Forward-Looking Statements
This Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. When used in this Form 10-Q, words such as "anticipate," "believe," "estimate," "expect," "intend," "indicate," "predict," "project," and similar expressions, as they relate to us or our management, identify forward-looking statements. These forward-looking statements are based on information currently available to our management. Actual results could differ materially from those contemplated by the forward-looking statements as a result of certain factors, including, but not limited, to those discussed in Part I, Item 1A of the Company's Annual Report on Form 10-K for the year endedDecember 31, 2020 , under the heading "Risk Factors," and the following: ? general economic conditions, including our local, state and national real estate markets and employment trends; ? effect of the coronavirus ("COVID") on our Company, the communities where we have our branches, the state ofTexas andthe United States , related to the economy and overall financial stability; ? government and regulatory responses to the COVID pandemic; ? effect of severe weather conditions, including hurricanes, tornadoes, flooding and droughts; ? volatility and disruption in national and international financial and commodity markets; ? government intervention in theU.S. financial system including the effects of recent legislative, tax, accounting and regulatory actions and reforms, including the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act"), the Dodd-Frank Wall Street Reform and Consumer Protection Act (the "Dodd-Frank Act"), the Jumpstart Our Business Startups Act, theConsumer Financial Protection Bureau ("CFPB"), the capital ratios of Basel III as adopted by the federal banking authorities and the Tax Cuts and Jobs Act; ? political and racial instability; ? the ability of the Federal government to address the national economy; ? changes in our competitive environment from other financial institutions and financial service providers; ? the effects of and changes in trade, monetary and fiscal policies and laws, including interest rate policies of theBoard of Governors of theFederal Reserve System (the "Federal Reserve Board"); ? the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies, as well as thePublic Company Accounting Oversight Board ("PCAOB"), theFinancial Accounting Standards Board ("FASB") and other accounting standard setters; ? the effect of changes in laws and regulations (including laws and regulations concerning taxes, banking, securities and insurance) with which we and our subsidiaries must comply; ? changes in the demand for loans, including loans originated for sale in the secondary market; ? fluctuations in the value of collateral securing our loan portfolio and in the level of the allowance for credit losses; ? the accuracy of our estimates of future credit losses; ? the accuracy of our estimates and assumptions regarding the performance of our securities portfolio; ? soundness of other financial institutions with which we have transactions; ? inflation, interest rate, market and monetary fluctuations; ? changes in consumer spending, borrowing and savings habits; ? changes in commodity prices (e.g., oil and gas, cattle, and wind energy); ? our ability to attract deposits and increase market share; ? changes in our liquidity position; ? changes in the reliability of our vendors, internal control system or information systems; ? cyber attacks on our technology information systems, including fraud from our customers and external third-party vendors; ? our ability to attract and retain qualified employees; ? acquisitions and integration of acquired businesses; ? the possible impairment of goodwill and other intangibles associated with our acquisitions; ? consequences of continued bank mergers and acquisitions in our market area, resulting in fewer but much larger and stronger competitors; ? expansion of operations, including branch openings, new product offerings and expansion into new markets; ? changes in our compensation and benefit plans; 39 -------------------------------------------------------------------------------- ? acts of God or of war or terrorism; ? potential risk of environmental liability associated with lending activities; and ? our success at managing the risk involved in the foregoing items. ? Such forward-looking statements reflect the current views of our management with respect to future events and are subject to these and other risks, uncertainties and assumptions relating to our operations, results of operations, growth strategies and liquidity. All subsequent written and oral forward-looking statements attributable to us or persons acting on our behalf are expressly qualified in their entirety by this paragraph. We undertake no obligation to publicly update or otherwise revise any forward-looking statements, whether as a result of new information, future events or otherwise (except as required by law). Introduction As a financial holding company, we generate most of our revenue from interest on loans and investments, trust fees, gain on sale of mortgage loans and service charges. Our primary source of funding for our loans and investments are deposits held by our subsidiary,First Financial Bank, N.A . Our largest expense is salaries and related employee benefits. We measure our performance by calculating our return on average assets, return on average equity, regulatory capital ratios, net interest margin and efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a tax equivalent basis and noninterest income. The following discussion and analysis of operations and financial condition should be read in conjunction with the financial statements and accompanying footnotes included in Item 1 of this Form 10-Q as well as those included in the Company's 2020 Annual Report on Form 10-K.
Recent Coronavirus Developments
DuringMarch 2020 , the outbreak of the novel Coronavirus Disease 2019 was recognized as a pandemic by theWorld Health Organization and a national emergency by the President ofthe United States . The spread of COVID has created a global public health crisis that has resulted in unprecedented uncertainty, volatility and disruption in financial markets and in governmental, commercial and consumer activity inthe United States and globally, including the markets that we serve across theState of Texas . National, state and local governmental responses to the pandemic have included orders to close or limit businesses activity not deemed essential and directing individuals to limit their movements and travel, observe social distancing, and shelter in place. These actions, together with responses to the pandemic by businesses and individuals, have resulted in decreases in commercial and consumer activity. These responses and restrictions have led to a loss of revenues for certain industries and a sudden increase in unemployment, volatility in oil and gas prices and in business valuations, market downturns and volatility, changes in consumer behaviors, related emergency response legislation and an expectation thatFederal Reserve policy will maintain a low interest rate environment for the foreseeable future.
The following is an update on our response through the date of filing:
? The Company assisted borrowers in the second round of the Paycheck Protection Program ("PPP") under theDecember 2020 Bipartisan-Bicameral Omnibus COVID Relief Deal through the expiration of the program onMay 31, 2021 . See Participation in the PPP Loan Program in the following section. We did not participate in the PPP Facility program. ? We are continuing to encourage our employees to take the COVID vaccinations when available and allowing employees and customers to wear a mask on an optional basis based on their preferences. ? COVID continues to be a source of disruption in theU.S. supply chain impacting the overall economic recovery currently. Continued delays in the supply chain may cause delays in the future economic recovery inthe United States . Recent actions taken by theU.S. government to further mitigate the economic effects of COVID may also have an impact on our financial position and results of operations. Notwithstanding the foregoing actions, the COVID outbreak could still, among other things, greatly affect our routine and essential operations due to staff absenteeism, particularly among key personnel, further limit access to or result in further closures of our branch facilities and other physical offices, exacerbate operational, technical or security-related risks arising from a remote workforce, and result in adverse government or regulatory agency orders. The business and operations of our third-party service providers, many of whom perform critical services for our business, could also be significantly impacted, which in turn could impact us. As a result, we are currently unable to fully assess or predict the extent of the effects of COVID on our operations as the ultimate impact will depend on factors that are currently unknown and/or beyond our control. Critical Accounting Policies We prepare consolidated financial statements based on generally accepted accounting principles ("GAAP") and customary practices in the banking industry. These policies, in certain areas, require us to make significant estimates and assumptions. We deem a policy critical if (1) the accounting estimate required us to make assumptions about matters that are highly uncertain at the time we make the accounting estimate; and (2) different estimates that reasonably could have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on the financial statements. We deem our most critical accounting policies to be (1) our allowance for credit losses and our provision for credit losses and (2) our valuation of financial instruments. We have other significant accounting policies and continue to evaluate the materiality of their impact on our consolidated 40 -------------------------------------------------------------------------------- financial statements, but we believe these other policies either do not generally require us to make estimates and judgments that are difficult or subjective, or it is less likely they would have a material impact on our reported results for a given period. A discussion of (1) our allowance for credit losses and our provision for credit losses and (2) our valuation of financial instruments is included in Note 1 to our Consolidated Financial Statements beginning on page 10. Additional detailed information is included in Notes 4 and 5 to our notes to the consolidated financial statements (unaudited) and should be read in conjunction with this analysis.
Stock Repurchase
OnMarch 12, 2020 , the Company's Board of Directors authorized the repurchase of up to 4.00 million common shares throughSeptember 30, 2021 . OnJuly 27, 2021 , the Company's Board of Directors renewed the prior authorization and authorized the repurchase of up to 5.00 million common shares throughJuly 31, 2023 . The stock repurchase plan authorizes management to repurchase and retire the stock at such time as repurchases are considered beneficial to the Company and its stockholders. Any repurchase of stock will be made through the open market, block trades or in privately negotiated transactions in accordance with applicable laws and regulations. Under the repurchase plan, there is no minimum number of shares that the Company is required to repurchase. ThroughSeptember 30, 2021 , the Company repurchased and retired 324,802 shares (all during the months of March and April of 2020) totaling$8.01 million under the previous repurchase plan. Acquisition OnSeptember 19, 2019 , we entered into an agreement and plan of reorganization to acquireTB&T Bancshares, Inc. and its wholly-owned bank subsidiary, The Bank & Trust ofBryan/College Station, Texas . OnJanuary 1, 2020 , the transaction was completed. Pursuant to the agreement, we issued 6.28 million shares of the Company's common shares in exchange for all of the outstanding shares ofTB&T Bancshares, Inc. In addition, in accordance with the plan of reorganization,TB&T Bancshares, Inc. paid a special dividend totaling$1.92 million to its shareholders prior to the closing of this transaction. At the closing, Brazos Merger Sub., Inc., a wholly-owned subsidiary of the Company, merged intoTB&T Bancshares Inc. , withTB&T Bancshares, Inc. surviving as a wholly-owned subsidiary of the Company. Immediately following such merger,TB&T Bancshares, Inc. was merged into the Company and The Bank & Trust ofBryan/College Station, Texas was merged intoFirst Financial Bank, N.A ., a wholly-owned subsidiary of the Company. The total purchase price of$220.27 million exceeded the estimated fair value of the net assets acquired by$141.92 million and the Company recorded such excess as goodwill. The balance sheet and results of operations ofTB&T Bancshares, Inc. have been included in the financial statements of the Company effectiveJanuary 1, 2020 . See Note 10 to the consolidated financial statements for additional information and disclosure.
Participation in PPP Loan Program
The Company elected to participate in the first and second rounds of PPP loan program processing a total of 9,709 loans and funded$970.87 million fromMarch 31, 2020 throughSeptember 30, 2021 . The Company has received fees totaling approximately$40.16 million and incurred incremental direct origination costs of$3.62 million related to its participation in the PPP loan program fromMarch 31, 2020 through the expiration of the program onMay 31, 2021 , both of which have been deferred and are being amortized over the shorter of the repayment period or the contractual life of these loans. During the first nine months of 2021, the Company recognized$19.13 million in interest income related to PPP loan fees. The remainder of the PPP loan deferred fees totaled approximately$6.09 million atSeptember 30, 2021 , including approximately$6.03 million for 2021 originations for the second round of PPP loans. These remaining deferred fees related to the second round of PPP loans will be amortized over the shorter of the repayment period or the contractual life of 60 months. Additional information related to the Company's PPP loan balances are included in the following table (dollars in thousands): PPP Loans Originated
PPP Amounts as of
Recognized Recognized Fees During Fees During the Period- the Quarter Nine-Months Number Number End Ended Ended of of Amount, Un-amortized September 30, September 30, Loans Amount Loans Net Fees 2021 2021 PPP Round 1 6,530$ 703,450 51$ 4,324 $ 63$ 1,044 $ 11,210 PPP Round 2 3,179 267,423 1,298 135,010 6,025 6,590 7,916 PPP Total 9,709$ 970,873 1,349$ 139,334 $ 6,088 $ 7,634 $ 19,126 41
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Implementation of New Accounting Standard for Allowance for Credit Losses
OnJanuary 1, 2020 , Accounting Standards Update ("ASU") 2016-13, Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments, became effective for the Company. Accounting Standards Codification ("ASC") Topic 326 ("ASC 326") replaced the previous "incurred loss" model for measuring credit losses with an expected loss methodology that is referred to as the current expected credit loss ("CECL") methodology. The measurement of expected credit losses under the CECL methodology is applicable to financial assets measured at amortized cost, including loan receivables and held-to-maturity debt securities. It also applies to off-balance-sheet ("OBS", "reserve for unfunded commitments") credit exposures not accounted for as insurance (loan commitments, standby letters of credit, financial guarantees, and other similar instruments). In addition, ASC 326 made changes to the accounting for available-for-sale debt securities. One such change is to require credit losses to be presented as an allowance rather than as a write-down on available-for-sale debt securities management does not intend to sell or believes that it is more likely than not they will be required to sell. OnMarch 27, 2020 , the CARES Act was signed by the President ofthe United States that included an option for entities to delay the implementation of ASC 326 until the earlier of the termination date of the national emergency declaration by the President, orDecember 31, 2020 . Under this option, the Company elected to delay implementation of CECL and calculated and recorded the provision for credit losses through the nine-months endedSeptember 30, 2020 under the incurred loss model. AtDecember 31, 2020 , the Company elected to adopt ASC 326, effective as ofJanuary 1, 2020 , through a transition charge to retained earnings of$589 thousand ($466 thousand net of applicable income taxes), which was reflected in the consolidated financial statements as of and for the year endedDecember 31, 2020 . This transition adjustment was comprised of a decrease of$619 thousand in allowance for credit losses and an increase of$1.21 million in the reserve for unfunded commitments. The Company completed its CECL implementation plan by forming a cross-functional working group, under the direction of ourChief Credit Officer along with our Chief Accounting Officer,Chief Lending Officer and Chief Financial Officer. The working group also included individuals from various functional areas including credit, risk management, accounting and information technology, among others. The implementation plan included assessment and documentation of processes, internal controls and data sources, model development, documentation and validation, and system configuration, among other things. The Company contracted with a third-party vendor to assist in the implementation of CECL.
Results of Operations
Performance Summary. Net earnings for the third quarter of 2021 were
The return on average assets was 1.90% for the third quarter of 2021, as compared to 2.01% for the third quarter of 2020. The return on average equity was 13.43% for the third quarter of 2021 as compared to 13.14% for the third quarter of 2020.
Net earnings for the nine-month period ended
The return on average assets was 1.94% for the first nine months of 2021 as compared to 1.91% for the same period a year ago. The return on average equity was 13.55% for the first nine months of 2021 as compared to 12.46% for the first nine months of 2020.
Net Interest Income. Net interest income is the difference between interest income on earning assets and interest expense on liabilities incurred to fund those assets. Our earning assets consist primarily of loans and investment securities. Our liabilities to fund those assets consist primarily of noninterest-bearing and interest-bearing deposits.
Tax-equivalent net interest income was$99.45 million for the third quarter of 2021, as compared to$92.38 million for the same period last year. The increase in 2021 compared to 2020 was largely attributable to the increase in interest-earning assets primarily derived from an increase in investment securities held and the impact of the Company's swift deployment of the PPP loan program which brought new business from other banks. Average earning assets were$11.58 billion for the third quarter of 2021, as compared to$9.80 billion during the third quarter of 2020. The increase of$1.77 billion in average earning assets in 2021 when compared to 2020 was primarily a result of increases of tax-exempt securities of$484.57 million , interest-bearing deposits in nonaffiliated banks of$389.45 million and taxable securities of$893.67 million when compared toSeptember 30, 2020 balances. Average interest-bearing liabilities were$6.95 billion for the third quarter of 2021, as compared to$5.75 billion in the same period in 2020. The increase in average interest-bearing liabilities primarily resulted from our customers depositing their PPP loan amounts into our Bank and organic growth. The yield on earning assets decreased 38 basis points while the rate paid on interest-bearing liabilities decreased seven basis points for the third quarter of 2021 compared to the third quarter of 2020. Tax-equivalent net interest income was$286.41 million for the first nine months of 2021 as compared to$267.25 million for the same period last year. The increase in 2021 compared to 2020 was largely attributable to the increase in interest earning assets primarily derived from an increase in investment securities held and the impact of the Company's swift deployment of the PPP loan program which brought new business from other banks. Average earning assets increased$1.77 billion for the first nine months of 2021 over the same period in 2020. Average tax exempt securities increased$722.10 million , interest-bearing deposits in nonaffiliated banks increased$414.23 million and loans increased$255.26 million , respectively, for the first nine months of 2021 over the first nine months of 2020. Average interest-bearing liabilities increased$983.95 million for the first nine months of 2021, as compared to the same period in 2020 primarily resulting from our customers depositing their PPP loan amounts into our Bank and internal organic growth. The yield on earning assets decreased 49 basis points while the rate paid on interest-bearing liabilities decreased 19 basis points for the first nine months of 2021 compared to the first nine months of 2020. 42 --------------------------------------------------------------------------------
Table 1 allocates the change in tax-equivalent net interest income between the amount of change attributable to volume and to rate.
Table 1 - Changes in Interest Income and Interest Expense (in thousands):
Three-Months Ended September 30, 2021 Nine-Months Ended September 30, 2021 Compared to Three-Months Ended Compared to Nine-Months Ended September 30, 2020 September 30, 2020 Change Attributable to Total Change Attributable to Total Volume Rate Change Volume Rate Change Short-term investments$ 102 $ 74$ 176 $ 1,377 $ (1,665 ) $ (288 ) Taxable investment securities 4,928 (4,869 ) 59 6,834 (13,748 ) (6,914 ) Tax-exemptinvestment securities (1) 3,705 (1,741 ) 1,964 17,331 (6,911 ) 10,420 Loans (1) (2) 45 4,081 4,126 9,853 (1,387 ) 8,466 Interest income 8,780 (2,455 ) 6,325 35,395 (23,711 ) 11,684 Interest-bearing deposits 421 (1,145 ) (724 ) 2,349 (9,047 ) (6,698 ) Short-term borrowings 25 (48 ) (23 ) (188 ) (582 ) (770 ) Interest expense 446 (1,193 ) (747 ) 2,161 (9,629 ) (7,468 ) Net interest income$ 8,334 $ (1,262 ) $ 7,072 $ 33,234 $ (14,082 ) $ 19,152 (1)
Computed on a tax-equivalent basis assuming a marginal tax rate of 21%. (2) Non-accrual loans are included in loans.
The net interest margin, on a tax equivalent basis, was 3.41% for the third quarter of 2021, a decrease of 34 basis points from the same period in 2020. The net interest margin for the first nine months of 2021 was 3.43%, a decrease of 38 basis points from the same period in 2020. We have continued to experience downward pressures on our net interest margin in 2021 and 2020 primarily due to (i) the extended period of fluctuating historically low levels of short-term interest rates and (ii) the flat to inverted yield curve currently being experienced in the bond market. Additionally, the net interest margin was particularly impacted in the third quarter of 2021 as a result of the overall level of excess liquidity, which totaled$561.14 million atSeptember 30, 2021 , pending investment. We have been able to somewhat mitigate the impact of these lower short-term interest rates and the flat/inverted yield curve by establishing minimum interest rates on certain of our loans, improving the pricing for loan risk and reducing the rates paid on our interest-bearing liabilities. InMarch 2020 , as the market experienced volatility, we took advantage of that volatility to purchase high quality municipal bonds at favorable tax-equivalent interest yields. TheFederal Reserve increased rates 100 basis points in 2018 but then decreased rates 75 basis points during the third and fourth quarters of 2019 and then an additional 150 basis points in the first quarter of 2020, resulting in a current target rate range of zero to 25 basis points. 43
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The net interest margin, which measures tax-equivalent net interest income as a percentage of average earning assets, is illustrated in Table 2.
Table 2 - Average Balances and Average Yields and Rates (in thousands, except percentages): Three-Months Ended September 30, 2021 2020 Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate Assets Short-term investments (1)$ 614,105 $ 238 0.15 %$ 225,113 $ 62 0.11 % Taxable investment securities (2) 3,081,215 12,122 1.57 2,187,547 12,063 2.21 Tax-exempt investment securities (2)(3) 2,542,606 17,701 2.78 2,058,032 15,737 3.06 Loans (3)(4) 5,337,807 70,807 5.26 5,334,174 66,681 4.97 Total earning assets 11,575,733$ 100,868 3.46 % 9,804,866$ 94,543 3.84 % Cash and due from banks 205,929 186,177 Bank premises and equipment, net 147,071 139,758 Other assets 97,827 98,261 Goodwill and other intangible assets, net 317,327 319,059 Allowance for credit losses (63,055 ) (71,881 ) Total assets$ 12,280,832 $ 10,476,240 Liabilities and Shareholders' Equity Interest-bearing deposits$ 6,346,267 $ 1,340 0.08 %$ 5,270,600 $ 2,064 0.16 % Short-term borrowings 599,934 76 0.05 482,555 99 0.08 Total interest-bearing liabilities 6,946,201$ 1,416 0.08 % 5,753,155$ 2,163 0.15 % Noninterest-bearing deposits 3,490,685 3,016,700 Other liabilities 103,446 106,295 Total liabilities 10,540,332 8,876,150 Shareholders' equity 1,740,500 1,600,090 Total liabilities and shareholders' equity$ 12,280,832 $ 10,476,240 Net interest income$ 99,452 $ 92,380 Rate Analysis: Interest income/earning assets 3.46 % 3.84 % Interest expense/earning assets (0.05 ) (0.09 ) Net interest margin 3.41 % 3.75 % (1) Short-term investments are comprised of federal funds sold, interest-bearing deposits in banks and interest-bearing time deposits in banks. (2) Average balances include unrealized gains and losses on available-for-sale securities. (3) Computed on a tax-equivalent basis assuming a marginal tax rate of 21%. (4) Non-accrual loans are included in loans. 44 --------------------------------------------------------------------------------
Nine-Months Ended September 30, 2021 2020 Average Income/ Yield/ Average Income/ Yield/ Balance Expense Rate Balance Expense Rate Assets Short-term investments (1)$ 684,263 $ 615 0.12 %$ 269,704 $ 903 0.45 % Taxable investment securities (2) 2,665,988 33,834 1.69 2,283,064 40,748 2.38 Tax-exempt investment securities (2)(3) 2,458,352 52,090 2.83 1,736,250 41,670 3.20 Loans (3)(4) 5,339,398 204,721 5.13 5,084,136 196,255 5.16 Total earning assets 11,148,001$ 291,260 3.49 % 9,373,154$ 279,576 3.98 % Cash and due from banks 204,246 188,241 Bank premises and equipment, net 144,566
139,600
Other assets 97,234
91,324
Goodwill and other intangible assets, net 317,726 318,902 Allowance for credit losses (64,446 ) (64,742 ) Total assets$ 11,847,327 $ 10,046,479 Liabilities and Shareholders' Equity Interest-bearing deposits$ 6,165,740 $ 4,595 0.10 %$ 5,104,096 $ 11,293 0.30 % Short-term borrowings 528,599 260 0.07 606,291 1,030 0.23 Total interest-bearing liabilities 6,694,339$ 4,855 0.10 % 5,710,387$ 12,323 0.29 % Noninterest-bearing deposits 3,349,719 2,714,173 Other liabilities 103,354 82,670 Total liabilities 10,147,412 8,507,230 Shareholders' equity 1,699,915 1,539,249 Total liabilities and shareholders' equity$ 11,847,327 $ 10,046,479 Net interest income$ 286,405 $ 267,253 Rate Analysis: Interest income/earning assets 3.49 % 3.98 % Interest expense/earning assets (0.06 ) (0.17 ) Net interest margin 3.43 % 3.81 % (1) Short-term investments are comprised of federal funds sold, interest-bearing deposits in banks and interest-bearing time deposits in banks. (2) Average balances include unrealized gains and losses on available-for-sale securities. (3) Computed on a tax-equivalent basis assuming a marginal tax rate of 21%. (4) Non-accrual loans are included in loans. Noninterest Income. Noninterest income for the third quarter of 2021 was$37.73 million compared to$38.58 million in the same quarter of 2020. Increases in certain categories of noninterest income included (1) trust fees of$2.02 million , (2) service charges on deposits of$664 thousand , (3) ATM, interchange and credit card fees of$1.15 million and (4) interest on loan recoveries of$1.54 million when compared to the third quarter of 2020. Mortgage related income was$8.79 million in the third quarter of 2021 compared to$15.23 million in the third quarter of 2020 due to lower overall origination volumes. The increase in trust fees resulted from an increase in assets under management over the prior year and overall improvement in market prices. The fair value of trust assets managed, which are not reflected in our consolidated balance sheets, totaled$8.08 billion atSeptember 30, 2021 , up 16.23% when compared to$6.95 billion atSeptember 30, 2020 . The increase in ATM, interchange and credit card fees was driven by continued growth in the number of net new accounts and debit cards issued and overall customer utilization. Noninterest income for the nine-month period endedSeptember 30, 2021 was$107.27 million , an increase of$3.05 million compared to the same period in 2020. Trust fees increased$4.62 million to$26.48 million for the first nine-months of 2021 compared to the same period of 2020. The fair value of Trust assets managed increased to$8.08 billion atSeptember 30, 2021 when compared with$6.95 billion atSeptember 30, 2020 . ATM, interchange and credit card fees increased$4.23 million , or 17.56%, to$28.32 million compared with$24.09 million in the same period last year due to continued growth in debit cards. Interest on loan recoveries increased to$2.83 million for the nine-months endedSeptember 30, 2021 as compared to$621 thousand for the same period of 2020. Mortgage related income was$26.97 million in the first nine months of 2021 compared to$32.76 million in the same period of 2020 due to lower overall origination volumes. Gains on available-for-sale securities were$814 thousand for the first nine months of 2021 compared to$3.61 million for the same period in 2020. 45
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ATM and interchange fees are charges that merchants pay to us and other card-issuing banks for processing electronic payment transactions. ATM and interchange fees consist of income from debit card usage, point of sale income for debit card transactions and ATM service fees.
Federal Reserve rules applicable to financial institutions that have assets of$10 billion or more provide that the maximum permissible interchange fee for an electronic debit transaction is limited to the sum of21 cents per transaction plus 5 basis points multiplied by the value of the transaction. Management has estimated the impact of this reduction in ATM and interchange fees to approximate$16 million annually (pre-tax) once theFederal Reserve rules apply to the Company.Federal Reserve requirements stipulate that these rules would go into effect onJuly 1st following the year-end in which a financial institution's total assets exceeded$10 billion atDecember 31st . AtSeptember 30, 2021 , the Company's total assets exceeded the$10 billion threshold, due primarily to the effect of the Company's participation in the PPP loan program and growth in deposits from related activities. However, onNovember 20, 2020 , the federal bank regulatory agencies announced an interim final rule that provides temporary relief for certain community banking organizations that have crossed this threshold as ofDecember 31, 2020 if they had less than$10 billion in assets as ofDecember 31, 2019 . Under the interim final rule, these banks, which includes us, will generally have until 2022 to either reduce their size, or to prepare for the regulatory and reporting standards under the Dodd-Frank Act. Management will continue to monitor the Company's balance sheet levels and prepare for the effects of this future loss of debit card income.
Table 3 - Noninterest Income (in thousands):
Three-Months Ended Nine-Months Ended September 30, September 30, Increase Increase 2021 (Decrease) 2020 2021 (Decrease) 2020 Trust fees$ 9,484 $ 2,023 $ 7,461 $ 26,475 $ 4,616 $ 21,859 Service charges on deposit accounts 5,673 664 5,009 15,394 152 15,242 ATM, interchange and credit card fees 9,793 1,149 8,644 28,323 4,230 24,093 Gain on sale and fees on mortgage loans 8,788 (6,440 ) 15,228 26,973 (5,783 ) 32,756 Net gain on sale of available-for-sale securities 1 (35 ) 36 814 (2,796 ) 3,610 Net gain on sale of foreclosed assets 27 8 19 83 11 72 Net gain on sale of assets (6 ) (4 ) (2 ) 213 123 90 Interest on loan recoveries 1,746 1,544 202 2,832 2,211 621
Other:
Check printing fees 88 33 55 155 (22 ) 177 Safe deposit rental fees 192 7 185 690 135 555 Credit life fees 256 126 130 835 139 696 Brokerage commissions 337 36 301 1,039 19 1,020 Wire transfer fees 367 61 306 1,037 198 839 Miscellaneous income 980 (21 ) 1,001 2,410 (186 ) 2,596 Total other 2,220 242 1,978 6,166 283 5,883 Total Noninterest Income$ 37,726 $ (849 ) $ 38,575 $ 107,273 $ 3,047 $ 104,226 Noninterest Expense. Total noninterest expense for the third quarter of 2021 was$62.94 million , an increase of$7.35 million , or 13.21%, as compared to the same period of 2020. An important measure in determining whether a financial institution effectively manages noninterest expense is the efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a tax-equivalent basis and noninterest income. Lower ratios indicate better efficiency since more income is generated with a lower noninterest expense total. Our efficiency ratio for the third quarter of 2021 was 45.88 % compared to 42.45% for the same quarter in 2020. Salaries, commissions and employee benefits for the third quarter of 2021 totaled$37.09 million , compared to$33.65 million for the same period in 2020. The increase over the prior year was primarily driven by (i) annual merit-based pay increases that were effectiveMarch 1, 2021 and (ii) increases in incentive compensation and profit sharing expenses in the third quarter of 2021. All other categories of noninterest expense for the third quarter of 2021 totaled$25.85 million , up from$21.94 million in the same quarter a year ago.
Total noninterest expense for the first nine months of 2021 was
Salaries, commissions and employee benefits for the first nine months of 2021 totaled$107.07 million , an increase of$12.96 million when compared to the same period in 2020. The increase was primarily driven by (i) annual pay increases that were effectiveMarch 1, 2021 , (ii) increases in incentive compensation and profit sharing expenses in the first nine months of 2021 and (iii) the deferral of$3.62 million PPP origination costs in the first nine months of 2020. All other categories of noninterest expense for the first nine months of 2021 totaled$72.97 million , an increase of$2.84 million when compared to the same period of 2020. Included in noninterest expense in the first nine months of 2020 were technology contract termination and conversion related costs totaling$4.40 million related to the TB&T acquisition. 46 --------------------------------------------------------------------------------
Table 4 - Noninterest Expense (in thousands):
Three-Months Ended September 30, Nine-Months Ended September 30, Increase Increase 2021 (Decrease) 2020 2021 (Decrease) 2020 Salaries and commissions$ 28,107 $ 1,637 $ 26,470 $ 81,079 $ 8,636 $ 72,443 Medical 3,200 739 2,461 8,795 1,353 7,442 Profit sharing 2,630 1,085 1,545 7,035 2,540 4,495 401(k) match expense 881 41 840 2,771 195 2,576 Payroll taxes 1,627 57 1,570 5,471 371 5,100 Stock based compensation 645 (118 ) 763 1,916 (133 ) 2,049 Total salaries and employee benefits 37,090 3,441 33,649 107,067 12,962 94,105 Net occupancy expense 3,288 95 3,193 9,676 355 9,321 Equipment expense 2,450 293 2,157 6,791 549 6,242 FDIC assessment fees 815 228 587 2,282 1,187 1,095 ATM, interchange and credit card expense 2,935 106 2,829 8,746 322 8,424 Professional and service fees 2,406 169 2,237 6,936 (391 ) 7,327 Printing, stationery and supplies 432 (183 ) 615 1,246 (468 ) 1,714 Operational and other losses 1,087 466 621 1,908 (17 ) 1,925 Software amortization and expense 2,855 590 2,265 8,303 2,004 6,299 Amortization of intangible assets 398 (92 ) 490 1,222 (285 ) 1,507 Other: Data processing fees 501 134 367 1,345 111 1,234 Postage 420 43 377 1,086 24 1,062 Advertising 856 608 248 2,182 1,129 1,053 Correspondent bank service charges 267 32 235 757 91 666 Telephone 679 (233 ) 912 2,777 (11 ) 2,788 Public relations and business development 890 342 548 2,344 395 1,949 Directors' fees 588 41 547 1,800 17 1,783 Audit and accounting fees 515 (50 ) 565 1,501 (278 ) 1,779 Legal fees and other related costs 438 99 339 1,869 832 1,037 Regulatory exam fees 374 98 276 1,048 219 829 Travel 348 128 220 945 213 732 Courier expense 234 17 217 698 64 634 Other real estate owned 10 (8 ) 18 49 (40 ) 89 Other 3,063 982 2,081 7,458 (3,181 ) 10,639 Total other 9,183 2,233 6,950 25,859 (415 ) 26,274 Total Noninterest Expense$ 62,939 $ 7,346 $ 55,593 $ 180,036 $ 15,803 $ 164,233 Balance Sheet Review Loans. Our portfolio is comprised of loans made to businesses, professionals, individuals, and farm and ranch operations located in the primary trade areas served by our subsidiary bank. As ofSeptember 30, 2021 , total loans held-for-investment were$5.29 billion , an increase of$115.46 million , as compared toDecember 31, 2020 . During the third quarter of 2021,$181.06 million of PPP loans originated were forgiven. Total PPP loans outstanding were$139.33 million atSeptember 30, 2021 , which are included in the Company's commercial loan totals. PPP loan balances accounted for$229.81 million in average balances for the quarter endedSeptember 30, 2021 . AtSeptember 30, 2021 , approximately$6.09 million of deferred loan fees related to PPP loans, including approximately$6.03 million for 2021 originations, continues to be amortized over the shorter of the repayment period or the contractual life of 24 to 60 months. As compared to year-end 2020 balances, total real estate loans increased$368.32 million , total commercial loans decreased$327.26 million , agricultural loans increased$4.08 million and total consumer loans increased$70.33 million . Loans averaged$5.34 billion for the third quarter of 2021, an increase of$3.63 million from the prior year third quarter average balances. Loans averaged$5.34 billion for the first nine months of 2021, an increase of$255.26 million from the prior year nine-month period average balances. In conjunction with the adoption of ASC 326, the Company expanded its four loan portfolio segments used under its legacy disclosures into the following ten portfolio segments. For modeling purposes, our loan portfolio segments include C&I, Municipal, Agricultural, Construction and Development, Farm, Non-Owner Occupied and Owner Occupied CRE, Residential, Consumer Auto and Consumer Non-Auto. This additional segmentation allows for a more precise pooling of loans with similar credit risk characteristics and credit monitor procedures for the Company's calculation of its allowance for credit losses.
The loans originated as a result of the Company's participation in the PPP
program, discussed in further detail on page 41, are included in the C&I loan
portfolio segment as of
47 -------------------------------------------------------------------------------- Table 5 outlines the composition of the Company's held-for-investment loans by portfolio segment. For all periods prior toDecember 31, 2020 , management has elected to maintain its previously disclosed loan portfolio segments.
Table 5 - Composition of Loans (in thousands):
September 30, December 31, 2021 2020 2020 Commercial: C&I *$ 819,597 N/A$ 1,131,382 Municipal 165,847 N/A 181,325 Total Commercial 985,444 1,488,345 1,312,707 Agricultural 98,947 93,972 94,864 Real Estate: Construction & Development 656,530 N/A 553,959 Farm 203,064 N/A 152,237 Non-Owner Occupied CRE 674,958 N/A 617,686 Owner Occupied CRE 824,231 N/A 746,974 Residential 1,328,798 N/A 1,248,409Total Real Estate 3,687,581 3,287,605 3,319,265 Consumer: Auto 394,072 N/A 353,595 Non-Auto 120,450 N/A 90,602 Total Consumer 514,522 423,757 444,197 Total$ 5,286,494 $ 5,293,679 $ 5,171,033
* All disclosures for the C&I loan segment include PPP loan balances, net of deferred fees, as disclosed on the face of the consolidated balance sheet.
Loans held-for-sale, consisting of secondary market mortgage loans, totaled$47.72 million ,$101.06 million , and$83.97 million atSeptember 30, 2021 and 2020, andDecember 31, 2020 , respectively. AtSeptember 30, 2021 and 2020, andDecember 31, 2020 ,$1.64 million ,$6.39 million and$4.38 million , respectively, are valued using the lower of cost or fair value, and the remaining amounts are valued under the fair value option. Asset Quality. Our loan portfolio is subject to periodic reviews by our centralized independent loan review group as well as periodic examinations by bank regulatory agencies. Loans are placed on non-accrual status when, in the judgment of management, the collectability of principal or interest under the original terms becomes doubtful. Non-accrual, past due 90 days or more and still accruing, and restructured loans plus foreclosed assets were$25.28 million atSeptember 30, 2021 , as compared to$43.05 million atSeptember 30, 2020 and$42.90 million atDecember 31, 2020 . As a percent of loans held-for-investment and foreclosed assets, these assets were 0.48% atSeptember 30, 2021 , as compared to 0.81% atSeptember 30, 2020 and 0.83% atDecember 31, 2020 . As a percent of total assets, these assets were 0.20% atSeptember 30, 2021 , as compared to 0.41% atSeptember 30, 2020 and 0.39% atDecember 31, 2020 . We believe the level of these assets to be manageable and are not aware of any material classified credits not properly disclosed as nonperforming atSeptember 30, 2021 . Supplemental Oil and Gas Information. As ofSeptember 30, 2021 , the Company's exposure to the oil and gas industry totaled 1.87% of total loans held-for-investment, excluding PPP loans, or$96.47 million , down$9.77 million fromDecember 31, 2020 year-end levels. These oil and gas loans consisted (based on collateral supporting the loan) of (i) development and production loans of 13.65%, (ii) oil and gas field servicing loans of 6.24%, (iii) real estate loans of 47.58%, (iv) accounts receivable and inventory of 2.93%, (v) automobile of 6.58% and (vi) other of 23.02%. These have warranted additional scrutiny because of fluctuating oil and gas prices and the COVID pandemic. The Company instituted additional monitoring procedures for these loans and has classified and downgraded loans as appropriate. The following oil and gas information is as of and for the quarters endedSeptember 30, 2021 and 2020, and the year endedDecember 31, 2020 (in thousands, except percentages): September 30, December 31, 2021 2020 2020 Oil and gas related loans, excluding PPP loans$ 96,469 $ 118,567 $ 106,237 Oil and gas related loans as a % of total loans held-for- investment, excluding PPP loans 1.87 % 2.58 % 2.27 % Classified oil and gas related loans$ 10,831 $ 26,823 $ 13,298 Non-accrual oil and gas related loans 3,058 6,800
4,774
Net charge-offs (recoveries) on oil and gas related loans for quarter/year then ended (71 ) - 825 48
-------------------------------------------------------------------------------- Supplemental COVID-19 Industry Exposure. In addition, atSeptember 30, 2021 , loan balances in the retail/restaurant/hospitality industries totaled$496.52 million or 9.65% of the Company's total loans held-for-investment, excluding PPP loans. These loans comprised$34.34 million of classified loans, including$2.00 million in non-accrual loans. There were net recoveries related to this portfolio for the three and nine-months endedSeptember 30, 2021 of$506 thousand . Additional information related to the Company's retail/restaurant/hospitality industries follows below (in thousands, except percentages): September 30, December 31, 2021 2020 2020 Retail loans$ 348,797 $ 229,386 $ 216,244 Restaurant loans 59,031 39,523 48,618 Hotel loans 60,733 63,273 71,716 Other hospitality loans 27,369 26,041 21,970 Travel loans 593 801 780 Total Retail/Restaurant/Hospitality loans, excluding PPP loans$ 496,523 $ 359,024 $ 359,328 Retail/Restaurant/Hospitality loans as a % of total loans held-for-investment, excluding PPP loans 9.65 % 7.82 % 7.67 % Classified Retail/Restaurant/Hospitality loans$ 34,341 $ 28,171 $ 31,192 Non-accrual Retail/Restaurant/Hospitality loans 1,995 5,689
5,975
Net charge-offs (recoveries) on Retail/Restaurant/Hospitality loans quarter/year then ended (506 ) 26 895
Table 6 - Non-accrual, Past Due 90 Days or More and Still Accruing, Restructured Loans and Foreclosed Assets (in thousands, except percentages):
September 30, December 31, 2021 2020 2020 Non-accrual loans$ 25,210 $ 42,673 $ 42,619 Loans still accruing and past due 90 days or more 23 23
113
Troubled debt restructured loans* 22 25 24 Nonperforming loans 25,255 42,721 42,756 Foreclosed assets 28 331 142 Total nonperforming assets$ 25,283 $ 43,052 $ 42,898 As a % of loans held-for-investment and foreclosed assets 0.48 % 0.81 % 0.83 % As a % of total assets 0.20 0.41 0.39 * Troubled debt restructured loans of$4.73 million ,$4.48 million and$7.41 million , whose interest collection, after considering economic and business conditions and collection efforts, is doubtful are included in non-accrual loans atSeptember 30, 2021 and 2020, andDecember 31, 2020 , respectively. We record interest payments received on non-accrual loans as reductions of principal. Prior to the loans being placed on non-accrual, we recognized interest income on these loans of approximately$255 thousand for the year endedDecember 31, 2020 . If interest on these loans had been recognized on a full accrual basis during the year endedDecember 31, 2020 , such income would have approximated$4.46 million . Such amounts for the 2021 and 2020 interim periods were not significant. Allowance for Credit Losses. The allowance for credit losses is the amount we determine as of a specific date to be appropriate to absorb current expected credit losses on existing loans in which full collectability is unlikely based on our review and evaluation of the loan portfolio. For a discussion of our methodology, see our accounting policies in Note 1 to the consolidated financial statements (unaudited). There was no provision for credit losses or provision for unfunded commitments for the third quarter of 2021 as compared to$9.00 million for the third quarter of 2020, which was the aggregate of a$7.50 million provision for loan losses and$1.50 million provision for unfunded commitments. The provision for credit losses for the nine-months endedSeptember 30, 2021 was a reversal of$3.20 million , which was made up of a reversal of provision for loan losses of$4.47 million offset by a$1.27 million provision for unfunded commitments, as compared to$27.55 million for the same period in 2020, which was made up of$26.05 million of provision for loan losses and$1.50 million provision for unfunded commitments. The net reversal of the Company's provision for credit losses year-to-date in 2021 reflects the continued improvement in the economic outlook for our markets acrossTexas and overall improvements in asset quality offset by loan growth. As a percent of average loans, net loan recoveries were 0.09% for the third quarter of 2021, as compared to net charge-offs of 0.03% for the third quarter of 2020. The allowance for credit losses as a percent of loans held-for-investment was 1.20% as ofSeptember 30, 2021 , as compared to 1.44% as ofSeptember 30, 2020 and 1.29% as ofDecember 31, 2020 . The allowance for credit losses as a percent of loans held-for-investment, excluding PPP loans, was 1.23% as ofSeptember 30, 2021 , as compared to 1.66% as ofSeptember 30, 2020 and 1.42% as ofDecember 31, 2020 . 49 -------------------------------------------------------------------------------- Table 7 - Loan Loss Experience and Allowance for Credit Losses (in thousands, except percentages): Three-Months Ended Nine-Months Ended September 30, September 30, 2021 2020 2021 2020 Allowance for credit losses at period-end$ 63,370 $ 76,038 $ 63,370 $ 76,038 Loans held-for-investment at period-end 5,286,494 5,293,679 5,286,494 5,293,679 Average loans for period 5,337,807 5,334,174 5,339,398 5,084,136 Net charge-offs (recoveries)/average loans (annualized) (0.09 )% 0.03 % (0.03 )% 0.07 % Allowance for loan losses/period-end loans held-for-investment 1.20 % 1.44 % 1.20 % 1.44 % Allowance for loan losses/non-accrual loans, past due 90 days still accruing and restructured loans 250.92 % 177.99 % 250.92 % 177.99 %
Interest-Bearing Demand Deposits in Banks. At
Available-for-Sale Securities . AtSeptember 30, 2021 , securities with a fair value of$6.12 billion were classified as securities available-for-sale. As compared toDecember 31, 2020 , the available-for-sale portfolio atSeptember 30, 2021 reflected (i) an increase of$238.49 million in obligations of states and political subdivisions, (ii) an increase of$32.90 million in corporate bonds and other, and (iii) an increase of$1.46 billion in mortgage-backed securities. Our mortgage related securities are backed by GNMA,FNMA or FHLMC or are collateralized by securities backed by these agencies. See Note 2 to the consolidated financial statements (unaudited) for additional disclosures relating to the investment portfolio atSeptember 30, 2021 and 2020, andDecember 31, 2020 .
Table 8 - Maturities and Yields of Available-for-Sale Securities Held at
Maturing by Contractual Maturity
After One Year After Five Years One Year Through Through After or Less Five Years Ten Years Ten Years Total Available-for-Sale: Amount Yield Amount Yield Amount Yield Amount Yield Amount Yield Obligations of states and political subdivisions$ 196,413 4.20 %$ 719,539 3.86 %
$ 1,723,726 2.63 %$ 25,689 3.12 %$ 2,665,367 3.08 % Corporate bonds and other securities 4,468 1.26 - - 32,984 1.65 - - 37,452 1.61 Mortgage-backed
securities 277,666 1.80 2,303,636 1.65 774,533 1.54 61,330 1.74 3,417,165 1.64 Total$ 478,547 2.78 %$ 3,023,175 2.18 %$ 2,531,243 2.28 %$ 87,019 2.15 %$ 6,119,984 2.27 % All yields are computed on a tax-equivalent basis assuming a marginal tax rate of 21%. Yields on available-for-sale securities are based on amortized cost. Maturities of mortgage-backed securities are based on contractual maturities and could differ due to prepayments of underlying mortgages. Maturities of other securities are reported at the earlier of maturity date or call date. As ofSeptember 30, 2021 , the investment portfolio had an overall tax equivalent yield of 2.27%, a weighted average life of 4.87 years and modified duration of 4.40 years.
At
50 -------------------------------------------------------------------------------- Deposits. Deposits held by our subsidiary bank represent our primary source of funding. Total deposits were$9.89 billion as ofSeptember 30, 2021 , as compared to$8.29 billion as ofSeptember 30, 2020 and$8.68 billion as ofDecember 31, 2020 . Table 9 provides a breakdown of average deposits and rates paid for the three and nine-month periods endedSeptember 30, 2021 and 2020, respectively. Table 9 - Composition of Average Deposits (in thousands, except percentages): Three-Months Ended September 30, 2021 2020 Average Average Average Average Balance Rate Balance Rate Noninterest-bearing deposits$ 3,490,685 -%$ 3,016,700 -% Interest-bearing deposits: Interest-bearing checking 3,142,769 0.07 2,498,641 0.10 Savings and money market accounts 2,732,149 0.06 2,301,920 0.12 Time deposits under$250,000 317,843 0.26 332,431 0.46 Time deposits of$250,000 or more 153,506 0.43 137,608 1.01 Total interest-bearing deposits 6,346,267 0.08 % 5,270,600 0.16 % Total average deposits$ 9,836,952 $ 8,287,300 Total cost of deposits 0.05 % 0.10 % Nine-Months Ended September 30, 2021 2020 Average Average Average Average Balance Rate Balance Rate Noninterest-bearing deposits$ 3,349,719 -%$ 2,714,173 -% Interest-bearing deposits: Interest-bearing checking 3,030,830 0.08 2,477,035 0.26 Savings and money market accounts 2,658,570 0.08 2,156,906 0.24 Time deposits under$250,000 320,743 0.29 338,237 0.61 Time deposits of$250,000 or more 155,597 0.51 131,918 1.14 Total interest-bearing deposits 6,165,740 0.10 % 5,104,096 0.30 % Total average deposits$ 9,515,459 $ 7,818,269 Total cost of deposits 0.06 % 0.19 % Borrowings. Included in borrowings were federal funds purchased, securities sold under repurchase agreements and advances from the FHLB of$648.68 million ,$503.16 million and$430.09 million atSeptember 30, 2021 and 2020 andDecember 31, 2020 , respectively. Securities sold under repurchase agreements are generally with significant customers of the Company that require short-term liquidity for their funds for which we pledge certain securities that have a fair value equal to at least the amount of the short-term borrowings. The average balance of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were$599.93 million and$482.56 million in the third quarters of 2021 and 2020, respectively. The weighted average interest rates paid on these borrowings were 0.05% and 0.08% for the third quarters of 2021 and 2020, respectively. The average balance of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were$528.60 million and$606.29 million for the nine-months endedSeptember 30, 2021 and 2020, respectively. The weighted average interest rates paid on these borrowings were 0.07% and 0.23% for the nine-month periods endedSeptember 30, 2021 and 2020, respectively.
Capital Resources
We evaluate capital resources by our ability to maintain adequate regulatory capital ratios to do business in the banking industry. Issues related to capital resources arise primarily when we are growing at an accelerated rate but not retaining a significant amount of our profits or when we experience significant asset quality deterioration. Total shareholders' equity was$1.73 billion , or 13.82% of total assets atSeptember 30, 2021 , as compared to$1.62 billion , or 15.33% of total assets atSeptember 30, 2020 , and$1.68 billion , or 15.39% of total assets atDecember 31, 2020 . Included in shareholders' equity atSeptember 30, 2021 and 2020 andDecember 31, 2020 were$109.45 million ,$152.06 million and$170.40 million , respectively, in unrealized gains on investment securities available-for-sale, net of related income taxes. For the third quarter of 2021, total shareholders' equity averaged$1.74 billion , or 14.17% of average assets, as compared to$1.60 billion , or 15.27% of average assets, during the same period in 2020. For the first nine months of 2021, total shareholders' equity averaged$1.70 billion , or 14.35% of average assets, as compared to$1.54 billion , or 15.32% of average assets, during the same period in 2020. Banking regulators measure capital adequacy by means of the risk-based capital ratios and the leverage ratio under the Basel III regulatory capital framework and prompt corrective action regulations. The risk-based capital rules provide for the weighting of assets and off-balance-sheet commitments and contingencies according to prescribed risk categories. Regulatory capital is then divided by risk-weighted assets to determine the risk-adjusted capital ratios. The leverage ratio is computed by dividing shareholders' equity less intangible assets by quarter-to-date average assets less intangible assets. 51 -------------------------------------------------------------------------------- Beginning inJanuary 2015 , under the Basel III regulatory capital framework, the implementation of the capital conservation buffer was effective for the Company starting at the 0.625% level and increasing 0.625% each year thereafter, until it reached 2.50% onJanuary 1, 2019 . The capital conservation buffer is designed to absorb losses during periods of economic stress and requires increased capital levels for the purpose of capital distributions and other payments. Failure to meet the amount of the buffer will result in restrictions on the Company's ability to make capital distributions, including dividend payments and stock repurchases, and to pay discretionary bonuses to executive officers. As ofSeptember 30, 2021 and 2020, andDecember 31, 2020 , we had a total capital to risk-weighted assets ratio of 20.76%, 21.82% and 22.03%, a Tier 1 capital to risk-weighted assets ratio of 19.71%, 20.56% and 20.79%; a common equity Tier 1 to risk-weighted assets ratio of 19.71%, 20.56% and 20.79% and a leverage ratio of 11.19%, 11.65% and 11.86%, respectively. The regulatory capital ratios as ofSeptember 30, 2021 and 2020, andDecember 31, 2020 were calculated underBasel III rules.
The regulatory capital ratios of the Company and Bank under the Basel III regulatory capital framework are as follows:
Required to be Minimum Capital Considered Well- Actual Required-Basel III Capitalized As of September 30, 2021: Amount Ratio Amount Ratio Amount Ratio Total Capital to Risk-Weighted Assets: Consolidated$ 1,389,929 20.76 %$ 702,959 10.50 %$ 669,485 10.00 % First Financial Bank, N.A$ 1,246,266 18.65 %$ 701,572 10.50 %$ 668,164 10.00 % Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,319,809 19.71 %$ 569,062 8.50 %$ 401,691 6.00 % First Financial Bank, N.A$ 1,176,146 17.60 %$ 567,939 8.50 %$ 534,531 8.00 % Common Equity Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,319,809 19.71 %$ 468,639 7.00 % - N/A First Financial Bank, N.A$ 1,176,146 17.60 %$ 467,715 7.00 %$ 434,306 6.50 % Leverage Ratio: Consolidated$ 1,319,809 11.19 %$ 471,745 4.00 % - N/A First Financial Bank, N.A$ 1,176,146 10.00 %$ 470,355 4.00 %$ 587,944 5.00 % Required to be Minimum Capital Considered Well- Actual Required-Basel III Capitalized As of September 30, 2020: Amount Ratio Amount Ratio Amount Ratio Total Capital to Risk-Weighted Assets: Consolidated$ 1,231,395 21.82 %$ 592,680 10.50 %$ 564,457 10.00 % First Financial Bank, N.A$ 1,102,365 19.57 %$ 591,382 10.50 %$ 563,221 10.00 % Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,160,742 20.56 %$ 479,788 8.50 %$ 338,674 6.00 % First Financial Bank, N.A$ 1,031,864 18.32 %$ 478,738 8.50 %$ 450,577 8.00 % Common Equity Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,160,742 20.56 %$ 395,120 7.00 % - N/A First Financial Bank, N.A$ 1,031,864 18.32 %$ 394,255 7.00 %$ 366,094 6.50 % Leverage Ratio: Consolidated$ 1,160,742 11.65 %$ 398,660 4.00 % - N/A First Financial Bank, N.A$ 1,031,864 10.39 %$ 397,410 4.00 %$ 496,763 5.00 % 52
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Required to be Minimum Capital Considered Well- Actual Required Basel III Capitalized As of December 31, 2020: Amount Ratio Amount Ratio Amount Ratio Total Capital to Risk-Weighted Assets: Consolidated$ 1,273,749 22.03 %$ 607,038 10.50 %$ 578,131 10.00 % First Financial Bank, N.A$ 1,123,275 19.47 %$ 605,830 10.50 %$ 576,981 10.00 % Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,201,729 20.79 %$ 491,412 8.50 %$ 346,879 6.00 % First Financial Bank, N.A$ 1,051,255 18.22 %$ 490,434 8.50 %$ 461,585 8.00 % Common Equity Tier 1 Capital to Risk-Weighted Assets: Consolidated$ 1,201,729 20.79 %$ 404,692 7.00 % - N/A First Financial Bank, N.A$ 1,051,255 18.22 %$ 403,887 7.00 %$ 375,038 6.50 % Leverage Ratio: Consolidated$ 1,201,729 11.86 %$ 405,268 4.00 % - N/A First Financial Bank, N.A$ 1,051,255 10.41 %$ 404,002 4.00 %$ 505,002 5.00 % In connection with the adoption of the Basel III regulatory capital framework, our subsidiary bank made the election to continue to exclude accumulated other comprehensive income from available-for-sale securities ("AOCI") from capital in connection with its quarterly financial filing and, in effect, to retain the AOCI treatment under the prior capital rules.
Interest Rate Risk
Interest rate risk results when the maturity or re-pricing intervals of interest-earning assets and interest-bearing liabilities are different. Our exposure to interest rate risk is managed primarily through our strategy of selecting the types and terms of interest-earning assets and interest-bearing liabilities that generate favorable earnings while limiting the potential negative effects of changes in market interest rates. We use no off-balance-sheet financial instruments to manage interest rate risk.
Our subsidiary bank has an asset liability management committee that monitors interest rate risk and compliance with investment policies. The subsidiary bank utilizes an earnings simulation model as the primary quantitative tool in measuring the amount of interest rate risk associated with changing market rates. The model quantifies the effects of various interest rate scenarios on projected net interest income and net income over the next twelve months. The model measures the impact on net interest income relative to a base case scenario of hypothetical fluctuations in interest rates over the next twelve months. These simulations incorporate assumptions regarding balance sheet growth and mix, pricing and the re-pricing and maturity characteristics of the existing and projected balance sheet. The following analysis depicts the estimated impact on net interest income of immediate changes in interest rates at the specified levels for period presented. Percentage change in net interest income: Change in interest rates: September 30, December 31, (in basis points) 2021 2020 2020 +400 8.60 % 15.02 % 18.18 % +300 7.13 % 11.54 % 13.99 % +200 5.23 % 7.81 % 9.51 % +100 3.04 % 3.93 % 4.75 % -100 (5.57 )% (4.23 )% (3.46 )% -200 (8.24 )% (6.21 )% (5.44 )% The results for the net interest income simulations as ofSeptember 30, 2021 ,September 30, 2020 andDecember 31, 2020 resulted in an asset sensitive position. These are good faith estimates and assume that the composition of our interest sensitive assets and liabilities existing at each year-end will remain constant over the relevant twelve-month measurement period and that changes in market interest rates are instantaneous and sustained across the yield curve regardless of duration of pricing characteristics on specific assets or liabilities. Also, this analysis does not contemplate any actions that we might undertake in response to changes in market interest rates. We believe these estimates are not necessarily indicative of what actually could occur in the event of immediate interest rate increases or decreases of this magnitude. As interest-bearing assets and liabilities re-price in different time frames and proportions to market interest rate movements, various assumptions must be made based on historical relationships of these variables in reaching any conclusion. Since these correlations are based on competitive and market conditions, we anticipate that our future results will likely be different from the foregoing estimates, and such differences could be material. Should we be unable to maintain a reasonable balance of maturities and re-pricing of our interest-earning assets and our interest-bearing liabilities, we could be required to dispose of our assets in an unfavorable manner or pay a higher than market rate to fund our activities. Our asset liability committee oversees and monitors this risk. 53 --------------------------------------------------------------------------------
Liquidity
Liquidity is our ability to meet cash demands as they arise. Such needs can develop from loan demand, deposit withdrawals or acquisition opportunities. Potential obligations resulting from the issuance of standby letters of credit and commitments to fund future borrowings to our loan customers are other factors affecting our liquidity needs. Many of these obligations and commitments are expected to expire without being drawn upon; therefore the total commitment amounts do not necessarily represent future cash requirements affecting our liquidity position. The potential need for liquidity arising from these types of financial instruments is represented by the contractual notional amount of the instrument. Asset liquidity is provided by cash and assets which are readily marketable or which will mature in the near future. Liquid assets include cash, federal funds sold, and short-term investments in time deposits in banks. Liquidity is also provided by access to funding sources, which include core depositors and correspondent banks that maintain accounts with and sell federal funds to our subsidiary bank. Other sources of funds include our ability to borrow from short-term sources, such as purchasing federal funds from correspondent banks, sales of securities under agreements to repurchase and advances from the FHLB (see below) and an unfunded$25.00 million revolving line of credit established withFrost Bank , a nonaffiliated bank, which matures inJune 2023 (see next paragraph). Our subsidiary bank also has federal funds purchased lines of credit with two non-affiliated banks totaling$130.00 million . AtSeptember 30, 2021 , there were no amounts drawn on these lines of credit. Our subsidiary bank also has (i) an available line of credit with the FHLB totaling$1.64 billion atSeptember 30, 2021 , secured by portions of our loan portfolio and certain investment securities and (ii) access to theFederal Reserve Bank of Dallas lending program. AtSeptember 30, 2021 , the Company had no outstanding advances from the FHLB. The Company renewed its loan agreement, effectiveJune 30, 2021 , withFrost Bank . Under the loan agreement, as renewed and amended, we are permitted to draw up to$25.00 million on a revolving line of credit. Prior toJune 30, 2023 , interest is paid quarterly at The Wall Street Journal Prime Rate and the line of credit maturesJune 30, 2023 . If a balance exists atJune 30, 2023 , the principal balance converts to a term facility payable quarterly over five years and interest is paid quarterly at The Wall Street Journal Prime Rate. The line of credit is unsecured. Among other provisions in the credit agreement, we must satisfy certain financial covenants during the term of the loan agreement, including, without limitation, covenants that require us to maintain certain capital, tangible net worth, loan loss reserve, non-performing asset and cash flow coverage ratios. In addition, the credit agreement contains certain operational covenants, which among others, restricts the payment of dividends above 55% of consolidated net income, limits the incurrence of debt (excluding any amounts acquired in an acquisition) and prohibits the disposal of assets except in the ordinary course of business. Since 1995, we have historically declared dividends as a percentage of our consolidated net income in a range of 36% (low) in 2021 to 53% (high) in 2003 and 2006. The Company was in compliance with the financial and operational covenants atSeptember 30, 2021 . There was no outstanding balance under the line of credit as ofSeptember 30, 2021 and 2020, orDecember 31, 2020 . In addition, we anticipate that future acquisitions of financial institutions, expansion of branch locations or offerings of new products could also place a demand on our cash resources. Available cash and cash equivalents at our parent company which totaled$129.21 million atSeptember 30, 2021 , investment securities which totaled$2.50 million atSeptember 30, 2021 and mature over 8 to 9 years, available dividends from our subsidiaries which totaled$334.51 million atSeptember 30, 2021 , utilization of available lines of credit, and future debt or equity offerings are expected to be the source of funding for these potential acquisitions or expansions. Our liquidity position is continuously monitored and adjustments are made to the balance between sources and uses of funds as deemed appropriate. Liquidity risk management is an important element in our asset/liability management process. We regularly model liquidity stress scenarios to assess potential liquidity outflows or funding problems resulting from economic disruptions, volatility in the financial markets, unexpected credit events or other significant occurrences deemed potentially problematic by management. These scenarios are incorporated into our contingency funding plan, which provides the basis for the identification of our liquidity needs. As ofSeptember 30, 2021 , management is not aware of any events that are reasonably likely to have a material adverse effect on our liquidity, capital resources or operations. We are monitoring closely the economic impact of the coronavirus on our customers and the communities we serve. Given the strong core deposit base and relatively low loan to deposit ratios maintained at our subsidiary bank, we consider our current liquidity position to be adequate to meet our short-term and long-term liquidity needs. In addition, management is not aware of any regulatory recommendations regarding liquidity that would have a material adverse effect on us. Off-Balance Sheet ("OBS")/Reserve for Unfunded Commitments. We are a party to financial instruments with OBS risk in the normal course of business to meet the financing needs of our customers. These financial instruments include unfunded lines of credit, commitments to extend credit and federal funds sold to correspondent banks and standby letters of credit. Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in our consolidated balance sheets. AtSeptember 30, 2021 , the Company's reserve for unfunded commitments totaled$6.75 million which is recorded in other liabilities. Our exposure to credit loss in the event of nonperformance by the counterparty to the financial instrument for unfunded lines of credit, commitments to extend credit and standby letters of credit is represented by the contractual notional amount of these instruments. We generally use the same credit policies in making commitments and conditional obligations as we do for on-balance-sheet instruments. Unfunded lines of credit and commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. These commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. Since many of the commitments are expected to expire without being drawn upon, the total commitment amounts do not necessarily represent future cash requirements. We evaluate each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained, as we deem necessary upon extension of credit, is based on our credit evaluation of the counterparty. Collateral held varies but may include accounts receivable, inventory, property, plant, and equipment and income-producing commercial properties. Standby letters of credit are conditional commitments we issue to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers. The average collateral value held on letters of credit usually exceeds the contract amount. 54 --------------------------------------------------------------------------------
Table 10 - Commitments as of
Total Notional Amounts Committed Unfunded lines of credit$ 961,094 Unfunded commitments to extend credit 818,316 Standby letters of credit 39,080 Total commercial commitments$ 1,818,490 We believe we have no other OBS arrangements or transactions with unconsolidated, special purpose entities that would expose us to liability that is not reflected on the face of the financial statements. The above table does not include balances related to the Company's IRLC and forward mortgage-backed security trades. Parent Company Funding. Our ability to fund various operating expenses, dividends, and cash acquisitions is generally dependent on our own earnings (without giving effect to our subsidiaries), cash reserves and funds derived from our subsidiaries. These funds historically have been produced by intercompany dividends and management fees that are limited to reimbursement of actual expenses. We anticipate that our recurring cash sources will continue to include dividends and management fees from our subsidiaries. AtSeptember 30, 2021 ,$334.51 million was available for the payment of intercompany dividends by our subsidiaries without the prior approval of regulatory agencies. Our subsidiaries paid aggregate dividends of$53.50 million and$46.00 million for the nine-months endedSeptember 30, 2021 and 2020, respectively. Dividends. Our long-term dividend policy is to pay cash dividends to our shareholders of approximately 40% of annual net earnings while maintaining adequate capital to support growth. We are also restricted by a loan covenant within our line of credit agreement withFrost Bank to dividend no greater than 55% of net income, as defined in such loan agreement. The cash dividend payout ratios have amounted to 35.55% and 37.62% of net earnings for the first nine months of 2021 and 2020, respectively. Given our current capital position and projected earnings and asset growth rates, we do not anticipate any significant change in our current dividend policy. Our bank subsidiary, which is a national banking association and a member of theFederal Reserve System , is required by federal law to obtain the prior approval of the OCC to declare and pay dividends if the total of all dividends declared in any calendar year would exceed the total of (1) such bank's net profits (as defined and interpreted by regulation) for that year plus (2) its retained net profits (as defined and interpreted by regulation) for the preceding two calendar years, less any required transfers to surplus. To pay dividends, we and our subsidiary bank must maintain adequate capital above regulatory guidelines. In addition, if the applicable regulatory authority believes that a bank under its jurisdiction is engaged in or is about to engage in an unsafe or unsound practice (which, depending on the financial condition of the bank, could include the payment of dividends), the authority may require, after notice and hearing, that such bank cease and desist from the unsafe practice. TheFederal Reserve , theFDIC and the OCC have each indicated that paying dividends that deplete a bank's capital base to an inadequate level would be an unsafe and unsound banking practice. TheFederal Reserve , the OCC and theFDIC have issued policy statements that recommend that bank holding companies and insured banks should generally only pay dividends out of current operating earnings. 55
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