Prosperity Bancshares, Inc.
Q1 2008 Earnings Call Transcript

Published: 18 Apr 2008

[Operator:]

Hello, and welcome to Prosperity Bank’s First Quarter Earnings Conference Call. (Operator Instructions) I would now like to turn the call over to Mr. Dan Rollins. Go ahead, sir.

[James D. Rollins:]

Thank you. Good morning, ladies and gentlemen. Welcome to Prosperity Bancshares’ First Quarter 2008 Earnings Conference Call. This call is also being broadcast live over the Internet at www.prospertybanktx.com and will be available for replay at the same location for the next few weeks. I’m Dan Rollins, President and Chief Operating Officer of Prosperity Bancshares. Here with me today is David Zalman, Chairman and Chief Executive Officer, Tim Timanus, Vice Chairman and David Hollaway, our CFO. David Zalman will lead off with a review of the highlights of the first quarter of 2008. He will be followed by David Hollaway who will spend a few minutes reviewing some of our recent financial statistics. Tim Timanus will discuss our lending activities, including asset quality, and finally we will open the call for questions. During the call interested parties may participate live by following the instructions that will be provided by our call moderator, Katy, or you may email questions to [e-mail]. I assume you have all received a copy of the earnings announcement we released earlier this morning. If not, please call Whitney Hutchins at 281-269-7220 and she will fax a copy to you. Before we begin let me make the usual disclaimers. Certain of the matters discussed in this presentation may constitute forward-looking statements for the purposes of the Federal Securities Laws and, as such, may involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of Prosperity Bancshares to be materially different from future results, performance, or achievements expressed or implied by such forward-looking statements. Additional information concerning factors that could cause actual results to be materially different than those in the forward-looking statements can be found in Prosperity Bancshares’ filings with the Securities & Exchange Commission, including Forms 10-Q and 10-K and other reports and statements we have filed with the SEC. All forward-looking statements are expressly qualified in their entirety by these cautionary statements. Now let me turn our call over to David.

[David Zalman:]

Thank you, Dan. Good morning, and welcome to our First Quarter 2008 Conference Call. I am very pleased to report another successful quarter. Some of our successes this quarter include

[David Hollaway:]

Thank you, David. Net interest income for the first quarter of 2008 increased 12.8% to $51.9 million compared with $46.1 million in the same quarter last year. This was primarily due to an increase in average earning assets of 8.9%, which was mainly impacted by the TXUI acquisition. Non-interest income increased 8.6% to $12.7 million compared with $11.7 million in the same quarter of last year. This was primarily due to the increase in deposit service charges generated on the increased number of deposit accounts from the TXUI transactions. And I would note, as of March 31, 2008, we have approximately 332,000 loan and deposit accounts compared to 256,000 total accounts a year ago. On the non-interest expense side, first quarter 2008 versus first quarter 2007, we saw an increase of 6.8% to $29.1 million. Again, these increases were primarily driven by the TXUI acquisition. The tax equivalent in net interest margin, as mentioned before, was 4.03% for the first quarter 2008 versus 3.93% for the same period last year, and 4.12% for the fourth quarter 2007. And again, based on our March 31, 2008, asset liability model, we do see that the margins should improve and expand over the next few quarters, helped by the yield curve and our ability to continue to lower deposit rates, especially as we have the ability as our book of CD business starts to roll over. The efficiency ratio was 45.06% for the first quarter 2008 compared to 47.23% first quarter 2007 and 45.45% fourth quarter 2007 and our FTE, or full time equivalent, count at March 31, 2008, was 1,374, which includes the Banco Popular transaction. So taking out those FTEs related to the Banco Popular transaction, our FTE count was 1,326, which reflects a decrease of 33 from the year end number of 1,359. Our bond portfolio metrics at March 31, 2008, did not change much from December 31, 2007. The weighted average life was 3.97 years, effective duration 3.19 years, and the projected annual cash flow is approximately $450 million. One last note

[H. E. Timanus:]

Thanks, Dave. Non-performing assets at quarter end, March 31, 2008, totaled $17,554,000, or .55% of loans and other real estate compared to $15,390,000, or .49% at December 31, 2007. The March 31, 2008, non-performing asset total was comprised of $5,816, 000 in loans, $126,000 in repossessed assets and $11,612,000 in other real estate. Of the $17,554,000 in non-performing assets at quarter end March 31, 2008, approximately $1,417,000 has now been removed, primarily through the sale of other real estate and there is presently an additional $2,464,000 in other real estate under contract that may close. Net charge offs for the three months ended March 31, 2008, were $1,643,000 compared to net charge offs of $3,113,000 for the three months ended December 31, 2007. The average monthly new loan production for the quarter ended March 31, 2008, was $94 million compared to $110 million for the third [sic – fourth] quarter ended December 31, 2007. Loans outstanding at March 31, 2008, were $3,162,000,000 compared to $3,143,000,000 of December 31, 2007. The March 31, 2008, loan total is made up of 40% fixed rate, 32% floating, and 28% resetting at specific intervals. I’m now going to turn it over to Dan Rollins.

[James D. Rollins:]

Thank you, Tim. I believe we’re ready to take some calls—some questions now, if you can help us with that.

[Operator:]

We’ll take our first question from Barry McCarver of Stephens, Inc. Go ahead, sir.

[Barry McCarver:]

Good morning, guys. Great quarter. I was wondering if we could start off just on asset quality and hear a little bit more color about your thoughts on just sort of what credits in Texas are looking like, in general, and what you think the rest of the year might have in store, just for all the banks in Texas, on credit quality in general.

[David Zalman:]

Barry, this is David Zalman. You know, it’s hard to speak for all the other banks. I guess I can speak more for our bank. You know, just looking at it right now, I have a little bit of confidence that things should improve. That’s my gut feeling, just looking at where we’re at today and looking at past-dues and reviewing . . . .

[James D. Rollins:]

You’re speaking for our balance sheet.

[David Zalman:]

That’s for our balance sheet; that’s right. So, you know, I feel a little bit better about it, but at the same time, you know, we don’t want to be cavalier about it at all and we’re still planning and expecting to be almost the same as last year. That would be the downside. But in overall, my general gut feeling is that things do look like they’re improving—for us.

[James D. Rollins:]

For our balance sheet. You know, I think when you’re looking at the markets that we serve, I think the same things that everybody else is talking about apply to us. I think that across the state the housing market continues to be, you know, not in as good a shape as it has been for the last few years, especially on the lower end of the market. Commercial real estate, you know, there’s some strain in some of the commercial real estate. You know, some of the folks that I talk to in the real estate market, Barry, are watching the liquidity markets and they’re basically saying, “We’re going to sit on the side lines for four or five months and wait and see what happens.”

[David Zalman:]

Barry—again, this is David Zalman. It’s probably our—we’re colored a little bit because the loans that we’re working and the asset quality issues that we’re working through, probably 70% or more of them are from banks that we’ve acquired over the last couple of years. So, you know, if we weren’t having to work that we would probably be jumping up and down right now. But we’re still working through that. And I would say, again, if we didn’t have that and we were at our normal deal, that things still look pretty good, really.

[Barry McCarver:]

Okay. And just so I don’t get caught off guard, when you guys bring First Choice on the books mid-year, is there going to be any significant level of NPAs there that might bring your overall numbers up a little bit?

[James D. Rollins:]

No. Keep in mind that we’ve got a $3.1 billion or $3.2 billion loan portfolio; they have $180 million, give or take, in loans. So this isn’t the same type transaction that Southern or Texas United was, just off of the size line. And then as a part of the transaction, as we have done in our past multiple transactions, they’re disposing of some assets that will help us as we move into the combined merger.

[David Zalman:]

And just overall, just looking at banks and doing our due diligence, their loan quality is pretty good.

[Barry McCarver:]

Okay. Another question, really moving over to thinking about deposits. I see where average rate had come down a little bit for your deposit accounts. Is that a trend that you’re seeing accelerate in Texas at all or is it still pretty tough out there?

[David Zalman:]

I think it is. I mean, as rates have dropped we’ve been able to drop rates, also. And again, what’s impacting our margin, as David Hollaway said earlier, we still have--our CDs are still yielding, what Dave?

[David Hollaway:]

Shows, if you look in the press release last quarter, 4.45%.

[David Zalman:]

4.45% and so we’re probably paying for the same CD rate today 2.65%. So we’re seeing—we should see some significant improvement right there. I mean, it’s still competitive but I think people really do realize that, you know, there’s probably two or three other companies that we all know that are paying higher rates, and they have to pay those higher rates for liquidity, but I think most people know that and if they’re keeping money with them they’re really keeping maybe $100,000.

[James D. Rollins:]

The competition is still there. You know, I think that you see that—I think our story and our model has been consistent for a long time. You know, you see that with the deposit flows. We’re not out actively bringing in deposits, we’re protecting the deposit base we have and we’re watching the cost on those deposits.

[Barry McCarver:]

That’s good information. Thanks a lot, guys.

[Operator:]

Thank you. We’ll take our next question from Brent Christ of Fox-Pitt. Please go ahead.

[Brent Christ:]

Good morning, guys. This is a follow up on the credit quality. You mentioned that you had one of your larger ROE properties under contract, but can you just give us a sense—I know there’s a couple of lumpy credits in there—could you give us a sense in terms of the work out progress for those foreclosed properties.

[James D. Rollins:]

Yeah, Tim’s flipping pages so I can tell you. In the ROE properties there are four properties—four properties represent, you know, $8+ million of the $11 million and one of those is under contract. Another one of those, a piece of it has been sold. Tim, have you got your answers to some of that?

[H. E. Timanus:]

Well, if you look a the ROE at the end of the quarter, quite a bit of it was in four major blocks, two of which are retail centers, at about $2 million each. One of those is under contract and we’re hopeful it is going to close. One obviously never knows until you get the money. The other two, that total approximately $4 million, are residential-related and we have offers going back and forth but nothing under firm contract. So, I think if you look at the non-performing that we had at this quarter end compared to the year end, there’s good news and bad news there. The total number obviously went up but there weren’t that many new additions to the list. About 70%-72% of what is on the list now was also on the list at the end of December 2007. So, we didn’t really add, substantially, that many new credits to the list, which is the good news. The bad news is a quarter has gone by and we weren’t able to move all of them out. So it’s taking us a little bit longer to move them out than historically it has. But we see light at the end of the tunnel in that regard.

[James D. Rollins:]

All four of those big pieces were there at year end and through various excuses and issues, you know, none of them came off during the quarter; and we had expected one of them to go away and it didn’t. But some of them are under contract; we’re working them through and I think we’ll make progress this quarter.

[Brent Christ:]

And I guess with that in mind, then kind of your somewhat optimistic backdrop in terms of the credit quality picture, is it fair to think this could potentially be kind of your near-term peak level in non-performers?

[James D. Rollins:]

It’s hard for us to say that. We’ve been very hesitant—you know, I think we’ve been very consistent and said that, you know, when we did the two transactions over the last couple of years, we said we could get to 60-65 basis points, and I think it’s—I don’t think it would be right for us to say this is the peak.

[David Zalman:]

Brent, this is David Zalman again. Where we feel good about it--again, I think it would be premature and it would almost be cavalier on our part to say this is the bottom. I would like to just stay where we said that we operate within those ratios that we gave. Although having said that, I think it could be better than that.

[Brent Christ:]

Sure. And then maybe switching gears for a second, you guys obviously added a fair amount of deposits from the Banco Popular acquisition this quarter and it looked like the securities balances at the end of the period, also moved up fairly considerably. I’m just curious, I’m assuming you used most of those deposits and purchased securities and if that is the case can you give us a sense of kind of what you are buying?

[H. E. Timanus:]

Two items. Yes, one, we had $120 million or so of deposits from Banco Popular, but we also had a lot of money in overnight Fed Funds that really, you know, we were just waiting for the right products to buy. The mortgage department got, we feel, a little overblown and the product that we were buying really didn’t—we didn’t feel that it would yield enough. Once the market hit a point that we wanted to buy at, we really jumped in and probably bought, you know, $300 million or so, and bottom line, we’re still buying product that’s, not generic but it’s all—I’m going to have to say—it’s all 100% Fannie Mae, Freddie Mac, mortgage-backed securities with an average life of around 3.75 years that has a yield today of about 4.80%-4.90%; I don’t know what the 10-year is right now. And basically very little life extension; even if interest rates go up 300 basis points, most of the product that we bought would not increase their average life over one year.

[Brent Christ:]

Got you. Then the last question. You mentioned that the potential for a little bit of a rebound in the margin here, over the next couple of quarters, as deposits reprice downward. Can you give us a sense, in terms of how much in CDs you have rolling off over the next couple of quarters?

[David Hollaway:]

Yeah, looking at our book of business, most of our CDs tend to be short maturities, so we’re probably looking at, over the next 6 months, 50% of that book turning over.

[Brent Christ:]

Got you. Okay, thanks a lot, guys.

[Operator:]

Okay, we’ll take our next question from Brett Rabatin at Ftn Midwest. Go ahead please.

[Brett Rabatin:]

Hi, guys. Good morning. A couple of questions. First off, on service charges, I was curious, they were a little softer this quarter and I was just curious if there was any color on just kind of their performance there.

[David Hollaway:]

You know, we looked at that, because you’re absolutely right, they fall off. And we looked at it but I don’t know that there’s any clear answer here. You know, the historic trend, normally you speak of service charge as expand in the fourth quarter because of the, I guess, Christmas season and then you normally see them drop off in the first quarter. I don’t know if I can attribute that today. Again, when we look at it and you look at, and you’re really digging into our fee income, the biggest line item is service charge on deposit accounts. And the biggest piece of that is basically NSF charges. And they’ve just fallen off. And as a bank we haven’t changed anything, done anything, raised the charge or lowered it. So I don’t know what the answer is unless it’s a macro economic thing, where people are looking at every dollar and can’t afford the overdraft any more.

[H. E. Timanus:]

Your theory was . . .

[David Hollaway:]

The very opposite.

[H. E. Timanus:]

. . . is that that’s a lot of, you know—we don’t know if it’s right or wrong but when you go and fill up your car with gasoline and you’re paying $3.50 a gallon, we feel people may be strapped a little bit more and they’re watching their overdraft charge.

[David Hollaway:]

Yeah, and to speak to that point, it’s counter-intuitive to a sense. When I was talking to one of our banking center presidents out in our southern region of the franchise—and I didn’t prompt him to say that, but he brought that up himself—he said, “Yeah, I’m seeing my customers not being quite where they’re willing to write a hot check and have to pay that. . .”—whatever it is--$29, $30, whatever it is. They’re just watching every penny. So, that may be part of it. It will be interesting to watch in the next quarter and see if this trend continues, especially against the backdrop of high energy prices, high gas.

[Brett Rabatin:]

Okay. Go figure, consumers being smart. I wanted to talk about the reserve, too. I know you guys are great credit managers. I guess I was surprised the reserve was a little lower this quarter and so I’m just curious to hear some thoughts on your methodologies and I know it’s not a black and white answer, but I guess I was surprised your relative reserve probably was a little lower this quarter so I didn’t know if you wanted to give any color around that as well.

[David Zalman:]

David Zalman again. You know, it’s not black and white. You know, in the old days you used to say you wanted 1% in reserve and you put the 1% in there and in today’s world you have to have this elaborate methodology that takes into consideration a number of things

[James D. Rollins:]

But I think we believe that our methodology is accurate and sound and I think we want to continue to follow the process that we’ve got in place.

[Brett Rabatin:]

Okay. Great. And then just one last quick one on loan grades, which was on a core basis pretty strong this quarter. I’m interested if you guys give the monthly production and just where you saw those trends going and just generally your loan growth expectations.

[H. E. Timanus:]

The monthly production for this past quarter averaged $94 million. And we see it, I believe, as steady going forward. In the last handful of weeks we haven’t really seen a significant drop off in loan requests, nor have we seen a significant increase. So it seems to be basically holding steady.

[David Zalman:]

I’d like to add something to that, also, Tim, is that I--it looks more favorable to me, also, in sitting in loan committee where, say, a year ago, maybe even six months ago--we’re seeing loans now though, that we’re getting an opportunity to look at and bid on and being able to price it better than what we saw even six months or a year ago. You know, six months or a year ago when there were so many entities out there lending money that could just issue commercial paper and make loans, it was so competitive. Not so say that it’s not as competitive, but things, in my mind—or the way I see things—seem to be really be stabilizing and getting back to a real credit market with a lot of the other players that were in there that really didn’t have core deposits. They’re getting out of the business. Do you see that, Tim?

[H. E. Timanus:]

Yes, I think David is accurate in what he is saying. It appears to us that a lot of these lenders that in the recent past did not factor risk into their pricing are having to do so now. Unfortunately, not all of them do it, but more and more seem to be doing that. And it is enabling us to get a little better rate structure in what we’re doing.

[Brett Rabatin:]

That’s good to hear. Thanks, guys.

[Operator:]

Thank you. We’ll take our next question from Ereka Panela of Merrill Lynch. Please go ahead.

[Ereka Panela:]

Hello. I just wanted to follow up on a question on the reserves. Are you getting—or are you hearing from your peer banks about the regulators getting more fussy and perhaps encouraging—or becoming less methodology-intensive when it comes to the reserve?

[David Zalman:]

Ereka, this is David Zalman. You know, probably there’s different levels of regulators and I would say the people that examine us—they come in once a year at the FDIC and the state level—I don’t think that they’ve ever changed. I think that they wanted you to have as big and as good a reserve as you could always put in. Six months ago, or a year ago, on a higher level, their bosses in Washington and SEC, because of GAAP, was being so cautious that banks were being—that they were over-reserving. So, you know, I still don’t think that it’s changed on the level that we’re being examined on. I think that they want to see as much as we can and want us to put as much as we can. And we still have not heard that, though, from some of the higher levels. Dan, do you want to jump on that?

[James D. Rollins:]

Ereka, we just finished our annual exam here in the last month and, you know, we have great relationships with the examiners. The examiners are very pleased with the processes that we follow; we have no issues at all. I think there is good respect on both sides of the aisle and so you know, as David said, maybe the regulators are putting out different messages from the Washington headquarters to the field, but I think from where we are today and our methodology and the processes that we go through, we feel very comfortable that we’re on target.

[Ereka Panela:]

And I wanted to ask a question about M&A. You know, what are your thoughts in terms of doing more small deals in 2008 versus capital preservation and are pricing expectations getting any better?

[James D. Rollins:]

I wish that were true.

[David Zalman:]

I think it is. Let me say—you’ve asked probably two questions.

[Ereka Panela:]

Sorry.

[David Zalman:]

That’s okay. The environment of M&A, I think was the first one and then number two, price expectations. You know, we really—we have done some smaller deals, like the Banco Popular, and the First Choice—and probably are looking still at some smaller deals. At the same time, we have not been as aggressive this year as we have been in other years, primarily because we took on two very large transactions—the Southern National transaction and also Texas United. Just three years ago, in 2004, we were about $2.6 billion; today we’re about $6.4 billion, so we really wanted to get our hands around what we had and make sure that our back rooms, that our operations, that our lending controls, and everything was in place. So, because of that, we actually have pulled back from being as aggressive on the M&A. With regard to pricing, you know, I think when you first start talking to buyers out there, they haven’t changed. But in the back of their minds, they do realize that pricing has changed; and changed significantly. So, I think that, you know, I think that—I’m sorry, the sellers. The sellers, I think they do realize that. The real question is, will they be selling or will they just be waiting out until the market may change? I don’t know.

[James D. Rollins:]

I think what you have with us, Ereka, is the same thing that I was talking about earlier; I think we’ve got a process that we go through in our model. We’ve not deviated from that. I think we’re very opportunistic, we look for transactions that benefit, and that are wins for us, and if those opportunities come along, we want to look at them. You know, if they’re not priced appropriately, we’re not interested. If they’re bigger or smaller—as David said, I think, you know, we kind of felt like we needed to kind of keep our head down and do our job, but when opportunities present themselves, we’re interested in looking.

[David Zalman:]

I guess an overall flavor that I would say, Dan, is that, you know, maybe a year ago or two years ago if there was a deal out there we were a heck of a lot more aggressive than we are today.

[James D. Rollins:]

That’s right.

[David Zalman:]

Then we start negotiating. Today, if something seems unreasonable, we’re really not spending a whole lot of time on it, really.

[James D. Rollins:]

That’s right.

[Ereka Panela:]

And one housekeeping question. Could you give us an update on how your construction book breaks down in terms of raw land versus resi construction versus commercial construction?

[H. E. Timanus:]

Well, our total residential construction portfolio, which would include lots, land development, and houses being built, is about 15% of our total loan portfolio.

[James D. Rollins:]

That’s really not changed much in the last quarter. You can see total construction was down a little bit quarter-over-quarter but the breakdown is about the same as it was.

[Ereka Panela:]

Okay. Thank you so much for your time.

[Operator:]

Thank you. We’ll take our next question from Carl Dorf of Dorf Assets. Please go ahead.

[Carl Dorf:]

Hey, you guys. How are you? Good quarter. I’m just trying to back a little bit more--look at the reserving situation, in a little different way. And would you guys by any chance have the figure for your watch list at the end of this quarter and what it was last quarter?

[David Zalman:]

Carl, I didn’t know you were still alive. Good to hear from you.

[Carl Dorf:]

I’m still breathing. Thanks. [laughter] I have my original stock from you guys.

[David Zalman:]

You’re doing well, then. I don’t have that number, as far as the number you’re looking for the watch list, I guess. We’ve never published it. But you know, again, I don’t have it here in front of me, but I don’t think that it’s increased or decreased a whole lot. I mean, I think it’s pretty much like it is. I know you like real direct answers and I don’t have one for you; that’s about as good as I can give.

[Carl Dorf:]

Okay. Just thought I’d try. Thank you.

[Operator:]

We’ll take our next question from Jennifer Demba of Sun Trust. Go ahead please.

[Jennifer Demba:]

Hi. My questions have actually been asked. Thanks.

[Operator:]

Okay, thank you. We’ll go on to David Bishop of Stifel Nicolaus.

[David Bishop:]

Hey, morning. Following up on the reserve questions here, how should we interpret the increase in the [inaudible] provision this quarter? Is that more symptomatic of, Dave, what you were talking about in terms of some of the macro input that you’re seeing, that’s sort of compelled you guys to book that provision or is that some deterioration in loan grading or just maybe give us some color on that.

[H. E. Timanus:]

It’s an elaborate methodology and where we used to take five minutes to do it, it probably takes five hours, but I think the answer to your questions is, it’s a combination. It’s taking into consideration actual stuff that, you know—for example, when you put a certain loan in a watch list category, you classify it and based on what it’s classified whether or not you have a reserve for it or not. And so, as those lists change and the numbers change, your reserves is going to change based on that. But it’s also—there’s an economic variable in there, too, and you have to consider the economic variable, that economics are out there and that, you’re right, that deal did kick up on us because we can’t—even though we live in Texas, it would be imprudent to ignore what’s going on in the rest of the country. You know, a lot of the loans that we have that came over from acquisitions, basically there was higher loan reserves that those banks had. And they’ve had higher loan reserves specifically because the type of loans that they had were more at risk and so, we’re using that. But, again, it’s a two-answer question. It’s that, plus the economics have come into play. So, the bottom line is, this is not something that just popped up on us. It’s something that we were very aware of, it’s nothing new, I guess.

[David Bishop:]

Thanks. In terms of the—just another housekeeping item—the pure other expenses category, the line item. That looked to have about a $700,000 decline. Any sort of color? Is that just more clean up from TXUI?

[David Hollaway:]

Yeah, that would be spot on. Like we’ve been saying over the last few quarters if you recall, back last quarter, remember we said as we’re getting this thing—this TXUI transaction—more efficient we would see—we wouldn’t see as much expense in the fourth quarter; we’d start seeing it more into the first quarter. That’s what you’re seeing, just seeing getting this thing finally towards its end. And I’d like to add something to that. Also recall, we’ve always said on these transactions it takes us a full year to get our benefit out of this, from operational integration, and I just want to point out that remember on the TXUI bill--half that bank wasn’t converted until May—so I guess what I’m saying is we’re still working on that, there should be a little bit more. But any cost saves going forward that we’ll get in the next quarter probably will get offset just by the general expenses like insurance and merit raises and things like that. So I think we’re getting to a neutral position on expense reduction.

[David Bishop:]

Okay. Got you. And then finally, commercial real estate is still showing some good growth there. What types of projects or funding these days and have there been any changes in the types of loans here?

[H. E. Timanus:]

I don’t think there’s too much significant change, David. We’ve always looked at a variation of real estate loans. I think if there’s any softness at all in the markets we serve from a commercial standpoint, it seems to be more on the retail side than elsewhere. But it’s not pronounced. The office building market still seems to be very strong in Houston and in most of our markets. Mini storage still seems to work. Most industrial properties still seem to be doing okay. And we have historically looked at all those sectors and loaned into them, so I don’t think there’s a huge amount of difference right now. I would say we’re probably being a little more cautious when it comes to looking at retail shopping centers, as compared to the other categories, but once again, it’s not pronounced.

[James D. Rollins:]

Again, the model hasn’t changed. We’re smaller credits than many of the guys that are our size or bigger. You know, we’re still playing in the $1 million-$5 million range. We see a lot of credits in there.

[David Bishop:]

Thank you.

[Operator:]

We’ll take our next question from Lozan Alksandaov of Fig Partners.

[Lozan Alksandaov:]

Good morning. I have a couple of questions, first of all with regards to [inaudible] 157 and 159, can you tell us if you designated any of your securities [inaudible] to Level III?

[James D. Rollins:]

As far as that, that’s the stuff that’s not trading.

[David Hollaway:]

We don’t have a trading bond portfolio. Everything’s classified as either held in [inaudible] or available for sale and the bulk of it is in HTM. Is that what you’re asking?

[Lozan Alksandaov:]

Yes.

[David Hollaway:]

So, them not being in a trading-type environment, it really doesn’t have an impact for us.

[H. E. Timanus:]

And then the products we’re buying are all highly-marketable AAA.

[James D. Rollins:]

[inaudible] non-marketable, Level III stuff that he’s talking about.

[Lozan Alksandaov:]

And it seems like you had some gain in other accumulated [inaudible] for income, can you tell us a little more about that?

[James D. Rollins:]

I’m sorry. We had what?

[Lozan Alksandaov:]

A gain, this quarter. It [audible] compared to the previous quarter on the other accumulated income.

[James D. Rollins:]

Other income?

[David Hollaway:]

There’s nothing specific but I think what you’re referring to is on the AFS portfolio, the unrealized gain in losses?

[Lozan Alksandaov:]

Sure.

[David Hollaway:]

Yeah, and again, that—if there’s an increase, that’s just the unrealized gain on the AFS security. Just because of the rate drops [inaudible] portfolio, that’s something we could talk about. You see it in the comprehensive income line, you see we actually have a gain because rates have dropped and made our portfolio more valuable, but then let me just add some color to that. Our overall portfolio, I mean, if you’re looking at everything—AFS and HTM—if we have, as a 331, the gain in that portfolio was $30 million. We had over a little over $30 million today, and if I recall, David, three months ago—a couple of quarters ago—there wasn’t a gain in that.

[David Zalman:]

It was just flat; yeah, about even.

[David Hollaway:]

So it’s a reflection of where rates are today.

[James D. Rollins:]

But we’re not trading in that portfolio. We don’t have a trading portfolio.

[Lozan Alksandaov:]

I just want to make sure that there’s nothing unusual there. That’s it, thank you.

[Operator:]

And we’ll take our last question from Jon Arfstrom of RBC Capital Markets.

[Jon Arfstrom:]

Good morning, guys. David, a question for you. It seems like the bank could have capacity to grow, would seem to have better long-growth opportunities right now and you alluded to that earlier. And I guess the question is, are you comfortable enough with some of the pricing and the terms and the structures that you’re seeing now, what we might see, a little greater long growth over time assuming that it stays the way it is?

[David Zalman:]

Yes. I could elaborate, but my gut feeling is yes. I feel like if things—I think there are some real opportunities and possibilities. I guess if—you know, we could probably be deviated—you know, when we’re not doing acquisitions we’re really focused on building loans and it’s always hard maybe for outsiders to see or maybe even believe, that when we did a lot of these acquisitions it took so much of our own manpower because we didn’t really hire outside consultants to go in and do the due diligence or to train the people or anything else. And so growing the way we did, we used a lot of our manpower for the acquisitions where when we don’t have the big acquisitions it’s much easier—those people are in their offices and they’re building loans.

[Jon Arfstrom:]

And the other related question. I remember covering you when you had a loan to deposit ratio of 38% or 39%.

[David Zalman:]

35%, Jon.

[Jon Arfstrom:]

It changed a little and I guess the question is how high do you feel comfortable taking that loan to deposit ratio?

[David Zalman:]

You know, probably it’s not just the way I feel about it. Our directors are pretty—they have some strong feelings about it because most of the directors are directors that lived through the 1980s and they saw the banks that survived through the1980s in Texas were banks that had reasonable loan to deposit ratios. So I don’t think you’ll ever see—you should never say never, I know—but I don’t think you’ll ever see us at a 95% or maybe even 85% loan to deposit ratio. I think probably for the high side you’ll see from us is probably 75%, probably. Maybe 80% but probably more like 75%.

[Jon Arfstrom:]

Okay. Great. Thanks.

[Operator:]

And it appears as though we have no questions at this time.

[James D. Rollins:]

Thank y’all very much, ladies and gentlemen. We appreciate your help and your support. We look forward to seeing you out on the road. Thank you very much.