Texas Capital Bancshares Inc (TCBIO) 2013 Q4 法說會逐字稿

Good day, and welcome to the Texas Capital Bancshares Inc. fourth-quarter 2013 earnings call and webcast. All participants will be in listen-only mode.

(Operator Instructions)

After today's presentation, there will be an opportunity to ask questions.

(Operator Instructions)

Please note this is being recorded. I would now like to turn the call over to Ms. Myrna Vance. Please go ahead.

Thank you very much, Amy, and thank all of you for joining us today for our fourth-quarter and year-end earnings conference call. If you have any follow-up questions, Myrna Vance, call me at 214-932-6646. Before we get into this discussion, let me read the following statement.

Certain matters discussed on this call may contain forward-looking statements, which are subject to risks and uncertainties and are based on Texas Capital's current estimates or expectations of future events or future results. Texas Capital is under no obligation, and expressly disclaims such obligation, to update, alter, or revise its forward-looking statements whether as a result of new information, future events, or otherwise. A number of factors, many of which are beyond Texas Capital's control, could cause actual results to differ materially from future results expressed or implied by such forward-looking statements.

These risks and uncertainties include the risk of adverse impacts from general economic conditions, competition, interest rate sensitivity, and exposure to regulatory and legislative changes. These and other factors that could cause results to differ materially from those described in the forward-looking statements can be found in the prospective supplement, the annual report on Form 10-K, and other filings made by Texas Capital with the Securities and Exchange Commission. Now, lets begin our discussion.

With me on the call today are Keith Cargill, our CEO; and Peter Bartholow, who is both CFO and COO. After a few prepared remarks, our operator, Amy, will facilitate a Q&A session. At this time, let me turn the call over to Keith.

Thank you, Myrna. Hello, everyone, and welcome to our fourth-quarter 2013 earnings call. After my opening comments, I'll turn the call over to Peter Bartholow, our Chief Financial Officer and Chief Operating Officer, then I will close with comments before we open up the call for Q&A.

The outstanding loan and deposit growth continues at Texas Capital as you can see with our fourth-quarter results. Linked-quarter growth on average in traditional LHI was 5% with a year-over-year growth of 22%. The linked-quarter decline in our mortgage finance portfolio was 5% on average. Mortgage finance ended the year with a surge of funding, thereby showing a period-end, linked-quarter increase of $500 million. While period-end fundings in mortgage finance are not as meaningful as period average fundings, we were pleased with the year-end surge and understand that most competitors experienced weak funding at year-end.

I'd like to make one additional comment on mortgage finance. We indicated in early 2013 that we believed our mortgage finance business was sufficiently strong to overcome the expected headwinds of a significant decline projected by the mortgage industry for 2013. In fact, we delivered on our forecast for 2013 and showed slightly better mortgage finance loans outstanding in 2013 as compared to 2012. 2014 will, again, be a challenging year for mortgage volumes and outstandings. We expect a decline in average loans outstanding in mortgage finance, but again believe, we will outperform peers as we did in 2013.

Shifting to our traditional LHI category, in 2013 we experienced strong growth continuing in the fourth quarter following two record growth quarters in the second and third. With this continuing LHI growth, we plan to raise capital and ensure we are well positioned to exploit market opportunities in 2014. Peter will discuss our capital plans further.

Credit quality remains strong. We experienced continued favorable trends in NPAs and with low charge-offs for 2013. All indications are that those trends look sound. Non-interest expense for the fourth quarter and the year 2013 reflects the strong and continuing build-out underway at Texas Capital. 2013 has been a record-setting year of RM hiring and the accompanying talent needed to deliver the high quality service and responsiveness we are known for. As we enter 2014, our talent pipeline remains robust. Peter?

Thank you, Keith. As Keith mentioned, 2013 was another year of exceptional growth and very strong core profitability. We had 22% growth in traditional LHI balances. We ended up with a 2% growth in mortgage finance, exceeding clearly the industry trends in this highly profitable business and with a flat contribution in earnings from 2012. We saw DDA balances up 50%, total deposits up 30%. Total deposit costs at just over 16 -- just 16 basis points in the fourth quarter. We had net revenue growth of 10%. We've now achieved a 10% CAGR in net revenue growth of 22%.

We saw net income slightly ahead of 2012 as reported and up $10 million as adjusted for items that we will discuss. We had a high ROA and ROE throughout the year. We saw EPS down by 9% in Q4 compared to Q3. As adjusted, up slightly to 76% -- $0.76 from $0.74. We saw ROA of 1.1% as reported and 1.23% as adjusted. Benefited especially from a stable NIM from Q3 2013, even with the strong growth in traditional LHI and a yield reduction in mortgage finance loans. The yield is down just 6% from the fourth quarter of 2012, and that's after $1.5 billion in average balance growth. The yield on mortgage finance loans was down by 20 basis points, linked quarter, driven by relationship pricing to maintain the high balances.

We have a loan classification change beginning in this quarter with -- representing correction of an immaterial error where LHS will now be presented as LHI mortgage finance. You may hear us occasionally forget to say LHI traditional or LHS, but we now will classify these as loans-held-for-investment, mortgage finance. There is no change obviously in the character of the asset, quality, balance sheet, or operating results. This is a technical accounting change that now corresponds to regulatory accounting that we showed in Q3 2013. I will say it's simpler not to have an inconsistency between GAAP and regulatory accounting principles.

Beginning on slide 5, we see the loan growth. Again this quarter, broad-based growth throughout the quarter and the year in traditional held-for-investment lines. In the fourth quarter, we grew $435 million, another 5% linked-quarter growth rate in end of period and grew 20% -- 22% -- 25% and $1.7 billion compared to end of period 2012 and 22% year-over-year average. As Keith mentioned, mortgage finance was -- ended up as projected to be flat or slightly up for the year. We have a stronger position in a market that provided superior results. In terms of expense management -- warrants some discussion.

We saw a change from Q3 driven by our growth, the exceptional performance of the Company, the improvement in stock price appreciation, and highly successful recruiting throughout the year. From Q3, a change in stock price of $16, $13 on average December versus average September, drove a $3.6 million increase in long-term incentive costs. The cost of these programs is variable to the recipients based on stock price so couldn't be -- it really couldn't be more aligned with shareholder interests. The increase from the end of Q3 represented a $650 million increase in market cap that was associated with a $2.4 million after-tax cost of these plans, or $0.06 per share.

As is customary, in Q4 we can have adjustment for the performance of important lines of business. Because of the exceptional performance of certain lines of business that contributed more than $10 million above plan and year-over-year growth of more than 20%, we saw an increase of $1.6 million, or $0.03 a share. We saw an increase in the build-out expense in the fourth quarter, representing the success of recruiting throughout the year and the ability or the need to build strategic capabilities to take advantage of the growth opportunities we see. For all of 2013, a comment that the unusual items that had been discussed this quarter and in prior quarters represented a total of $20 million pretax.

On slide 6, we talk about funding, where we've seen a dramatic improvement in the overall profile with especially strong growth in DDA. We saw growth in average balance from Q4 of 2012 of $933 million, just under $1 billion year-over-year, and more importantly representing 64% of the growth in the traditional held-for-investment lines over that same period. Coupled with the strong growth in these loans, we've obviously seen a significant increase in our asset sensitivity by a significant factor. As Keith mentioned, credit costs remained very low. We did see this -- in Q4, a $466,000 cost associated with the big, or 60%, reduction in ORE balances. Nonperforming asset levels are now at pre-recession lows, and net charge-off for the year -- another year at very low levels at 7 basis points.

Slides 7 and 8 simply show the quarterly and annual progression of earnings in performance metrics with high ROA and ROE for all of 2013 and a good progression following the low point in 2009. Efficiency ratio is elevated in Q4 as a result of the items that I mentioned, but as adjusted, it's back in the mid 50%. As we've discussed earlier, very high levels of operating performance and leverage come when the held-for-investment balances are high relative to the total. With mortgage finance now representing a smaller proportion of the total, we're seeing a slight increase in that level but believe that it's sustainable in the low to mid 50% range.

As mentioned, net interest margin has remained high due to the very important factors that we've discussed -- the earning asset composition with a low proportion of mortgage finance loans, the stability of yields in traditional LHI categories, and the growth in DDA in low funding costs, which will be obviously much more valuable when short-term rates finally increase.

Slides 11 through 13 simply describe the growth in average and year-over-year -- quarterly and year-over-year growth in held-for-investment mortgage finance and other categories. We mentioned mortgage finance volumes held up extremely well in the face of a very sharp drop in refinancing activity. This resulted from our stronger market position, the growth in the number of relationships, and the success in reducing dependency on refinancing volume to less than 30%. Obviously, the DDA growth played a major factor in our success as well.

In slides 14 through 16, it's obvious that the growth as depicted in the charts has been exceptional. I mentioned net revenue growth, 10-year, 22% CAGR happens to be the same as the CAGR since 2008. Held-for-investment excluding mortgage finance, DDA, and total deposits also very strong. All this, we believe, demonstrates the clear advantage of our business model, coupled of course with having a strong presence in the best markets in Texas.

A few comments about our outlook for 2014. These obviously have to be very general, and I will say there's not much different from what we've communicated in the past. We're not out there with anything of significance related to the offering that's to be launched. Loan and deposit growth, we have a carryover from 2013 in our traditional lines producing a year-end balance almost 14% above the full-year 2013 average. We've had emphasis in strengthening of business. We currently conduct -- augmented by new RMs in Houston, San Antonio in treasury, private client, and wealth management. As with Q4 2013, we expect mortgage finance to benefit from continued consolidation in the industry, in addition to new customers, an increased value of current relationships, resulting in volumes down by a fraction for the year from industry and peer levels.

Deposit growth opportunity appears exceptional once again and offers important -- an important opportunity building on the continuing success of treasury management and the penetration of cash-rich businesses that began in earnest five or six years ago. Planning for the future with an increase in value of asset-sensitive position, we believe the opportunity to expand relationships and deposits will be enormously beneficial when rates rise, but the buildup in liquidity that will result will have an impact on NIM in the short-term. In terms of margin and efficiency, we always expect some pressure on NIM from growth in traditional product lines. We will benefit from a shift in composition with some softness in mortgage finance volumes declining as a percent of total. Obviously, mortgage finance is also producing lower margins than the rest of the portfolio.

The expected growth in deposits will exceed total loan growth, and we will maintain a very short maturity profile, essentially placing excess liquidity in balances at the federal reserve. We expect to see an increase in the degree of asset sensitivity in 2014 following trends that began actually several years ago. They will provide significant earnings leverage when interest rates finally increase. We expect to see core operating [results] with the pace of growth in net revenue slightly exceeding that for net interest -- non-interest expense, producing, again, a reduction in the efficiency ratio.

In terms of expense management, our build-out will continue. Our business model drives that and produces the results that we've described. We do not expect to see the unusual items evident in 2013 such as the incentive expense that resulted in the stock price -- from the stock price move. We know that regulatory and compliance costs will increase, but they do not -- we do not expect they will have a material impact on our operating results.

The capital initiative that we've discussed, or mentioned, comes from our business model. The industry is experiencing very little in the way of organic growth and is not really expected to change dramatically until the economy strengthens on a national basis. Our bank is producing strong growth and profitability, well in excess of industry and peer performance. Moving market share with the acquisition of talent, not the acquisition of banks or expansion of branches, is our way to provide capital-efficient growth with favorable returns while maintaining a superior credit profile.

Capital plans. We mentioned our plan to raise 1.25 million shares -- sell 1.25 million shares. As you will recall, we last raised common equity in July 2012, and performance since that date obviously justified that initiative. We've seen the extremely favorable leverage of $88 million in capital raised at that time. Since then, in just 18 months, we've experienced growth of $2.3 billion in the traditional held-for-investment categories and an average yield -- at an average yield during that period in excess of 4.75%. The incremental returns from this investment are obviously exceptional with such strong credit characteristics. The increase in common equity was augmented later by 30-year fixed rate debt to reduce our cost of capital.

We've often stated that we would evaluate capital initiatives in the context of our growth opportunity. Traditional held-for-investment categories are in excess of an already high ROE. Capital levels have been targeted to produce very favorable returns, making sure, in addition that we have the capital when the opportunity for growth exists because we cannot be constrained at a time when capital is either not available or might become excessively expensive. We did that, as you'll recall, in September of 2008 and then again in May of 2009.

Our initiative is obviously driven by a view of growth opportunity, especially when the economy improves further, and we can benefit from margin expansion due to highly sensitive -- asset-sensitive balance sheet. We view common equity as the foundation of our growth with a potential addition of Tier 2 capital when conditions are favorable. The combination of those is the design -- is designed to produce a properly balanced capital structure and a lower total cost of capital for the benefit of our shareholders. Keith?

Thank you, Peter. I'll touch on a couple of slides and then have some closing remarks. And then, I'll turn it over to Myrna for Q&A. On slide 16, our five-year EPS CAGR of 27% is one that we're quite pleased to be able to demonstrate. On the next slide, 17, deposit and loan growth CAGR is at 42% in DDA. Total deposit CAGR of 23% and loan held-for-investment CAGR of 16%. Again, we are very solidly on track in those categories.

And then, finally, on page 18 while Peter touched on our credit quality, it's evident from more detail on this page that we continue to experience very high credit quality. We have a model that we believe generates not only high growth, but most importantly, high quality growth, and then our loan collateral by type again indicates we're having only very slight shifts in the mix of business. Still solidly C&I and other important lines that we've developed over the years.

As you see from our release, the business model at Texas Capital continues to produce exceptional loan or deposit growth. The new Texas Capital story is so very familiar relative to the long-time story of Texas Capital. Our recruiting team develops an increasing pipeline of top-caliber RMs and support talent. We launch our newly hired bankers on the Texas Capital platform, and they win the best of their former clients as new Texas Capital clients. We hire top-caliber support talent to deliver exceptional service and custom-tailored solutions. The loan portfolio continues to reflect our consistent primary focus on high-quality client acquisition and client retention.

The business owners and CEOs who we win as clients are underwritten for their operating know-how as well as their financial performance. These CEOs are strong, experienced operators and are key to the credit quality reflected in our loan portfolio. Also, our owner-operator clients enable us to sustain high-quality loan growth by introducing us to other strong CEOs of privately owned companies they know and respect. It truly is a special partnership we share with our clients as we help one another build our businesses. And so, the story continues.

We are optimistic that 2014 offers great promise for Texas Capital Bank. We continue to build our core earnings power with strong loan and deposit growth and remain asset-sensitive and well positioned for the future. Credit quality is strong. The traditional LHI pipeline and deposit pipeline remain strong. The record RM hiring in 2013 will benefit us for years to come. As we build more liquidity and meet competitive pressures in 2014, we will see pressure on NIM.

Despite the NIM pressure and expected lower average loans in mortgage finance, our expected strong traditional LHI growth and DDA growth will support continued growth in net interest income and still better than peer performance in mortgage finance. We remain committed and focused on building substantial long-term value with our clients and for our investors as we exploit the continuing market opportunity to hire great talent and win premiere clients. And now, I'll turn it over to Myrna Vance for our Q&A. Myrna?

Thank you, Keith. Operator, we are ready for you to poll and start our Q&A.

Thank you.

(Operator Instructions)

Operator, before you go on, I have one other comment I need to make quickly, and that is before we begin our Q&A, let me remind you that due to the current capital raise we will be limited in what we can say on future operating results. Thank you. Sorry.

Our first question comes from John Pancari at Evercore.

Good afternoon. A little bit on the expense increase. Trying to get an idea of what a good go-forward run rate here is on the total expense number? So, of the $7 million increase in comp expense, how much of that would stay in the number going forward? I know you implied that obviously there's the true-up, so I guess $1.5 million of that is the true-up. But then, you've got the long-term incentive comp piece of $3.5 million, and then the build-out which clearly seems sticky of $1.3 million. So, can you help us in thinking about the comp line going forward, as well as total expenses going into the first quarter?

John, as you know -- this is Peter. We always have a very difficult time providing guidance on that line. We're in an awkward position, as Myrna, said right now. The results from the build-out that is consistent and continuing at our Company, it's a little larger -- quite a bit larger in actually in 2013 than it has been because the opportunity presented.

Of the numbers you mentioned, obviously we recruited well in the Q3 2013, so Q4 is the first full month -- first full quarter of that growth. We've also grown well in relationship managers and other staff in 2000 -- excuse me, in Q4 where we see obviously a portion of that. We are building capabilities in strategic areas for us, and that results in support and infrastructure costs as well.

So, of the items that you mentioned, the $0.02 clearly is an ongoing expense, and will have a spillover effect into Q1 along with growth that we expect to see throughout 2014. The other items -- we can't predict how much the incentive model would change in connection with the $1.6 million Q4 adjustment, and obviously, if the shareholders benefit from a $13 to -- or $16 cost -- or, excuse me, share price increase in a single quarter, we'll have a cost increase in the long-term incentives. But, we actually see that number would even come down going forward. Concentration of grants that existed from times when the stock prices were much lower have now all vested.

Okay. So, fair to assume that the first quarter expense number comes down by more than just the $1.6 million true-up?

It will come down by the $3.6 million impact of the stock price increase.

Unless we were to see -- well, even then, we've had vesting occur, John, on many of those incentive cash-based options. And so, as Peter said, even if we saw, which we would love to see, another big run in a given quarter, it wouldn't be of this same magnitude, the impact on the P&L.

I think the other thing that's -- again, I just want to emphasize a bit more. Peter mentioned the strong hiring in the third quarter. We had incredibly strong hiring three successive quarters. We've never put together three quarters with such strong hiring. We had nine net adds in the second quarter, eight net adds in the third, and did it again with nine net adds in the fourth. And, the caliber of people that we were able to attract over this last year substantially raises the bar for our performance potential. And, by that I mean, we were able to attract some just truly outstanding, high-caliber, very well respected leadership -- executive leadership members in our regions.

A great executive to come in as you know, Alan Miller, and run our private banking wealth management, which we are in full swing, really building significantly. And so, as we attracted some of those people in San Antonio, Shaun Kennedy, David Pope and then of course, John Cervati in the second quarter of last year in Houston, our Regional President. We've added some incredibly strong talent that I wish we could expect to replicate, but I think that will be a challenge next year to replicate that much strong talent. However, we have a very robust pipeline of talent going into 2014, and so, we believe it just makes all kinds of sense for us to exploit this growth opportunity, thus the capital raise Peter alluded to.

If I could just ask one more thing on expenses, and I'll hop off. But, the decline in the efficiency ratio that you indicated that you expect to see in 2014 versus 2013, can you help us with what is the number you're looking at -- that you're using for 2013? Is that -- exclude anything, or is that reported?

The as-reported number.

And then, the magnitude of the decline that you expect? I think you said slight.

John, you know, that sounds like a model building question.

Of course, it is. (laughter)

I really can't respond to that, but we just went as far as we can go at this time by saying we expect net revenue growth rate to exceed the growth rate in core operating expenses.

Okay. All right. Thank you.

You're welcome.

The next question comes from Ebrahim Poonawala at Bank of America Merrill Lynch.

Good afternoon. So, I guess, Keith, question going back to in terms of you mentioned about, I believe, second quarter was one of the strongest quarters with regards to hiring, especially in terms of senior personnel. Could you remind us in terms of what the lag is by the time you get folks on board and when this translates to loan growth? Is it about four to six quarters, or is it shorter now?

It truly varies by line of business, and so without giving you specifics per person, by hiring some of the people we were able to attract, those individuals should be able to achieve net profitability, if you will, and recover whatever expense we've invested in the near term as they build new revenue, new client base in a shorter time frame than average just because of the mix of personnel we've been able to attract.

However, the magnitude -- the number of these people that we attracted in a short period of time is a bit of an offset in the near term. And we think it's just going to be a fabulous investment for the Company and are extremely positive about what that will do for us on further enhancing the talent we can acquire going forward. Again, this -- the kind of people we're attracting today, and particularly in 2013 is a great example, are just so well respected in the industry and their markets and in their lines of business. It really changes the dynamic of us being able to attract other really, really talented RMs. So, we see this, again, as a great investment year.

I know that it makes it as Peter said very hard if we're in your shoes trying to model our Company. It's always been that way. We're a bit of a lumpy kind of investment Company. When the opportunity is there, we exploit it, and we see the opportunity still there and we want to continue to exploit it.

Ebrahim, this is Peter. I think I mentioned that since mid-2012 -- that's only 1.5 years ago -- we've grown $2.3 billion in the traditional held-for-investment lines, and very little of that growth has come from the people that we added during 2013. So, you can see the power of the model when things really are functioning well, and it's that confidence that has pushed us in -- not pushed us -- but made us decide to do the capital initiatives, as we've described.

Many of the best clients of these RMs, particularly the larger clients that some of these RMs are going to target, it takes into year two or three for them to see that their person that they have so much confidence in, their banker is really happy, really pleased, and then they're ready to move. So, while they may become profitable more quickly on average, because, again, these are some of our corporate bankers, a little more in the mix than some others, the biggest payback -- or the biggest upside on revenue growth tends to be years two and three on these kind of bankers. And, they don't optimize for five or six years. You still have a nice growth trajectory for years to come.

Got it. Thank you very much. And then, Peter, you mentioned about seeing strong, strategic growth opportunities. Are there any specific markets? Or, in terms of any verticals where you are seeing this growth and where you are adding personnel? Or, is it just broad-based across all businesses?

Broad-based, but I was referring to the opportunities specifically in deposit categories. Treasury management focus in certain verticals that already exist. They're not brand new, but we've seen an opportunity to strengthen those significantly.

Got it. And, if I may -- a last question. In terms of the held-for-sale yield, I understand you're giving up some pricing to maintain relationships and keep balances and outperform the industry. Could we see that yield still go down? Or, is there a relation at some point in mortgage rates if they hold up, we should see the yield stabilizing on the -- not held-for-sale but the mortgage warehouse balances?

We think stabilizing and depending -- obviously, depending on where rates go, if they continue up, we might get some improvement.

Got it. Thank you very much for taking my questions.

You're welcome.

The next question comes from Matthew Clark at Credit Suisse.

Matthew, how are you?

Good evening. Good, thanks. In terms of -- I may have missed this is in your comments. But, can you just give us the mix of purchase refi in the warehouse?

Yes, it's -- refi now is down to -- in the low 20% as a percentage. Relative to the last MBA, Mortgage Bankers Association data that they put out quarterly, it was 61% for the industry. Now, that's come down, but we don't get that quarterly data until later this month.

I think average for Q4 was 27% or 28% for us.

Okay. Okay.

Yes.

Okay. Sounds good, and then, I guess, on the -- I guess you get this question every quarter. Might as well ask it. On the [shared] National credits in terms of the amount of growth there this quarter?

Very modest growth. We were up only from $1.3 billion last quarter-end to just barely over $1.4 billion. All of that growth was agented, but it wasn't a lot of growth.

Okay.

Agented by us.

Agented by us. As we told you about year ago as we brought on our syndications team, our goal was to begin to shift the agented mix, and it continues to shift in the right direction. We're very pleased with their progress.

Matthew, that represents really not much very much growth net over the course of all of 2013.

Right. Okay. And then, can you give us a sense for -- loan yields continue to hold up very, very well, but it sounds like there's still some underlying pressure there? Can you just give us a sense for what you might be booking new credits at on average relative to what we see in the balance sheet?

Yes, the go-forward pressure is both competitive, but also a mix. As we see mortgage finance become a smaller percentage of the total, that helps us slightly. The challenges we're facing is building liquidity, which we think is important over the course of the next year. And also, at the same time, C&I where we really are focusing a lot of our hiring and have for the last 1.5 years.

C&I is the most competitive of any of the rates in our different 18, 19 businesses. And so, we want to drive the C&I growth because we believe it's like the golden annuity-type relationship. You win C&I clients, and they tend to be with you -- you take great care of them for a decade or two decades, and it's not a transaction-driven kind of relationship in any way. So, we're continuing to put strong emphasis on our hiring in that category, and it's very competitive.

Matt, the general pressure that we alluded to is just -- at the incremental growth is not coming in at [473] or whatever it is average for the fourth quarter, so growth will produce some -- have an impact on that number over time. It has held up extremely well. A lot of it has to do with what Keith mentioned -- syndication, we improved by a significant factor the fee component of our margin.

We just want to fully exploit the deposit growth opportunities, Matt, and we've had extraordinary performance, as you know, and continue to see that opportunity and want to exploit it. Thus, the likelihood we'll begin to build some liquidity, and we don't intend to do anything other than keep it very short and not extend to try to reach for any rate, and as a result that will put a little pressure on margin also. But, with our strong growth in LHI that we expect to continue, net interest income growth should be good.

Okay. Great. Thanks.

You're welcome.

Our next question comes from Michael Rose at Raymond James.

Hey, good morning. Or, good afternoon. How are you?

Good, Michael.

It's been a long day. Just moving on to credit if I could. It seems like the loan loss reserve ratio here is getting to pretty low on an absolute basis. Should we think about -- or, how should we think about a floor there? And, I assume that most of the provision going forward is going to be for growth?

You're correct on your last point. Most of the provision will continue to be for growth. We believe that's the right, prudent thing to do, as Peter reminds us periodically, but it's still in agreement with our methodology. We basically put aside four months of our profit day one when we book a good loan. We set it aside and penalize ourselves to set that aside. We think it's the right thing to do.

With our reserve number, we have a methodology that has served us really well. We expect that methodology to continue to produce a reserve that's reflective of the credit quality and the portfolio, and it's just extremely good. We don't see any significant down drifts over the course of the next year in that reserve percentage. But, we -- again, we have a methodology that can be driven by credit quality, and it's just really fine and continuing to improve.

Okay. And then, as a follow-up, Keith, just going back to the pipeline for recruitment? Are you focused in any particular markets? Or, do you have any strategic priorities as it relates to the potential pipeline of hires as you move into 2014? Thanks.

We've continued to emphasize Houston, Michael, and that will be the case yet in 2014 also. We are continuing now to build out private banking, and that will be an added emphasis that began last April, as you may recall, when we hired Alan Miller. And, that will be in all the markets, so it won't be a line of business just in Dallas as it's once been. And also, along with that is our wealth management build-out, which is a fee income source that we really believe over the course of the next three to five years will be a meaningful, growing contributor to that fee line item, which is important for us. And, will further help us keep a higher-than-peer ROE. So, in those areas, we're paying particular emphasis.

But, generally, C&I bankers are high, high quality bankers. We want to hire those bankers. We're in pretty good shape on most of the other specialty groups at this point, but we're always looking for a superstar, whatever line that they might be involved in. And, those kind of people take on average two to five years to recruit, so when they're available, we're ready.

Great. Thanks for taking my questions.

You're welcome.

The next question comes from Brett Rabatin at Sterne Agee.

Hi, good afternoon.

Hello, Brett.

Wanted to go back to some capital ratios. Can you talk a little bit about where you have targeted capital ratios? How much Tier 2 debt -- if I missed it I apologize. But, how much Tier 2 debt you're considering raising? And then, just with the capital raise, obviously your growth is going to be pretty strong for, where you might view a floor on the various ratios?

Brett, we don't -- it's -- we obviously want to maintain well-capitalized status. We've got to have growth -- capital to support the growth we anticipate, but we really manage the capital position to drive down the cost of capital, maintain a low cost of capital to produce the best returns. So, it tends to be between 8% and 9%, tangible common equity and 11%, 12%, 13% depending on what's happening in the warehouse in the total capital ratio. None of those are fixed in our mind as true targets. They are, obviously, indicators we watch, but we're targeting based on the business opportunity.

Okay. And then, how much debt are you considering raising?

We don't know. It's going to be a reflection of markets and timing, and nobody has made that decision.

Okay. And then, the commentary you gave, Peter, around the margin having some potential pressure? Was that a function of the debt issuance? Or, was that a function of the other dynamics on the balance sheet?

The loan growth and the buildup in liquidity. We just see such a strong opportunity in deposits, and as they did in 2013, deposit growth will exceed the growth in the traditional held-for-investment categories. There's only one place to put that in this environment as far as we're concerned. That's probably going to be at the Fed, and then over time, it will get leveraged properly along with the capital we anticipate raising.

And, how much -- just last quick one on this related topic. How much liquidity are you assuming is going to be in the balance sheet in the next few quarters? Are we talking 4% to 5% of RE&I stats? Or, some smaller number?

There's no target like that. Again, the opportunity looks like it will build over the course of the year.

Okay. Great. I appreciate the color.

You're welcome.

The next question comes from Emlen Harmon at Jefferies.

Hey, good evening.

How you doing?

I'm doing well, thanks. Been a while since somebody asked you this one, but how are you thinking about a normalized ROA? I guess both in the current rate environment and in -- and a rate environment where we have a higher short end of the yield curve?

At higher short end of the yield curve, you get a very powerful leveraged impact on our ROA and our net income. You can look into the 10-Q results -- or 10-Q disclosures about that. Over the last two years, we've actually become more asset sensitive in that connection with basically flat interest rates with some buildup in the liquidity and the held-for-investment yields may be down a little bit over the -- because of the competitive pressures Keith mentioned.

And strong growth.

And strong growth. Maybe you get a little softening from what we would regard as the operating level of about [120].

Got you. Okay. Thanks. And then, just maybe this is kind of a mechanical question, but understanding the incentive component, the stock incentive component? It's fair to say kind of the $4.50 or $5 move in the stock generates around $1 million in compensation expense?

Did in the fourth quarter. That number would not be the same currently. Keith mentioned a substantial number of those grants going back to 2011.

So, it's the vintage at which they were issued, too.

It's the magnitude of the vintage coupled also with the performance since issue -- since grant. It's unfortunately not as easy as so many dollars per dollar of stock price.

Right.

In the past, you get a little movement quarterly. I think the biggest change that occurred because of stock price in the previous quarter was $300,000.

Right. And, obviously, just a big move in the stock this quarter. So, okay. And, I believe -- Myrna, is this your last earnings call?

Yes, Emlen, it is.

Well, congratulations and best of luck to you.

Thank you very much.

You're welcome. That was it for me, thanks.

Our next question comes from Brady Gailey at KBW.

Good afternoon. So, with the liquidity build, it sound like that's going in cash at the Fed? What would change that? You all haven't bought a bond in years, but why would you not put some of that liquidity in bonds where you could earn 200 basis points more?

We'd have to get back in the textbooks and read about bond buying to begin with, Brady. Because it has been what -- 2004, Peter, since we purchased a bond?

Q4 of 2004.

It would take a meaningful increase in rates for us to begin to believe that's an appropriate investment, Brady. We don't see that in the foreseeable future.

The last time we bought, the yield was about $4.40 on very high grade, very short-duration mortgage-backed securities, so you can use that as the benchmark.

Okay. Okay. And then, on the warehouse. I'm guessing the participation program, that facility that you all have where you farm out balances to other banks, has that pretty much all been called back as of the end of the quarter?

All but a very nominal amount where we -- those that were early participants, we wanted to leave them something and have them available if we see that shift in 2015, most likely. And, that's when we see as Peter alluded today earlier, the growth recurring in our mortgage finance business. It could come late 2014. Some are predicting as early as mid-year 2014. We're more conservative and see it more as a 2015.

Okay. And then, the guidance on the warehouse being down kind of year-over-year, 2014 versus 2013. If you look at the fourth quarter average, that's about -- I mean, you're already around 4% to 5% below the full year average? And, do you think that 4% to 5% range is appropriate? Or, do you think it will be a steeper decline than that?

We really just can't give you the details around that because of what we mentioned earlier. We have high confidence we will outperform peer as we have in 2013 and preceding years, and I wish I could tell you more but I'm just not in a position to be able to do that, Brady.

Yes, that's fine. And, I echo the comments with Myrna. It was great working with you and good luck in retirement.

Thank you very much.

Our next question comes from Jennifer Demba at SunTrust.

Thank you very much. Good afternoon. I think most of the questions have been asked. But, a question, over the last six months or so, how much of your LHI growth has come from the Houston market versus others? As -- ? (multiple speakers)

A very strong contributor. Houston continues to be an increasing contributor to our growth, and that was the case again in the fourth quarter, as it was in the third, second, and first. So, we are seeing, Jennifer, definitely results improve as we invest into that market. We also believe that we're beginning to really get on the radar more in Houston. It's a massive market, and we have just barely tapped that market. So, it will continue to be a higher growth engine for our Company as a percentage growth factor than most of our businesses, and it has, of course, a very rich C&I base, too.

Okay. Great. We'll miss you, Myrna. Good luck.

Thanks, Jennifer.

Our next question comes from Scott Valentin at FBR Capital Markets.

Good evening, and thanks for taking my questions. With regard to loan production -- I apologize if I missed this. Any particular industry or sector that provided most of the growth? Was it energy or commercial real estate?

Very broad growth. That's one encouraging thing we've seen in the last couple of quarters, and we saw in the fourth quarter is that our growth is more broad than we experienced back in 2012. We hope that and believe that is an indicator of our business owners more across the C&I industries, too, being somewhat more optimistic, beginning to grow. And also, more of those types of clients being more confident to actually make a switch and come to Texas Capital. So, that's encouraging for us that we have that broad growth but no particular standout sector.

Of course, builder finance continues to be a very big success for us, and health care is a bit faster growing than other sectors, generally. Energy was a good contributor, but I could go on and on, and Houston, and so on. Each of our regions -- we're very balanced this last quarter on their contribution to LHI growth, which is also quite encouraging for us.

Okay. And then, with regard to the mortgage finance business, you outperformed our expectations this quarter. Balances were stronger than we expected. You mentioned market share -- taking market share. Was that deeper penetration within existing relationships as lenders consolidate around their preferred lenders? Or, is it more you're just picking up a higher number -- a greater number of customers, new relationships.

Really a great point, Scott. It is both. A year ago, it was primarily market share takeaway. There was not as much credit as the companies wanted, and so you could enter a new company, win a new client, and be their fifth bank, and then work your way, as we've tried to do, into our first preferred position among those banks that serve them.

But, in this market, there is some of that market takeaway, but generally you have to unseat a bank. Or, in the case of existing clients, consolidate some of their bank loans because there is so much credit available relative to the volume that they're seeing. We're seeing both. The consolidation of existing clients and also market takeaway. It's not as dominant in market takeaway as it was a year ago.

Okay. One final question, just on a legal and professional expense? That was up a little bit more than we thought linked quarter? Is that just seasonal? With loan closing, et cetera, strong loan growth?

It can vary fairly widely, Scott. A lot of it has to do with the build-out that we described in the salary and benefit line.

Okay. Thanks very much, and Myrna, thank you for all your help over the years.

Thank you, Scott.

This concludes our question-and-answer session. I would like to turn the conference back over to Myrna Vance for closing remarks.

Before we turn it over to Myrna -- this is Keith. I'd like to just say a couple of quick things, and then hand it off to Myrna while she regains her composure because all of you have been so kind. And, you know Myrna is one of the kindest people around, and it has meant a lot to her what you're shared and said to her. Myrna has been one of our truly outstanding contributors at Texas Capital for ten years, almost eleven now.

More than that, Myrna has been a very special confidante and advisor to our executive team and the investment community. Each of you and many others. She has some news to share with you, and you've already had a preview. But, we wanted Myrna to have an opportunity to tell you this on her own. So, Myrna, you can close us out.

Thanks, Keith, and if my voice breaks up, you'll have to excuse me. Yes, I am retiring, and I've had the greatest job imaginable. I've gotten to work with great people like all of you, as well as the people at the Bank. It has been a great time, and I'll miss it.

You do have a really good person replacing me, Heather Worley, who will take over when I leave the end of this month, and feel free to call her. I know she'll be a great help to you. She'll be at my old number. It has been great. I've worked for a great bank, and I'll follow it so you all be kind. And, with that, I think we'll end the call, and best of luck to all of you, as well. Thank you very much.

Thank you.

The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.