IBTX (IBTX) 2016-11-23 Earnings Call Transcript

Good day ladies and gentlemen and welcome to the Independent Bank Group, Inc. conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session, and instructions will be given at that time. [Operator Instructions] As a reminder, this call is being recorded. I would now like to turn the call over to David Brooks, Chairman and CEO. You may begin.

Thank you. Good morning, everyone. I appreciate you joining this morning, as we bring some color hopefully to this important and transformational acquisition we announced last night of the Carlile Group. Let me start. There is a slide deck on our website, our Investor Relations website if anybody has not seen that. I will refer to that slide deck a few times during the presentation this morning and will take calls right after that. Start with the strategic rational of the transaction on page three of the slide deck. We are picking up $2.3 billion of assets, approximately $1.7 billion of that is in Texas and $650 million or so of it is in Colorado. This does a number of important things for us, starting with material expansion of our presence in market share in the Dallas/Fort Worth MSA. Especially and more particularly, it’s our entrance into Fort Worth and Tarrant County, which is a market that we have long desired to be in. Always felt like we would need to acquire into that market to be successful there. And then, in addition to that, it gives us a material and significant presence in Denton County, which is one of the faster growing counties in the State of Texas, lays just to the west of our primary Collin County headquarters market and is, as I said, growing rapidly. The original Northstar franchise that made up the largest acquisition that Carlile did was headquartered in Denton and Denton County. So, they have a very strong historical presence there. And then, it also marks an entrance for us into Colorado. The Denver and Colorado Springs MSAs and that dynamic I-25 corridor between really we think of it Fort Collins on the North side all the way to Colorado Springs; so Denver, Colorado Springs. And we have some experience in that marketplace, not from a banking standpoint, but just as we’re heavily involved, as you know, in the Austin banking market and a number of the tech companies that are moving to Austin from the West Coast, chose between Denver and Austin. And so, we believe that that Denver and South Colorado Springs section has a very strong tech component to it as well as very high growth, high income strong demographics. And so we are interested in that market. If you look at quickly the Carlile on page four, they started this strategy Carlile did in 2009, and they made six strategic acquisitions from their inception through now. Two of those in particular, the Northstar franchise that was headquarter in Denton, as I mentioned earlier and then the Community Bank franchise that was headquarter in Fort Worth, gave them their primary footprints in Denton County and Tarrant County. And despite the fact that the company itself, Carlile is about seven years old, the underlying banks have long and rich traditions in those marketplaces and strong market share. So, we really look underneath the parent holding company and to the banks themselves, and there is a strong and good tradition there. The deal -- transaction summary is on page five. We have agreed to give them $434 million of our stock based upon VWAP that we agreed to a couple of weeks ago. And that leads to the numbers and the metrics that are outlined here. We also did a common equity raise as a part of this. And we consider the acquisition announcement and this common equity raise of $21 million to be part of the same transaction. And that equity raise came about when we had been talking about a 100% stock deal with Carlile. And when it turned out that we really got down into the issue of the options that they had outstanding and that the need to cash those options out which we currently estimate to be just under $14 million but that’s a variable number that could go up, and so, we decided that rather than reduce the amount of stock that we were issuing in the transaction that we would just go issue that stock in a private placement. And that was done late last week and concluded yesterday as part of this acquisition. If you look at the deal metrics, price/tangible book value of 2.13, price to 2017 earnings estimated at 17.5 and a core deposit premium of 13.7% that’s inline, in some metrics a little less than we have paid for Bank of Houston two years ago. And we feel like that’s a fair valuation for both sides, and the metrics are certainly good on both sides I believe. We are assuming 35% cost saves. Michelle is here and she can give some more color on that, if you like it, in the Q&A, and there are some more details in there. With the $21 million equity raise, we’re estimating this to be 3.8% accretive in 2017. We’re estimating a second quarter close to the deal. So, that impacts the earnings accretion to some extent. And then, obviously all of the conversion and many of the cost saving initiatives that we’ll undertake will take place in 2017. So, the first four year when we’ll realize the benefit of all that would be in 2018, where we’re projecting an 8.4% accretion to our earnings per share. We have calculated tangible book value per share accretion on this deal at the close of 1.6% approximately and an IRR estimated at 20%. One of the things that I’ve said clearly in our last few quarterly calls when we had questions around our capital levels and capital ratios as well as that we felt like we could adjust those capital ratios with the material acquisition, and we are doing that with this acquisition. I think that’s an important component of what we’re doing. You can see there on slide seven, the leverage ratio is going up 65 bps, the Tier 1 common and Tier 1 risk based ratios are both going up just under 1%. And our total risk based capital ratio is also going up accretive in this to 11.5%. One that’s not listed here, but I think you may be curious about is our TCE ratio is going up from currently 6.9% to pro forma 7.7% in this transaction. So, a material increase in all of our capital ratios. And that was intentional on our part. Slide eight just shows how the footprint fits together and gives you a feel for the current Independent Bank Dallas/Fort Worth footprint and then the lay-on of the Northstar footprint, beside it is really transformational for us in the whole Dallas/Fort Worth metroplex and our presence there. If you look at page nine, has the highlights on the Denton County piece of that which is the northern part of their footprint and lays just to the west, as I mentioned earlier of Collin County in our footprint, and there is metrics there that projected growth of Denton and Tarrant counties both very strong and exceeding Texas and the nation of course, median household income, again in Denton County very compelling. If you look back to page 11, there are some details on the Carlile footprint, Northstar footprint in Colorado. It is primarily most locations along that high I-25 corridor that I referenced earlier and then there are four locations on the east side of Colorado that’s in the more agricultural area but also attractive area as well. Again, when you look at the Denver, Colorado Springs growth rates and household income metrics, you will see how attractive those are as well. With that, I’d like to wrap up my comments by saying that A, we believe this is strategically very important for us; it gets us into markets that we want to be in; it enhances our presence in the markets that we’re already in. In the case of Austin, they do have a footprint and some locations in Austin which will fit very nicely with what we’ve got in Austin already. So, between enhancing our Texas Dallas/Fort Worth, Denton County and in Austin and then picking up an opportunity to enter the Colorado market as well are both and all strategic for us. Importantly here I think if you look at the metrics, as I said, it’s accretive to earnings and tangible book value materially at the inception and in the first full year of earnings but it’s also accretive to our regulatory capital, which I mentioned and pointed out a moment ago. It also improves some other important metrics for us including our loan-to-deposit ratio goes down, our exposure and concentration in commercial real estate and construction development also goes down as a component of this merger, and it also improves our overall cost of funds. And so, on all the metrics that we are monitoring and that we look at in an acquisition, core deposits and in this case improving our capital, lowering our CRE concentration and improving our loan-to-deposit ratio in addition to the normal metrics we look out of earnings accretion and tangible book value accretion. So, on all those fronts, we feel like it’s compelling. It does move us up the ladder, if you will, will make us the ninth largest Texas-based bank by assets, eighth largest by deposits. And as of this past September 30th, we would have been $8 billion combined. We are estimating out in the second quarter of 2017 when we expect to close this that we’ll be between $8.3 billion and $8.5 billion in assets at that time. With that, I will take a pause in my comments and we’ll take time for questions. Operator?

Okay. Alight, great. Thanks and congrats on this deal, guys.

Thanks so much, Brady.

There are no further questions. I’d like to turn the call back over to David Brooks for any closing remarks.

Thank you for those of who you have stuck with us for an hour and 10 minutes. Thank you for that. We are very excited -- I think you can tell about this opportunity. And we are looking forward now to beginning the roll up your sleeves heavy work of figuring out a great strategy to put these companies together. We think we’re better equipped to do that now than we ever have been. And so, we’ve encouraged, optimistic and we are looking forward to a hopefully early second quarter closing on this acquisition. In the meanwhile, we’re going to continue to run a good company, continue to focus on costs internally in the current organic -- sorry current Independent Bank model and corporate company. And so, we’ll continue on business as usual on our front and then picking up this acquisition transition going forward. Continue to be confident, I have not been more confident in the 3.5 years that we’ve been public in our ability to execute our strategy of growing organically, growing with strategic acquisitions and doing it under an umbrella of clean and strong credit quality and asset quality; so, no change in our strategy. We’re just going to be a little bigger and looking forward to the future. Thanks for joining.

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program and you may all disconnect. Everyone, have a great day.

[Operator Instructions] Our first question comes from Michael Rose of Raymond James. Your line is open.

Hey. Good morning, guys. How are you?

Hey. Good morning, Michael.

I just wanted to talk about the pro forma CRE concentration. It looks like you guys will still be over 300%; any kind of thoughts on your comfort level there? And how did you come up with the amount of capital to raise the support of this part of the transaction?

Thanks, Michael. We will so have a concentration in commercial real estate. As we’ve said many times, we have historically been a real estate lending bank and will continue to be so in the future. It does lower that ratio by 50% though from about 415 down to about 365. We were comfortable at 415 frankly but we understand the optics and it being 365 looks better and feels better certainly to regulators and our Board as well. That said, we have not had pressure to lower that ratio. But one of the nice things about this acquisition is it does enhance those capital ratios as well. And we are picking up -- one of the things I did not mention in my comments earlier, Michael, but maybe to point on your question is, the Northstar franchise also has some business lines that we were interested in. They’ve got a very strong and compelling retail mortgage operation; they’ve got a mortgage warehouse, small, very small mortgage warehouse line of business that we think may be able to be scaled; and then also, they’ve got a strong history of SBA lending and SBA platform where they’ve generated SBA loans and held them for their own portfolio. So, we think those businesses are scalable across our footprint. And there may be some revenue synergies there. The revenue synergies are not built in to this, into any of these models. And in terms of how we determine the amount of capital, Michael, it is really just a matter of we wanted to do a deal that was capital accretive for us materially on our regulatory ratios as well as our TCE ratio. And we felt like that that would position us then to possibly grow and expand these other lines of business that we’re picking up as a part of this acquisition.

Okay. That’s helpful. And I know it’s still ways away, but what’s the strategy for Colorado; is that a market that you’d want to ramp up the growth and hire over time?

Well, it’s interesting market. I’ve said and been asked a number of times in the three and a half years we’ve been public, if we plan to go acquire a bank out of state, and my answer to that has been no, that’s not in our plans. So, the opportunity here to pick up 1.7 billion, 1.8 billion of premier Texas assets was obviously what primarily and first of all got our attention about Carlile. And we’ve known that leadership group, management group for a long time. The Colorado piece was again, while we would not have gone and acquired a $650 million bank in Colorado, at the same time, the fact that it comes with this package was interesting to us and is intriguing to us. They also have some really strong leadership that they have built in that Colorado franchise and some strong bankers, strong lenders with long and deep Colorado roots and ties. And so, obviously, the confidentiality around a deal like this precluded us from going to Colorado and doing a branch tour and meeting all the people and doing all those things until this was announced. So, we’ve got some work to do between now and next spring to determine what that book of business of their looks like and what the opportunities are to grow it. We’re a Texas franchise. We intend to continue to focus obviously proportionally the vast majority of our efforts in Texas. However, Colorado and especially that corridor, I-25 corridor is very attractive market, one of the more attractive markets in western United States. So, we think it bears some real consideration and study to see if there’s a strategy there that makes sense for us. Clearly, at $650 million, that’s not really big enough in the scheme of things. And so, we’ll have to figure out a way to grow that piece of business whether it’s organically or with another small acquisition. We’ll have to see. All those things are on the table. But our Board is certainly open to the idea of being in Colorado. We’ve just got to make the business case now, once we have announced this and we can go up to Colorado and spend some time evaluating that market.

And maybe just one more for me for Michelle. What are the estimated one-time costs for the deal? And then, of the cost savings, how much of that is personnel, maybe versus branch closures?

We’re estimating 1% of deal cost on the buyer side; and then, I think the seller is estimating $12 million after tax cost. We’re very confident that the 35% cost saves that we’re using -- one thing that’s important to note is that they just now put their two bank charters together. They had a separate charter in Colorado and Texas. And subsequent to third quarter, they combined those charters. And so, they’ve done some work themselves in starting on the cost saves. But their efficiency ratio is still up in the high 60s. And so, you can imagine on -- during the due diligence, that’s where most of my efforts have been focused to make sure that we can realize those saves. We’re evaluating that. And there’ll be cost related to compensation, cost related to bank rationalization, but...

Technology.

Technology. So, we’re very confident in the estimates that we’re using on cost saves.

Our next question comes from John Pancari of Evercore ISI. Your line is open.

Good morning, David and Michelle. A few questions. The tangible book value earn-back count, is that based on the static approach?

Well, there’s no tangible book value dilution, John. So, since the TBV is accretive, at the closing, I’m not sure what methodology you would use, if there’s no TBV dilution.

Yes. My fault with the earn-back. That’s fine. And then in terms of the deal, just wondering, was this negotiated transaction or were there others at the table?

Good question. John, we had a long relationship with them, as I mentioned, with the Carlile folks and Tom Nichols and his leadership group and some of their board members for a long time, meaning several years. We go back actually with the Northstar franchise. They have been competitors and friends of ours for 12, 14 years here in Collin County. That said, we’ve maintained that relationship. I’ve always expressed an interest in Carlile. And then, I thought that there could come a time where it would be a good fit for us to put the companies together. I think our discussions -- my discussions with Tom Nichols began to take on a little more meaning around these issues sometime last summer. And then, we just began to kind of brainstorm about how, what it might look like. At one point, as you would expect them to do, they hired -- when we got far enough along, they hired a banker on their side, and I believe that banker talked to some other potential acquirers that expressed some interest in the past in Carlile. There was no formal process. Their Board evaluated their options, and I think it came down to ultimately did they feel like they had a better chance to create value the next two to three years owning Carlile stock or whether they could create more value for their shareholders by doing a trade now into Independent Bank stock and going with us. And their Board ultimately decided a couple of months ago or six weeks ago that they wanted to go the route of merging with Independent Bank. And so that’s as much color as I really know, John, on what was going on behind the scenes right on their side. But I do believe that the deal -- I know the deal was a negotiated transaction between us and them that was strategic for both sides. You might note, they do have a number of private equity investors that were original investors in Carlile over the last seven years. And those private equity groups have agreed to a 12-month lockup on their stock. They are intending to hold the stock and be investors with us here, at least in the short to mid-range. And I think that’s indicative of what their thinking was. So, we don’t think of it as having been an auction, but I do know other people were -- talk to and contact which you would expect the Board and doing their fiduciary responsibility would certainly check around and see who other potential buyers were out there and potential partners and then they evaluated up the potential partners and chose to try to make a deal with us. And so, we entered into a negotiated transaction.

Got it. Okay, that’s helpful. And then, in terms of the overall regulatory environment, I wanted to see if we can get your updated thoughts in terms of Trump and what your thoughts are here as you approach $10 billion? I know you’ve said in the past that you’re going to seriously think about the asset base as you get near $10 billion, and part of that rationale has been the regulatory implications of crossing that level. So, what are your updated thoughts now post the Trump election? Is that still asset threshold that you weigh heavily?

Clearly, John, we are -- have been aware of the $10 billion threshold. As we’ve talked to the regulators around this transaction, that’s been part of the dialogue, has been -- if your pro forma second quarter of 2017 at $8.5 billion, then you guys need to be busy about preparing for that threshold. And we understand that and have understood that for the last couple of years, as we’ve continued to grow. Everyone is trying to figure out what the -- two weeks ago, this morning our kind of political outlook in our country and everything changed materially from what we expected Tuesday morning two weeks ago to where it was when we woke up Wednesday morning two weeks ago. Everyone is hopeful, we were on the road last week meeting with investors on the Eastern Seaboard and talking -- and not about this deal of course, but talking about that and that was one of the biggest topics of conversation, was what the potential benefits or downsides were of the regulatory regime here going forward. I think it’s just too early to tell, John, on that. We’re hopeful and others are hopeful, but we were asked the question of what is the single most material thing that they could do to improve Independent Bank’s prospects. And obviously corporate tax reform would be huge. We pay an effective rate of 33% in taxes; and to the extent that comes down to a lower number, obviously that would be huge. I’ve seen some analyses out there by some of the analysts, looking at the effect of that. The $10 billion threshold, I think you just can’t sit back and hope that that changes. We’re clearly making plans already on how we’ll build for that. Because we don’t have a strong retail bank history, the amount of Durban income that we have, Michelle’s estimated at about $1.8 million today, if we were to go through $10 billion. So that’s not a huge number. We think the regulatory cost of doing the DFAST and building the model and hiring the consultants and putting together a team to do the testing and additional compliance issues are probably in the $3 million to $4 million range for us. And so, our cost of going to $10 billion, we think is $5 million, $6 million on annual run-rate. And given our margins and everything, we certainly -- that’s not a big -- not as big a hurdle as maybe we thought it was a couple of years ago, as we’re growing now. And we picked up our profitability and efficiency ratios continue to come down. So, we think we could -- we can go through $10 billion. And so, our view is that given the economy, the optimism in the economy, John, the strength of all bank stocks across the country right now that this is a time where we’re going to be an acquirer, this is a material and transformational sized deal for us. It gets us to that $8.5 billion, but I used to think John that if you got to $8.5 billion, $9 billion, $9.5 billion that you’d be out shopping for $5 billion or $6 billion bank to make it work at that point, if you were going to through it. I know longer think. I think you can -- we’ve always said, we’re an organic growth company and a strategic growth acquisition growth company. And I think a combination of our organic growth rate and a couple of more strategic acquisitions will put us comfortably through $10 billion, if that’s the opportunity that presents itself. So, we intend to pursue that hard.

Alright. David, thank you. And if I could ask one more quick one, sorry, it’s been a while.

Go ahead.

That $434 million purchase price, does that include the $13.7 million in cash out on the option?

Yes, exactly.

Our next question comes from Kevin Fitzsimmons of Hovde Group. Your line is open.

Good morning, everyone.

Good morning.

Hi, Kevin.

Hey. David, just wondering -- I know, I heard your commentary earlier about the rationale on raising the capital on why you did the amount you did, but just curious with the run that we’ve seen in bank stocks recently here and just maybe was wondering if you got -- was wondering was there any discussion amongst yourselves about -- and I am assuming it was interest when you guys went out to raise capital among investors. Was there any discussion among your part to raise even more, at this point, and just be opportunistic with it?

No, we felt like this puts us about a 100 basis points on the TCE ratio, Kevin, above where we were a quarter ago. So, we’ve been in that 6.7 6.8 range, this takes us to 7.7 on the TCE ratio, gets us -- keeps us and gets us to 11.5 or better on the regulatory risk-based ratio on consolidated basis. So, we feel -- I mean, those are the strongest ratios we’ve had since our IPO since once we invested our IPO proceeds, those are the strongest ratios we’ve had. That’s been informed by just the last 3.5 years of watching how the markets have reacted. And so, no, we feel like that gives us plenty of run room. Our profitability right now, Kevin, we’ve maintained 85 plus percent of our net income inside the bank for growth. And between that stream of capital we’re generating ourselves and this capital ratio, it shows that we can meet all of our organic growth targets in the next couple of years. And so, we felt like this is more than adequate capital right now. And we’ll continue to be paying attention to that. Our Board is very aware of that issue, something we talk about on a regular basis. But the $21 million in capital we raised, really we did not plan until last Thursday to have a capital raise as the part of this, but it just really came up in that. The Carlile Group decided, they really needed those options to be cashed out and really desired for those options to be cashed out. So, and John asked this question right at the end of his time a minute ago, it is the 434 million of all stock but those that option price currently just under $14 million. So, if we would have closed the deal today, we would be giving them 420 million of our stock and 14 million in cash. And if our stock goes up, Kevin, then because the option value would continue to go up between now and the close, we ran some modeling that showed that that number could be 17, 18, maybe 20 million in certain scenarios. And so when we decided to go get the capital, we were really just getting the money to pay those options, knowing that we will get that stock back, if you will, in the way we think about it. If that option price ends up being 20 million, we’ll give them 414 million of our stock and 20 million of cash. And meanwhile we will have sold $21 million worth of stock to these investors. And so that will wash out to keep us in that $434 million, $435 million of our stock being issued as a part of this transaction. So, as I said earlier, that’s why we thought about this capital raise. Really we weren’t sitting to the side ready to do a capital raise at the first acquisition. We really thought that the -- that this acquisition, the way we had it structured was getting us to these capital ratios. But then, if you start running other scenarios, Kevin, that show 13, 15, 17, 20 million or more coming out to pay off those options, then that meant we were issuing less stock and these capital ratios began to come down, and we had certain targets and thresholds we wanted to accomplish with this. And so, we decided last Thursday to go out and raise this $21 million. And as you said, yes, there was significant interest; it was well oversubscribed the way we -- in that terminology. So, we could have raised much, much more than $21 million. And we know and have -- you can imagine what bank stock is doing what they’re doing the last few weeks. Our phone’s been ringing off the wall, I’m sure every Texas bank’s has with people offering to do capital raises, telling us the virtue of raising capital. And we understood that but at the same time we knew this was in the pipeline and that we were going to be able to address our capital with this deal.

Okay. That’s very clear. Thanks, David. Just one longer term question looking at the franchise now. You made the point earlier that you’re still primarily a Texas based bank and you’re going to look to expand there and now you’ve got Colorado and you’re going to look I guess at how and when you’re going to expand there. But there’s a whole lot of geography in between there. Is there any merit to having a more contiguous footprint? Longer term, do you see this bringing up any opportunities to fill in, in between, or is there not really much in between that interests you?

Well, there’s certainly. I mean, I guess we got to write off the whole state of Oklahoma and New Mexico to say no to that question, Kevin. But our thought again was not that we felt like we had to go out of state to find opportunities to grow our franchise. This came with a Colorado piece to it. And I would say to you just again because of the lessons of the energy packs the last couple of years, I think Oklahoma has a terrific economy, but it is certainly more tied to energy than the Texas economy is or certainly the Colorado economy. And so, one of the things we really like about Colorado, and I think in the past when I was pinned down, people said we know you’re not planning to do it but if you did where would you go, I always mentioned Oklahoma and Colorado was the two states that would be possible for us some day, if we decided to go out of state. But, given our footprint here in Texas being all the major metropolitan areas with the exception of San Antonio now, we’re in the four of the five growth in metropolitan areas in Texas. And really if you look for another growth market that looks similar to where we’re at now, Denver, Colorado Springs would have some of the complexion of Dallas/Fort Worth and some of the complexion of Austin, if I were trying to compare it to our current markets and I think more so than any of the other markets surrounding us. So, if you would have said hey, tell us where outside in the three or four, five states that lay around Texas, where would you go, if you just were going somewhere to a market that felt a lot like the markets you’re banking in Texas, it would be that Denver to Colorado Springs, I-25 growth corridor that we would have gone to. So, I think in that case, it just works out that we’re going to be given an opportunity here to put together a strategy in that corridor.

One last one for Michelle. Michelle, do you know off the top of your head, pro forma, what goodwill and CDI would be, post deal?

I don’t, I don’t know that off the top of my head.

I’m sure, Kevin, if you guys are trying to model this up, I saw your note this morning, but Michelle will be available, I’m sure right after the call, if you guys need some help on that.

And ultimately that’s really not determined until close anyway.

Our next question comes from Michael Young of SunTrust Robinson Humphrey. Your line is open.

I just wanted to start off with maybe your pro forma assumptions. Obviously, saw the cost takeout but wanted to get your thoughts on loan growth going forward, kind of what you are assuming for the franchise and then also are there any interest rate hikes assumed through 2018?

Michael, I’ll address the growth assumptions and let Michelle talk about the interest rate increase scenario in our modeling. We modeled this deal to be Independent Bank growing at 12% and the Carlile piece of the combined entity growing at 7%. So that’s the modeling that we ran, was the Denton, Fort Worth, Austin and Colorado piece is growing at 7%, and the current Independent Bank footprint growing at 12%. And Michelle, you want to talk about the interest rates?

Our modeling assumptions are just based on our consensus estimates, Michael. So, I don’t believe there’s built in, at least in our numbers, in the interest rate, not any that we’ve determined recently that we think interest might go up. And the Carlile numbers are based on their budget which also I don’t believe includes any additional interest rate increases.

Good point, yes. I forgot about that. I kind of misunderstood the question, Michael. But, the modeling itself just took our consensus analyst estimates for 2017 and 2018, and then we just built upon that going forward. But, our interest rate increases, we do have two embedded, one embedded in December and one embedded next June 30th in our budget for 2017. So, we’re expecting some interest rate increases in our modeling for it. But, it wasn’t anything additional to what the analysts already had in our model.

I just wanted to ask as well, the purchase price that was based on $47.40 per share but the stock is about 15% higher today. So what’s -- I don’t know, Michelle, if you have sort of a breakeven point on tangible book value or just how you guys are thinking about the pro forma financials for the higher stock price now, obviously subject to change between now and the deal close?

Well, they’re committed to delivering $200 million of tangible equity us at the close. And so, what our stock price does in the meantime, within certain boundaries really doesn’t affect the -- increase or change the amount of goodwill we book, but it’ll not change the amount of tangible capital that we end up with. And so, our -- the numbers that we had in here about tangible book value accretion and earnings accretion will not change, based upon what our stock price does. To your point, Michael, our stock price, it posed a bit of a challenge during this deal. You might imagine that when we entered into the LOI with Carlile a few weeks ago, our stock was trading at $43.5 to $44 and then it started going up prior to the election. And then obviously since the election, we and everyone else have gone up dramatically. And so, how you account for that or factor that into, it’s just really a negotiated. The $47.40 happened to be the VWAP about a week ago or 10 days ago when we decided to come together and figure out a number of shares that made sense for both sides. And that’s how we got there. But clearly the market value of those shares today is higher than 434 million. But that can change and will change pretty much every day for the next four or five months, while we get this thing closed. And so really, we dealt with what the negotiated price was and how we modeled it. But the material assumptions in our model do not change based upon whether the stock goes up or down. It will change the amount of goodwill that gets booked, but beyond that, it doesn’t change the tangible equity, it doesn’t change our forecast for earnings accretion. And so, I don’t know if that is a gist. But, Michelle, was there anything else you are thinking about that?

No, I think you covered it. And I think, also keep in mind the 200 million of tangible equity they have to deliver is net of their deal costs as well. They have to pay all those prior to delivering 200 million.

Okay. That’s helpful. One last one if I can sneak it in, and just they’ve got a pretty decent sized C&I portfolio, just a little bit smaller than yours. I think you mentioned the SBA before. I’m not sure how much of that may fall into the C&I portfolio. But, was just looking for some color around what their core competency is and what’s in that portfolio, and maybe granularity as well, you guys have a historically pretty granular loan book. Is theirs similar?

Yes, definitely from a granularity standpoint, they have shared the same philosophy that we did regarding not taking big bites and big pieces. And obviously they are smaller bank, so they have a lower lending limit as part of it is well. But if you look on the slide deck we put out, Michael, it is on slide 17, has a breakdown of their portfolio, their loan portfolio and our loan portfolio. But from a high level, I would say, they have more C&I, just more core C&I business than we do on a relative basis. And as I mentioned earlier, because they have less CRE that blended together pulls our CRE ratio down 50% on a combined basis. They have really strong competency on that SBA platform, I mentioned earlier. Another thing that’s embedded in their commercial book and their C&I book is their very small mortgage warehouse business. They were a part owner in a mortgage warehouse business in Denton County and they acquired the rest of it this year, earlier this year. And so, now, they own 100% of a mortgage warehouse subsidiary. It has had average outstanding this year about of $160 million. So, as a part of their balance sheet, 6%, 7%, which if you look at other banks that are in that business are publicly traded peers here in Texas that are in that business, it ranges from 15% to 25% of their balance sheet. This is about 6% to 7% of Carlile’s balance sheet, and then on a combined basis, if you roll it in at a $160 million of average outstanding balances, on our combined balance sheet it’s 2%. And so, we think there is some room to maybe grow that a little bit, and that would help on the C&I side as well. And so, I would say those are two things that they have some track record and some really strong executives and employee groups embedded in those operations that have a really good track record and that we think is a scalable for us across the footprint.

Our next question comes from Brett Rabatin of Piper Jaffray. Your line is open.

I wanted to ask, obviously pro forma higher capital ratios which you’ve got a pretty big deal to absorb. Can you maybe balance those things against your organic growth until the deal closes? And maybe any thoughts on your organic growth vis-à-vis having had this deal announced?

Yes. I think we’ve said clearly and continue to believe, and really I don’t see it being affected by this deal, Brett that we’re a low double-digit growth company, 11 to 13, 12, if you want to narrow down to a number. I think we’re going to be -- we’ll finish this year something a little above that. But obviously we keep increasing the base every year and the size of our company every year. So, it gets tougher to grow at the 15% and 20% rates. And so, we haven’t projected that in any of our modeling or anything we’ve done. But I think, we still feel good about the 12% kind of core organic loan growth across our markets. The economy here remains very strong in Texas and really getting better, as we speak. And so, no reason, we don’t see anything on the horizon that would cause us to believe we can’t grow our base company 12%.

Right. So, the deal doesn’t really change kind of how you’re thinking about your organic growth, neither stronger or slower?

No, not at all. And in fact from a capital standpoint if you point out, Brett, it gives us really a lot more running room than we’ve had in the past, without putting pressure on the capital ratios.

Okay. And then, you talked some about the loan portfolio, obviously a higher yielding portfolio than yours. Can you maybe talk about that a little bit and just are they getting higher fees in construction, maybe just some thoughts on their loan yield?

Yes. We’ve look at that and obviously their loan portfolio at a $1.5 billion, $1.6 billion about a third of what ours is. So, they will make up a quarter of the pro forma company. They tend to have smaller credits Brett, and they got lot of locations if you look at their $2.3 billion in assets but have almost the same, and maybe one more branch than we do. I think they got 42 branches compared to our 41 branches, and they’ve got $2.3 billion in assets or $1.6 billion in loans compared to our 41 branches with $4.5 billion in loans. So, I think their loan sizes tend to be smaller and obviously you can generally get a little better pricing on smaller loans. And I think that’s part of it. They also had -- do have, as you point out, a very vigorous interim home construction business. And I think that’s generating some nice fee income for them that drives that yield up a little bit. And Michelle, I don’t know anything else you could to the diligence theme about other things they saw that would have been driving those SBA. They do a lot of SBA lending, I mentioned I think some of those tend to. And then, Michelle, they have some accretion income too, right?

Right. So, they do have some acquired loans with their acquisitions. So, in their loan yields, I have estimated that that’s about 20 basis points of accretion in their loan yield, which still leaves their loan yield significantly higher than ours.

Our next question comes from Will Waller of M3 Funds. Your line is open.

I just had a couple of questions related to the gain on sell of residential mortgages at Carlile. Do you know how much of that was purchase versus refinance activity?

That’s a great question. I don’t know that right off hand, Will, to be honest with you what the percentage is. Are you talking about embedded in their mortgage warehouse line of business or in their retail mortgage business?

In their retail mortgage business, I was just looking at it and seeing the gain on sale on the Carlile part was a fairly substantial portion of their operating income. So, I was just wondering how the higher interest rate environment for residential mortgages over the last few weeks may affect that in 2017 and 2018, and how you factored that into your earnings projections?

I believe they had and again, I am trying to call this from memory in our discussion with their retail mortgage folks, I believe they said right now they are running two thirds purchase financings versus one third refinancings. So, I think they are already tilted pretty heavily toward home purchase and that we’ve seen that in our business as well on the independent bank side and our retail mortgage operation. So, we clearly have factored in that rates are likely going up, as we mentioned earlier. And so, we have modeled some of that in. But, in terms of, Will, if the question is did we assume that they were going to have half of that gain on sale next year, the answer is no, we’re assuming that based on interest rates that they’ll hold their margins as we move forward.

Our next question comes from John Moran of Macquarie. Your line is open.

So, hey, just a couple of quick -- one follow-up and then a couple of quick questions. The rate implications that you guys were addressing in one of the other -- the previous questions, if I’m remembering correctly, you guys don’t get a whole lot from short rates going up anyway. But, I’m just wondering if there was -- maybe I’m forgetting there how much might be embedded from the I guess you are saying 50 basis points on top of where we are now by middle of next year?

Yes, you’re right. You are recalling that right, John. Our asset sensitivity standalone has been fairly neutral I think over the past year to slightly liability sensitive back to fairly neutral. This deal, as we model it, actually they’re more asset sensitive than we are. So, modeling together shows us slightly asset sensitive. So, we will get some benefit on a combined basis from a rate increase but we do not plan on that being a significant catalyst I guess in our earnings, we’ve not assumed that in the model.

We didn’t model that at all, John.

Okay, got it. That’s helpful. And then, on the cost saves, Michelle, 35%, presumably most of that coming out of back office and then conversion. Do you know -- if we close it in 2Q 2017, when you would to convert, or I guess said differently, do you have a percentage of cost saves that would be realized in 2017 and then 2018?

Right now, we expect if we close and we expect to -- we estimate that we do the operational conversion in September most likely. So, we’ve assumed that we would get 65% of the cost saves in 2017.

And a 100% in 2018.

So, yes, we’d enter 2018 kind of at 100% on the run rate, right?

Right. We think we can have most of the cost pulled out by the end of the year. After the operational conversion, we’ll get to work quickly on looking at branches and that type of thing.

Okay. In terms of concentration I know oil and gas, not nearly the concern that it was earlier this year, but did these guys have an energy book? And if so, where does that take you to pro forma? And then, David, I think you said out in the plains part of Colorado, they had some -- it sounded like they were maybe ag heavy out there, if you could give us a quick update in terms of agricultural exposure?

Sure. They had no material -- an immaterial amount of energy loans, John. So that was one of the attractive things just picking up 1.7, 1.8 billion of Texas assets without energy exposure embedded in it. So, our pro forma ratio is going to drop even more dramatically when you add the portfolios together because the amount of energy stays constant or increasing as we’re making new loans. But, we’re not picking up any exposure in the Carlile deal, let me say that. And then, the eastern portion of the Colorado franchise is, again, we haven’t been there. So, we’re just going off of what we’ve been told and what we know about that part of the state. But, it is a heavily agriculture area. They’ve got four locations there. I don’t remember off the top of my head exactly what their percentage of loans and deposits is out there but it’s something I believe a little over a 100 million in deposits, maybe 120, 130 million in deposits and something a little under a 100 million in loans. And so, it’s not a material portion of the overall Carlile franchise. We did start here 28, 29 years ago, John, in the more rural communities, north and east of Dallas, our first acquisition that started our company in 1988 was in Farmersville, Texas. So that might tell you a little bit about what the economic activity was there at that time. And so, we do have some background in agriculture and agriculture lending. It’s not a big part as you know of what we do now but we understand it, we were able to during the diligence underwrite it we think appropriately. And so, A, it’s not a huge amount of what they’ve got; and B, we think they do it very well. The core of the leadership at Carlile came out of the original -- and Tom Nichols and Don Cosby came out of the Ford Bank Group, which was Lubbock based originally. And so, those guys have a lot of their banking, early banking history in West Texas in agriculture. And I think they actually were more than comfortable with that eastern Colorado piece and considered it to be a big positive because this is a diversification from real estate and some of the other things that banks are doing.

And then, I know you guys are pros at the M&A side of things. Can you just remind us the diligence process here? I assume you looked at 100% of the NPLs, 100% of the OREO and then did a sample on everything else?

Absolutely, we did a massive dive into on the asset side. And as you said, John, we’ve got a long and strong history of asset quality -- high asset quality within our company. And if you look at our last five acquisitions we’ve made, the marks have always been on the conservative side. And we’ve ended up having, as Michelle has said in our previous calls, it’s sometimes spotty, because we really do try to mark the loans to be -- we call them how we see them, but we just have a conservative lens, if you will, through which we’re looking. And so, the accretion income that we’ve had historically, although it’s lumpy, has really come from where we’ve been conservative on the loans. And they’ve been turned out better than we had hoped. And so, there’re about $6 million of marks that they had against their portfolio that they’ve -- because they acquired all these also in the last six, seven years. So, there were 7 -- I’m sorry, $6 million of marks still on those loans when we were looking at them and then you -- I think that was in the slide deck that we’re putting another $19 million against it as well. So, maybe the color would be that $19 million plus $6 million of marks that we’re inheriting and again that’s -- Michelle, will throw something at me after we’re done here for trying to explain the accounting around loan loss reserve and how it all moves over, and I know the loan marks don’t move but the loans are on their books at a $6 million discounted amount. But, anyway, the way we’re thinking about it is there’re $6 million of embedded marks on that loan portfolio today plus the $19 million we’re marking at. So, there’s about $25 million the way we look at it on a $1.6 billion portfolio. So, 1.6% is the mark on those loans. So, that’s certainly more than we have in our provision for our loans, approximately double I guess that amount. And so, we think there’s plenty of room. And yes, we did take a very close look at the ORE and the non-performing assets and mark those accordingly.

Perfect, that’s helpful. Because you have $19 million credit mark and at first blush, it looks like 1.2 on loans in OREO. But having that additional piece of what was already marked is helpful.

Yes.

Our next question comes from Matt Olney of Stephens. Your line is open.

Can you talk more about expanding the franchise in that Dallas/Fort Worth MSA, Denton County, Tarrant County? How much presence was there previously? And you guys gave us some nice data points on the demographics in the presentation. But, when you think about the competitive dynamic and the growth opportunities, how do these counties look compared to other parts of the Independent Bank franchise?

Yes, quite attractive, Matt, and we had zero presence in Tarrant or Denton County. Well that’s not true, I think we have one location in Denton County. So, I’ll be corrected on that later, if I don’t correct it myself, now. We have one location in Denton County over on I-35 [ph] and Highland Village. But we largely -- in fact, we sold our branch in Denton earlier this year, I guess in August, because we just couldn’t compete there against Northstar frankly and have not been able to higher bankers who could compete in that market and in that county. We do have the one location I mentioned in the southern part of Denton County that we have been successful with. But otherwise, we have not been successful in organically penetrating Denton County and we did even try in Tarrant County, because most people think of Dallas/Fort Worth as one big market, it is really two very distinct markets. And I know a lot of other very attractive growth markets in between and around Dallas and Fort Worth. But if you go to heart of Fort Worth and the heart of Dallas, it is just a cultural difference. And when Dallas banks -- and many of my friends have tried, have gone over to Fort Worth and just opened a location and hire a banker and put your flag out, it is a tough sled to build anything of significance over there. And so, most of the banks -- and you saw this happen back in the 80s and 90s that they were a number of large Fort Worth based, very attractive franchises and they sold out to BBVA and to the Bank of Texas and to Frost. And so, there had already been a cycle of all the big community banks were bought up in the last round of consolidation. And in there, just frankly, we’ve been looking for an opportunity to get into Fort Worth and into Tarrant County via acquisition for 3.5 years now. And so, this was quite attractive to us, because we not only picked up the Tarrant County piece, as you point out, but also picked up the Denton County piece. We think that if you look at those growth numbers, Matt, that we have a real opportunity in those markets to grow at rate similar to what we’re growing the rest of our franchise at. And so, we think by running and modeling at 7% growth in Denton and Tarrant and Colorado, that’s on the conservative side what we think we can do once we get in size it up and bring our credit culture and our pro growth kind of mindset here that we can do really, really well in those areas.

Our next question comes from Brady Gailey of KBW. Your line is open.

I hopped on a little late, but have you all talked about your thoughts on the $10 billion mark?

Yes, we did talk about it briefly, Brady. Our cost, we estimated $5 million to $6 million across $10 billion if we do it organically. And we’ve been talking to the regulators about it, as we’ve talk about this deal. And so we’ve already been putting some thought strategy into it. One comment I’ll make, remind people that I haven’t pointed out yet on the call is we did hire a new Chief Operating Officer this year at the bank level, Jim White, who has a long history of Texas Capital from the time, before -- he was Chief Operating Officer there before Texas Capital went public all the way through about a year and a half ago when they were $18 billion in assets. And so, he, to some extent orchestrated their growth through. And as you know, they don’t acquire and so they grow organically through $10 billion there. And he orchestrated putting the team together that put together the DFAST modeling and all that. So, we’ve got a pretty good hand along what that’s going to look like, what that’s going to take. And so, as we prepare to close on this transaction, we’ll be simultaneously -- Jim and his team will be beginning the process of mapping out how we will, what we’ll have to do to go through $10 billion.

And, David, are you sure you want to go through $10 billion, like would you consider selling the company before you hit the $10 billion mark?

I would continue to say what we’ve said, Brady. I think you have to take the opportunity that market gives you and presents you. And right now, given the economy, given bank stock prices, I think there is going to be consolidation across Texas. And I think we’re going to be -- have an opportunity to be a big player in that. And so, right now, as I look out, I think the opportunity for us is going to be to grow. We’re a publicly traded company, and we’ve got a Board that looks -- has a fiduciary responsibility to look after the best interest of the shareholders. And we are and remain large -- have a large inside ownership. So, our Board members and our large shareholders are -- they think like shareholders. And so, I think you would see the metrics on this deal, the fact that there is no tangible book value dilution, there is in fact tangible book value accretion as well as strong accretion income in the first full year. And so, those are the kinds of deals that I think are -- that we want to do and like to do, but gosh, I guess if somebody comes in and offers us a premium on what we’re trading at and our Board will take that up at the time. But we’re not, we are not, let me be clear, Brady, we are not for sale. Our strategy is not to -- now that we’re 8.5, or 9 billion, we’re going to go market the company; that is not our strategy. Our strategy is to create value for our shareholders. And right now, with our currency, the economy and what I believe is going to be some opportunities for quality consolidation in Texas, that’s our strategy.

Okay. And then, I think pre-deal you all had an insider ownership of around 35% to 40%. Do you know what that number is post deal?

What was it, Michelle going in?

It was little over 40.

Yes. So, we’re a 40%, 41% right now, Brady. And then, we’re giving them or paying them what effectively, 32% of the pro forma company and so it’s just a math exercise. But roughly, it would be dilutive by about a third and so, probably will go down into high 20s, 28% I think is our pro forma.

Okay. And then last for me. CRE was 415% of capital.

Yes.

I’m guessing that that goes down with this deal. What is the ratio pro forma?

It goes down 50% to approximately 365%.