax reform, is that a one for one or is there any DTA hits or anything like that, that some other banks have talked about in terms of there was a change in the corporate tax rate? Thanks.

We are among the few banks that's basically a full marginal and effective tax rate -- Federal tax rate at 35%. We have a little bit of cost above that for a few of our activities that are out of state, but we don't have any -- as you can see, we don't have -- we are down to less than, I think, $5 million in municipal securities.

We don't do any leverage leasing or anything else that generates unusual fees. For changes in rates, it will be a direct benefit to net income.

Importantly, most of our clients as well, Michael, being privately owned companies, they, like us, are sitting right at the top of the tax rate today.

Many banks (multiple speaker) many banks have rates that are above 35%. You got to go to the tax footnote to see how that with the effective Federal tax rate.

Understood. Thanks, guys.

Our next question comes from Casey Haire, Jefferies.

Thanks. Good afternoon, guys. I had a question about the expenses, specifically the salary related to the stock price changes. If we assume -- does that the expense guide in the low teens, does that assume the stock holds stable or is there any variability around any volatility in the stock price?

It would not include anything in that estimate for volatility up or down around the stock price. It does include a view that there will be additional grants that may be subject to that price feature, but nothing about changes in stock price going forward.

Okay, so should we expect that [3.6] to come out of the run rate going forward, or does that hold?

That is an increase over Q2. That will not, at today's stock price, that will have no effect on Q1. In other words, Q1 will be down significantly from Q4.

Okay, great. Thanks for clarifying that. Looking at the efficiency ratio for the full year in the low 50%s, I think you guys had talked about previously that some of the line of businesses build outs, on the new ones, that some of those investments would taper in the back half of the year. Just wondering, could we exit the year below 50% on the efficiency ratio in the back half?

It's too hard to say at this time, Casey. That would probably be dependent on a meaningful change in interest rates.

Okay, great.

We built none of that in, of course.

Okay. Then just last one for me, switching to credit. Another quarter with pretty stable energy prices. I think you guys had said last quarter that you are encouraged by what you see, but remaining cautious. Just wondering, if we do see another -- if we do energy prices stable throughout the year, could there be upside to that provision guide in the form of reserve release?

Probably -- we don't technically release reserves. What happens is if, in your scenario, if it's clear that we do not need that level of reserves, those basically get -- are in a position to be allocated to the rest of the portfolio.

At the pace we grow, Casey, there are always reserves provisioning we are required to do just on the pace of our growth, too. So yes, there is a possibility that, that provision range could be on the low end or even perhaps a little better if we see energy, the energy cycle, play out with stable prices or slightly up prices.

But that presumes that the other disruption, with changes going on with the new administration, do not create a C&I problem we don't anticipate today -- or CRE, which is just wonderful today. We will have to see as time plays out here.

Understood. Thanks.

Our next question comes from Jennifer Demba, SunTrust.

Hi, Keith. What were the energy pay downs in 2016 versus 2015 and what are you expecting this year, assuming prices stay relatively stable?

We are going to see -- it's roughly $200 million-ish this year. The prior year it was closer to $150 million, $140 million, those are estimates, Jennifer, but it certainly accelerated on pay downs. A lot of that has been just been the last couple of quarters with the rebound in prices, sale prices in the Permian Basin.

Clients of ours in the Permian, and that is the largest play that we have E&P clients involved in, is the Permian, we have had clients that had no credit or virtually no credit in their borrowing bases for proving non-producing properties that have sold for very high prices again. That has further accelerated pay downs. The bad news is, those were good loans we did not want to really lose.

The good news is we're finding some of those that are getting purchased on the other side to backfill, but the advances are not as fast on those new commitments to overcome the pay down pace. What we are going to see in 2017, as best as we can estimate, is we are going to have a decline in average loans in energy in the first half of the year and then a pick up that will overcome some of these pay downs we believe that will begin the back half of the year. At the end of the day, roughly a flat outcome to slightly down over the course of the year is what we see today.

Okay, thank you. The second question for Peter on expenses. You've guided to kind of low teens expenses for this year. In terms of the first quarter, I mean, are we looking at a flattish number with the seasonally higher personnel costs, offsetting the stock-based compensation that insulated expenses this quarter?

Q4 was the first full quarter of a number of things, either ramping up in the things that Keith mentioned in the initiatives. Some of them may have started in the third quarter or even in the second quarter, but there was a meaningful ramp in the fourth that we discussed in the third-quarter call.

We should see a net reduction in the incentive and 123R expenses in Q1, but we will have, as you know, every year that uptick that comes from FICA. I think staffing costs will be -- total staffing costs are likely to be down a little bit from Q4.

Okay. Thank you very much. Appreciate it.

Our next question comes from Brett Rabatin, Piper Jaffray.

Good afternoon, everyone. Wanted to ask, just thinking about the expense guidance, you mentioned, Keith, that you're not sure yet about the regulatory environment. Does the guidance for 2017 have any build in it for additional regulation costs, or how should we think about what you are thinking about that from that perspective?

We've talked about this for the last two or three years, Brett, and all I'm saying is there a lot of talk about deregulation, of course. It's going to take some time to see how that plays out and what it even means. Will there be any legislative change?

Will there be any regulatory modification? Will there be a change of tone in how the regs and laws are enforced? Until we actually see that happen, what I am saying is we expect another higher expense growth rate as we've had for the last three years in regulatory because it requires it to meet this mid-sized bank hurdle that we must meet, particularly the way we grow. That has been the case since we crossed $10 billion and I just am not willing to say for sure that, that growth and expense in regulatory is going to be less the net revenue growth until I see how things play out later in the year.

Okay, fair enough. The other question I had was just around thinking about different loan categories. You guys have been conservative on categories like multifamily. I was just curious, given more optimism generally speaking, do any of the categories that you guys were little bit worried about, has a changed? Do you get more aggressive or potentially look at adding some loan segments that you previously were more concerned about?

I think we were conservative and things look somewhat better. We thought we might, in fact, see a rescission midyear this year, six months ago. Post-election, we are beginning to hopefully not just buy all the euphoria, but we are beginning to -- talking with our clients and looking at the new possibilities, we are beginning to think, yes, we may have legs for another year and a half, two years on this recovery.

In that sense yes, we are some more positive. We are still being very thoughtful about what we do category by category, multifamily, office, et cetera and also on our builder finance group, but it is holding up exceedingly well.

We think we have the best [vantage] we have ever experience in our 35 years-plus, John Hudgens, Vince Ackerson and myself, in lending. We will have to see what opportunities continue to present themselves, but we are open for business.

Okay. Appreciate all the color.

Our next question comes from Scott Valentin, Compass Point Research and Trading.

Good evening. Thanks for taking my question. On the MCA business, I know at some point you guys talked about breaking it out. Is there any timeline on that when you might be able to see more color around the revenues and expense around that business?

When it gets to be big enough to breakout of the other income line, that's when you'll see it and we will provide color around it. I said today this is the first time we have seen meaningful fees or service -- mortgage servicing fees -- or gain on sale for mortgage for servicing fees. We have not yet sold any mortgage servicing lines.

It's still a 15-month-old business for us, Scott, so it is just growing up, it is growing the right way and we are encouraged with its profit pickup and volume pickup, but we will look at that as each quarter progresses.

The market has been so difficult to understand from early days when it was zero, or even negative on gain on sale, to finally having a positive.

Okay.

They have done a great job. Our team has done a marvelous job.

Appreciate that. Peter, following up on comment on the MSR -- I assume your goal [is about to build] a big MSR portfolio would be selling occasionally?

Yes, we will build into economic units and sell when the markets right.

Okay. It is up to, what, $20.5 million, I guess, is where the servicing rights are marked. How big do you think it has to get before it becomes economical to monetize it?

It's on market conditions and structure of sales.

Okay. One final question. New [due] loan originations relative to the portfolio, I assume they are accretive now as they come into the portfolio on average? I know that varies by loan type. Just wondering kind of in aggregate are loan yield, new loan yields coming in at accretive levels to the existing portfolio?

Coming in at accretive to the portfolio or flat, but not to the NIM, not to the liquidity-adjusted NIM.

Okay, and that's because of the funding side?

No, it's just because when you're talking about loan growth, you are not going to get prime plus significant factor on the loan growth. I mean, today the yield on our traditional held-for-investment portfolio is 4.39%. You're not getting 4.39% incrementally on the majority of what you are booking.

Okay, that helps. I appreciate it. Thank you very much.

Our next question comes from John Moran, Macquarie.

Hi, you guys, thanks. Peter just wanted to circle back on the broker loan fees and other, which is where the MCA stuff is showing up, right? Did I hear you correctly that as the participations in the traditional warehouse are pulled in, the expectation is that the ramp in MCA is overall going to keep that line item flatter than might otherwise be expected? Then the balances, the other income that popped in this fourth quarter, that's primarily the MCA contribution, correct?

In the other income category, the growth is primarily in MCA. The brokered loan fees have a small component of MCA. Most of that are the warehouse fees and those are down linked quarter because of reduced activity in the warehouse.

When we say MCA growth will offset some of the softness in mortgage warehouse activities, seasonally and rate driven, that's just a function of where we are in the ramp up in MCA. All we can say today with certainty is the reduction in the participation program will mitigate some of the reduction that we see in the seasonal characteristics.

Okay, understood. That's helpful. The other one I had --

(Technical difficulty) has worked just the way you would hope it would. It mitigates the exposure, capital and otherwise, balance sheet composition, as volumes rise and it permits a buffer as volumes come down. The most critical thing, though, is we've got to be in the top tier of the service providers to garner more than our share of total volume as rates rise.

John, this first quarter of 2017, I just want to point you to the latest MBA forecast. They are looking for about a 25% decline in volumes in 2017. The first quarter, I think we will have an outsized decline relative to the last two years in the first quarter, simply because refis were such a big mix in Q1 of 2015 and Q1 of 2016 and refis are going to be much more diminished this year with the rate bumps that we have seen in the mortgage product.

It will be seasonal. This will look like a more typical season first quarter than the last two years in the first quarter. That's one reason we're taking back some of our participation loans, as Peter said, to help mitigate that more accentuated seasonality we expect.

Understood. I'm sorry if I missed it in the prepared remarks or if it came up already, but the purchase versus refi mix in the business for you guys, what was that running at?

Well, we always run a lower mix of refi relative to the industry, but the industry overall and therefore our clients to a degree has had an outsized mix of refi. Last year it was about 50% of all the volume. Out of $1.9 trillion of volume, roughly half of that was refi.

That's going to come down markedly in the first quarter with the rate moves that we thought over the course of fourth quarter and you just need to be aware of that. The MBA is giving some of that information. I just wanted to point you there, too.

Okay, perfect. Thanks. I've got for Peter, probably, a philosophical question. I remember, this might've been years ago now, you said, look -- and I think years ago it was, we hadn't bought a -- you guys hadn't bought a security in something like five, six, seven years, so that's even longer now. With the change in rates and the building liquidity, is there any kind of philosophical change to your stance there? Would you guys kind of consider building some form of securities book at some point?

It's hard today in the face of what people think are rising rates still to make that step. We will be watching it. We feel really fortunate to have missed the OCI adjustments that the industry is experiencing right now.

Perfect. Thank you.

(Operator instructions)

Your next question comes from Gary Tenner, DA Davidson. Gary, your line is now open.

We have no other questions at this time. This concludes our question-and-answer session. I would like to turn the conference back over to Keith Cargill, President and CEO, for any closing remarks.

We appreciate you joining us for our fourth-quarter call and look forward to updating you as 2017 progresses. We are encouraged and optimistic this could be a very good year for Texas Capital Bank. Thank you again.

This concludes our call today. Should you have any follow-up questions, please call Heather Worley at 214- 932-6646 or email at heather.worley@texascapitalbank.com.