What changed in this filing

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Item 7. Management’s Discussion and Analysis

2021-02-22 compared with 2020-02-14 · 264 added, 197 removed, 377 unchanged (55% of the section changed)

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Actual results may differ materially from those contemplated by the forward-looking statements as a result of certain factors, including but not limited to those listed in “Item 1A – Risk Factors” and in the “Cautionary Statement Regarding Forward-Looking Statements” notice on page 1.

As a financial holding company, we generate most of our revenue from interest on loans and investments, trust fees, and service charges.

Our primary source of funding for our loans and investments are deposits held by our bank subsidiary, First Financial Bank, National Association, Abilene, Texas.

As a financial holding company, we generate most of our revenue from interest on loans and investments, trust fees, gain on sale of mortgage loans and service charges.

Our primary source of funding for our loans and investments are deposits held by our bank subsidiary, First Financial Bank, N.A.

Our largest expenses are salaries and related employee benefits.

We measure our performance by calculating our return on average assets, return on average equity, our regulatory leverage and risk based capital ratios and our efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a tax equivalent basis and noninterest income.

We measure our performance by calculating our return on average assets, return on average equity, regulatory capital ratios, net interest margin and efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a tax equivalent basis and noninterest income.

The following discussion and analysis of the major elements of our consolidated balance sheets as of December 31, 2020 and 2019, and consolidated statements of earnings for the years 2018 through 2020 should be read in conjunction with our consolidated financial statements, accompanying notes, and selected financial data presented elsewhere in this Form 10-K.

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and (2) different estimates that reasonably could have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on the financial statements.

We deem our most critical accounting policies to be (1) our allowance for loan losses and our provision for loan losses and (2) our valuation of securities.

We deem our most critical accounting policies to be (1) our allowance for credit losses and our provision for credit losses and (2) our valuation of financial instruments.

We have other significant accounting policies and continue to evaluate the materiality of their impact on our consolidated financial statements, but we believe these other policies either do not generally require us to make estimates and judgments that are difficult or subjective, or it is less likely they would have a material impact on our reported results for a given period.

A discussion of (1) our allowance for loan losses and our provision for loan losses and (2) our valuation of securities is included in Note 1 to our Consolidated Financial Statements beginning on page F-8.

On October 12, 2017, we entered into an agreement and plan of reorganization to acquire Commercial Bancshares, Inc.

and its wholly owned bank subsidiary, Commercial State Bank, Kingwood, Texas.

On January 1, 2018, the transaction closed.

Pursuant to the agreement, we issued 1.29 million shares of the Company’s common stock in exchange for all of the outstanding shares of Commercial Bancshares, Inc.

In addition, in accordance with the plan of reorganization, Commercial Bancshares, Inc.

paid a special dividend totaling $22.08 million to its shareholders prior to the closing of this transaction.

At the closing, Kingwood Merger Sub., Inc., a wholly owned subsidiary of the Company, merged into Commercial Bancshares Inc., with Commercial Bancshares, Inc.

surviving as a wholly owned subsidiary of the Company.

Immediately following such merger, Commercial Bancshares, Inc.

was merged into the Company and Commercial State Bank, Kingwood, Texas was merged into First Financial Bank, National Association, Abilene, Texas, a wholly owned subsidiary of the Company.

The total purchase price exceeded the estimated fair value net of assets acquired by approximately $31.59 million and the Company recorded such excess as goodwill.

The balance sheet and results of operations of Commercial Bancshares, Inc.

are included in the financial statements of the Company effective January 1, 2018.

A discussion of (1) our allowance for credit losses and our provision for credit losses and (2) our valuation of financial instruments is included in Notes 1 and 10 to our Consolidated Financial Statements beginning on page F-9.

On September 19, 2019, we entered into an agreement and plan of reorganization to acquire TB&T Bancshares, Inc.

and its wholly owned bank subsidiary, The Bank & Trust of Bryan/College Station.

On January 1, 2020, the transaction closed.

Pursuant to the agreement, we issued 6.28 million shares of the Company’s common stock in exchange for all of the outstanding shares of TB&T Bancshares, Inc.

and its wholly-owned bank subsidiary, The Bank & Trust of Bryan/College Station, Texas.

On January 1, 2020, the transaction was completed.

Pursuant to the agreement, we issued 6.28 million shares of the Company’s common shares in exchange for all of the outstanding shares of TB&T Bancshares, Inc.

In addition, in accordance with the plan of reorganization, TB&T Bancshares, Inc.

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At the closing, Brazos Merger Sub, Inc., a wholly-owned subsidiary of the Company, merged into TB&T Bancshares Inc., with TB&T Bancshares, Inc.

surviving as a wholly owned subsidiary of the Company.

surviving as a wholly-owned

subsidiary of the Company.

Immediately following such merger, TB&T Bancshares, Inc.

was merged into the Company and The Bank & Trust of Bryan/College Station, Texas was merged into First Financial Bank, National Association, Abilene, Texas, a wholly owned subsidiary of the Company.

The total purchase price exceeded the estimated fair value net of assets acquired by approximately $143.2 million and the Company recorded such excess as goodwill.

was merged into the Company and The Bank & Trust of Bryan/College Station, Texas was merged into First Financial Bank, N.A., a wholly-owned subsidiary of the Company.

The total purchase price of $220.27 million exceeded the estimated fair value of the net assets acquired by approximately $141.92 million and the Company recorded such excess as goodwill.

The balance sheet and results of operations of TB&T Bancshares, Inc.

will be included in the financial statements of the Company effective January 1, 2020.

At December 31, 2019, The Bank & Trust of Bryan/College Station had gross loans totaling $455.40 million, total deposits of $551.90 million and total assets of $631.10 million.

have been included in the financial statements of the Company effective January 1, 2020.

Stock Split and Increase in Authorized Shares

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In addition, the shareholders of the Company approved an amendment to the Amended and Restated Certificate of Formation to increase the number of authorized shares to 200,000,000.

All per share amounts in the annual report on Form 10-K have been restated to reflect this stock split.

All per share amounts in this report have been restated to reflect this stock split.

An amount equal to the par value of the additional common shares to be issued pursuant to the stock split was reflected as a transfer from retained earnings to common stock in the consolidated financial statements as of and for the year ended December 31, 2019.

Implementation of New Accounting Standard for Accounting for Allowance for Loan Losses

Effective January 1, 2020, the Company implemented the provision of Accounting Standards Update (ASU) 2016-13, “Financial Instruments – Credit Losses (Topic 326):

Stock Repurchase

On March 12, 2020, the Company’s Board of Directors authorized the repurchase of up to 4,000,000 common shares through September 30, 2021.

Previously, the Board of Directors had authorized the repurchase of up to 2,000,000 common shares through September 30, 2020.

The stock repurchase plan authorizes management to repurchase and retire the stock at such time as repurchases are considered beneficial to the Company and its stockholders.

Any repurchase of stock will be made through the open market, block trades or in privately negotiated transactions in accordance with applicable laws and regulations.

Under the repurchase plan, there is no minimum number of shares that the Company is required to repurchase.

Through December 31, 2020, 324,802 shares were repurchased and retired (all during the months of March and April of 2020) totaling $8,008,000 under this repurchase plan.

Subsequent to December 31, 2020 and through February 22, 2021, no additional shares were repurchased.

For the years ended December 31, 2019 and 2018, no shares were repurchased under this repurchase plan or the prior authorization that expired September 30, 2020.

Implementation of New Accounting Standard for Accounting for Allowance for Credit Losses

On January 1, 2020, Accounting Standards Update (“ASU”) 2016-13,

Financial Instruments – Credit Losses (Topic 326):

Measurement of Credit Losses on Financial Instruments

represents a comprehensive change in estimating the allowance for loan losses from the current “incurred loss” model of losses inherent in the loan portfolio to a current “expected loss” model, which encompasses losses expected to be incurred over the life of the portfolio.

For publicly traded companies, ASU 2016-13

was effective January 1, 2020 and will be effective for the quarter ending March 31, 2020.

We are completing our implementation plan with our cross-functional working group, under the direction of our Chief Credit Officer along with our Chief Accounting Officer, Chief Lending Officer and Chief Financial Officer.

, became effective for the Company.

Accounting Standards Codification (“ASC”) Topic 326 (“ASC 326”) replaced the previous “incurred loss” model for measuring credit losses with an expected loss methodology that is referred to as the current expected credit loss (“CECL”) methodology.

The measurement of expected credit losses under the CECL methodology is applicable to financial assets measured at amortized cost, including loan receivables and held-to-maturity

debt securities.

It also applies to off-balance-sheet

(“OBS”, “reserve for unfunded commitments”) credit exposures not accounted for as insurance (loan commitments, standby letters of credit, financial guarantees, and other similar instruments).

In addition, ASC 326 made changes to the accounting for available-for-sale

debt securities.

One such change is to require credit losses to be presented as an allowance rather than as a write-down on available-for-sale

debt securities management does not intend to sell or believes that it is more likely than not they will be required to sell.

On March 27, 2020, the CARES Act was signed by the President of the United States that included an option for entities to delay the implementation of ASC 326 until the earlier of the termination date of the national emergency declaration by the President, or December 31, 2020.

Under this option, the Company elected to delay implementation of CECL and calculated and recorded the provision for credit losses through the nine-months ended September 30, 2020 under the incurred loss model.

At December 31, 2020, the Company elected to adopt ASC 326, effective as of January 1, 2020, through a transition charge to retained earnings of $589 thousand ($466 thousand net of applicable income taxes).

This transition adjustment was comprised of a decrease of $619 thousand in allowance for credit losses and an increase of $1.21 million in the reserve for unfunded commitments.

The Company completed its CECL implementation plan by forming a cross-functional working group, under the direction of our Chief Credit Officer along with our Chief Accounting Officer, Chief Lending Officer and Chief Financial Officer.

The working group also included individuals from various functional areas including credit, risk management, accounting and information technology, among others.

Our implementation plan included assessment and documentation of processes, internal controls and data sources;

model development, documentation and validation;

and system configuration, among other things.

We contracted with a third-party vendor to assist us in the application of ASU 2016-13.

While we continue to analyze and modify our calculations, we currently expect the adoption of ASU 2016-13

will result in an allowance for loan losses amount at January 1, 2020 in the range of $45.0 million to $51.0 million.

At December 31, 2019, our allowance for loan losses totaled $52.5 million.

In addition, ASU 2016-13

will necessitate that we establish an allowance for expected credit losses for certain debt securities and other financial assets;

however, we do not expect these allowances to be significant.

Additionally, the adoption of ASU 2016-13

is not expected to have a significant impact on our regulatory capital ratios.

The ultimate final impact of adoption of ASU-2016-13

could be significantly different than our current expectation as our modeling process is further refined.

The implementation plan included assessment and documentation of processes, internal controls and data sources, model development, documentation and validation, and system configuration, among other things.

The Company contracted with a third-party vendor to assist in the implementation of CECL.

Other New Accounting Standards Issued but Not Yet Effective

ASU 2017-04, “Intangibles – Goodwill and Other

.” ASU 2017-04

will amend and simplify current goodwill impairment testing to eliminate Step 2 from the current provisions.

Under the new guidance, an entity should perform the goodwill impairment test by comparing the fair value of a reporting unit with its carrying value and recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value.

An entity still has the option to perform the quantitative assessment for a reporting unit to determine if a quantitative impairment test is necessary.

will be effective for the Company on January 1, 2020 and is not expected to have a significant impact on the Company’s financial statements.

ASU 2018-13, “Fair Value Measurement (Topic 820).

– Disclosure Framework - Changes to the Disclosure Requirements for Fair Value Measurement.”

modifies the disclosure requirements on fair value measurements in Topic 820.

The amendments in ASU 2018-13

remove disclosures that no longer are considered cost beneficial, modify/clarify the specific requirements of certain disclosures, and add disclosure requirements identified as relevant.

became effective on January 1, 2020 and is not expected to have a significant impact on the Company’s financial statements.

Accounting Standards Update (“ASU”) 2019-12,

“Simplifying the Accounting for Income Taxes.”

In December 2019, FASB released ASU 2019-12

- Income Taxes (Topic 740), which simplifies the accounting for income taxes by removing multiple exceptions to the general principals in Topic 740.

The standard is effective for public business entities for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2020.

The Company does not expect the adoption of this standard to have a material impact on the Company’s Consolidated Financial Statements.

Accounting Standards Update (“ASU”) 2020-04,

“Reference Rate Reform.”

In March 2020, FASB released ASU 2020-04

- Reference Rate Reform (Topic 848), which provides optional guidance to ease the accounting burden in accounting for, or recognizing the effects from, reference rate reform on financial reporting.

The new standard is a result of LIBOR likely being discontinued as an available benchmark rate.

The standard is elective and provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, or other transactions that reference LIBOR, or another reference rate expected to be discontinued.

The amendments in the update are effective for all entities between March 12, 2020 and December 31, 2022.

The Company has established a cross-functional working group to guide the Company’s transition from LIBOR and has begun efforts to transition to alternative rates consistent with industry timelines.

The Company has identified its products that utilize LIBOR and has implemented enhanced fallback language to facilitate the transition to alternative reference rates.

The Company is evaluating existing platforms and systems and preparing to offer new rates.

Results of Operations

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Net earnings for 2018 were $150.64 million.

The increase in net earnings for 2019 over 2018 were primarily attributable to the growth in net interest income and noninterest income and the increase in net earnings for 2018 over 2017 was primarily attributable to the change in income tax rates.

On a basic net earnings per share basis, net earnings were $1.22 for 2019, as compared to $1.11 for 2018 and $0.91 for 2017.

The increase in net earnings for 2020 over 2019 and 2019 over 2018 was primarily attributable to the overall growth in net interest income and noninterest income.

Net earnings in 2020 also include a provision for credit losses of $19.52 million compared to $2.97 million in 2019 and $5.67 million in 2018.

The provision for credit losses in 2020 reflects primarily the stress on our loan portfolio from the increase in unemployment and economic effects of the COVID pandemic.

On a diluted net earnings per share basis, net earnings were $1.42 for 2020, as compared to $1.21 for 2019 and $1.11 for 2018.

The return on average assets was 1.98% for 2020, as compared to 2.08% for 2019 and 1.98% for 2018.

The return on average equity was 12.93% for 2020, as compared to 14.37% for 2019 and to 15.37% for 2018.

The return on average tangible equity was 16.25% for 2020, as compared to 16.95% for 2019 and to 18.65% for 2018.

Net Interest Income

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net interest income in 2020 compared to 2019 was largely attributable to increases in interest earning assets.

The increase of $326.97 million in average earning assets in 2019 when compared to 2018 was primarily a result of increases in loans of $246.63 million and taxable securities of $156.33 million when compared to 2018.

The increase of $2.08 billion in average earning assets in 2020 when compared to 2019 was primarily a result of increases in loans of $1.08 billion and tax-exempt

securities of $689.80 million when compared to 2019.

The increase in tax-equivalent

net interest income in 2018 compared to 2017 was largely attributable to increases in the volume of interest earning assets offset by rate increases on our interest-bearing liabilities.

The increase of $570.96 million in average earning assets in 2018 when compared to 2017 was primarily a result of increases in loans of $392.59 million and taxable securities of $454.46 million.

These increases were offset by a decline of $222.01 million in tax-exempt

net interest income in 2019 compared to 2018 was also largely attributable to increases in interest earning assets.

The increase of $326.97 million in average earning assets in 2019 when compared to 2018 was primarily a result of increases in loans of $246.63 million and

taxable securities of $156.33 million.

Average interest-bearing liabilities were $5.76 billion in 2020, as compared to $4.61 billion in 2019 and $4.47 billion in 2018.

The yield on earning assets decreased forty-four basis points in 2020 when compared to 2019 while the rate paid on interest-bearing liabilities decreased forty basis points.

The yield on earning assets increased fifteen basis points in 2019 when compared to 2018 while the rate paid on interest-bearing liabilities increased twenty-three basis points.

The yield on earning assets increased eight basis points in 2018 when compared to 2017 while the rate paid on interest-bearing liabilities increased twenty basis points.

Table 1 allocates the change in tax-equivalent

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Net interest income

Computed on tax-equivalent

basis assuming marginal tax rate of 21% for 2019 and 2018 and 35% for 2017.

loans are included in loans.

The net interest margin in 2019 was 3.98%, an increase of two basis points from 2018 which decreased five basis points from 2017.

We continued to experience downward pressures on our net interest margin in 2019 and 2018 primarily due to (i) the change in the income tax rate from 35% to 21% from the Tax Cuts and Jobs Act and its effect on our tax free municipal bonds and tax free loans, (ii) extended period of fluctuating historically low levels of short-term interest rates, and (iii) flat to inverted yield curve currently being experienced in the bond market.

We have been able to somewhat mitigate the impact of these lower short-term interest rates and the flat/inverted yield curve by establishing minimum interest rates on certain of our loans, improving the pricing for loan risk, and minimizing rates paid on interest bearing liabilities.

As rates fluctuate, we adjust loan rates as appropriate, upon maturities, and convert to variable rates when we are able.

The Federal Reserve increased rates 100 basis points in 2018, 75 basis points in 2017 and 25 basis points in 2016 and 2015, but decreased rates by 75 basis points during 2019.

Computed on a tax-equivalent

basis assuming a marginal tax rate of 21%.

Nonaccrual loans are included in loans.

The net interest margin in 2020 was 3.79%, a decrease of nineteen basis points from 2019.

The net interest margin for 2019 was 3.98% which was an increase of two basis points from 2018.

which increased two basis points from 2018.

We continued to experience downward pressures on our net interest margin in 2020 primarily due to (i) the extended period of fluctuating historically low levels of short-term interest rates and (ii) the flat to inverted yield curve currently being experienced in the bond market.

We have been able to somewhat mitigate the impact of these lower short-term interest rates and the flat/inverted yield curve by establishing minimum interest rates on certain of our loans, improving the pricing for loan risk, and reducing the rates paid on interest-bearing liabilities.

In March 2020, as the market experienced volatility, we took advantage of that volatility to purchase high quality municipal bonds at favorable tax-equivalent

interest yields.

The Federal Reserve increased rates 100 basis points in 2018 but then decreased rates 75 basis points during the third and fourth quarters of 2019 and then an additional 150 basis points in the first quarter of 2020, resulting in a current target rate range of zero to 25 basis points.

The net interest margin, which measures tax-equivalent

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Goodwill and other intangible assets, net

Allowance for loan losses

Allowance for credit losses

Liabilities and Shareholders’ Equity

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Interest expense/earning assets

Net yield on earning assets

Short-term investments are comprised of Fed Funds sold, interest bearing deposits in banks and interest bearing time deposits in banks.

Net interest margin

Short-term investments are comprised of federal funds sold, interest-bearing deposits in banks and interest- bearing time deposits in banks.

Average balances include unrealized gains and losses on available-for-sale

Computed on tax-equivalent

basis assuming marginal tax rate of 21% for 2019 and 2018 and 35% for 2017.

Computed on a tax-equivalent

basis assuming a marginal tax rate of 21%.

Nonaccrual loans are included in loans.

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Noninterest income for 2020 was $139.94 million, an increase of $31.51 million, or 29.06%, as compared to 2019.

Increases in certain categories of noninterest income included (1) real estate mortgage operations income of $25.73 million, (2) gain on sale of available-for-sale

securities of $2.90 million, (3) ATM, interchange and credit card fees of $2.61 million, (4) miscellaneous income of $2.12 million which includes $1.40 million in Main Street Lending Program fees and (5) trust fees of $1.13 million when compared to 2019.

The mortgage related income increase was mainly due to a significant increase in the volume of loans originated to $1.21 billion in 2020 up from $551.77 million in 2019 driven by the lower rate environment and a strong housing market in Texas.

The increase in ATM, interchange and credit card fees was driven by continued growth in the number of debit cards issued as well as our TB&T acquisition.

The increase in trust fees resulted from an increase in assets under management over the prior year.

The fair value of our trust assets managed, which are not reflected in our consolidated balance sheets, totaled $7.51 billion at December 31, 2020, as compared to $6.75 billion at December 31, 2019.

Offsetting these increases was a decline in service charge revenue in 2020 when compared with 2019 of $1.47 million that was primarily driven by lower overdraft fees in the current year as a result of the effects of the pandemic and related stimulus programs.

Noninterest income for 2019 was $108.43 million, an increase of $6.66 million, or 6.55%, as compared to 2018.

Increases in certain categories of noninterest income included (1) real estate mortgage operations income of $2.99 million, (2) ATM, interchange and credit card fees of $1.33 million, (3) interest on loan recoveries of $1.15 million, (4) service charges on deposit accounts of $376 thousand, and (5) trust fees of $220 thousand when compared to 2018.

The increase in real estate mortgage fees was a result of an increase in the volume of loans originated and the Company’s decision to move to mandatory delivery.

The increase in ATM, interchange and credit card fees was primarily due to the continued growth in the number of debit cards issued.

The increase in real estate mortgage fees was a result of an increase in the volume of loans originated and the Company’s decision to move to mandatory delivery from best efforts.

The increase in ATM, interchange and credit

card fees was primarily due to the continued growth in the number of debit cards issued.

Interest on loan recoveries increased as a result of several larger loan recoveries in 2019.

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securities of $621 thousand.

Noninterest income for 2018 was $101.76 million, an increase of $10.75 million, or 11.81%, as compared to 2017.

Increases in certain categories of noninterest income included (1) trust fees of $4.49 million, (2) ATM, interchange and credit card fees of $2.85 million, and (3) service charges on deposit accounts of $2.25 million when compared to 2017.

The increase in trust fees resulted from an increase in assets under management over the prior year and an increase in oil and gas production and lease fees for the majority of 2018 that increased related trust fees by $2.61 million over 2017.

The fair value of our trust assets managed, which are not reflected in our consolidated balance

sheets, totaled $5.60 billion at December 31, 2018, as compared to $5.13 billion at December 31, 2017.

The increase in ATM, interchange and credit card fees was due to continued growth in the number of debit cards issued and the Kingwood acquisition.

Service charges on deposit accounts increased primarily due to continued growth in net new accounts, product and pricing changes made to better align the Company’s account offerings and the Kingwood acquisition.

Offsetting these increases were decreases in interest on net recoveries of $190 thousand and gains on sale of available-for-sale

securities of $474 thousand.

ATM and interchange fees are charges that merchants pay to us and other card-issuing banks for processing electronic payment transactions.

ATM and interchange fees consist of income from debit card usage, point of sale income for debit card transactions and ATM service fees.

Federal Reserve Board rules applicable to financial institutions that have assets of $10 billion or more provide that the maximum permissible interchange fee for an electronic debit transaction is the sum of 21 cents per transaction and five basis points multiplied by the value of the transaction.

While we currently have assets under $10 billion, we are monitoring the effect of this reduction in per transaction fee income as we approach the $10 billion asset level.

Federal Reserve rules applicable to financial institutions that have assets of $10 billion or more provide that the maximum permissible interchange fee for an electronic debit transaction is limited to the sum of 21 cents per transaction plus 5 basis points multiplied by the value of the transaction.

Management has estimated the impact of this reduction in ATM and interchange fees to approximate $14.00 million annually (pre-tax)

once the Federal Reserve rules apply to the Company.

Federal Reserve requirements stipulate that these rules would go into effect on July 1st following the year-end

in which a financial institution’s total assets exceeded $10 billion at December 31st.

At December 31, 2020, the Company’s total assets exceeded the $10 billion threshold, due primarily to the effect of the Company’s participation in the PPP loan program and growth in deposits from related activities.

However, on November 20, 2020, the federal bank regulatory agencies announced an interim final rule that provides temporary relief for certain community banking organizations that have crossed this threshold as of December 31, 2020 if they had less than $10 billion in assets as of December 31, 2019.

Under the interim final rule, these banks, which includes us, will generally have until 2022 to either reduce their size, or to prepare for the regulatory and reporting standards under the Dodd-Frank Act.

Management will continue to monitor the Company’s balance sheet levels and prepare for the effects of this future loss of debit card income.

Table 3 — Noninterest Income (in thousands):

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ATM, interchange and credit card fees

Real estate mortgage operations

Gain on sale and fees of mortgage loans

Net gain on sale of available-for-sale

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Our efficiency ratio for 2020 was 45.49%, as compared to 48.61% for 2019 and 49.72% for 2018.

The reduction in the Company’s efficiency ratio during 2020 primarily resulted from the growth in the Company’s balance sheet and interest-earning assets as a result of the Company’s participation in the PPP loan program and the deferral of $3.62 million in noninterest expenses related to PPP loan origination costs during the second quarter of 2020.

Salaries and employee benefits for 2020 totaled $135.12 million, an increase of $22.79 million, or 20.28%, as compared to 2019.

The increase was primarily driven by (i) the TB&T acquisition, (ii) annual merit-based pay increases that were effective March 1, 2020, (iii) an increase in our profit sharing and other incentive expenses, and (iv) higher mortgage related commissions.

Also, in 2019 the Company incurred $2.67 million in expenses related to the termination of its pension plan when compared to $1.55 million in 2018.

All other categories of noninterest expense for 2020 totaled $92.82 million, an increase of $8.63 million, or 10.25%, as compared to 2019.

Included in noninterest expense in 2020 were technology contract termination and conversion related expenses totaling $4.88 million related to the TB&T acquisition.

Also included in noninterest expense during 2020 were increases in net occupancy expenses, professional and service fees and ATM, interchange and credit card expenses when compared to 2019 primarily due to the TB&T acquisition.

Salaries and employee benefits for 2019 totaled $112.34 million, an increase of $7.15 million, or 6.79%, as compared to 2018.

The increase was primarily driven by (i) annual merit-based pay increases that were effective March 1, 2019, (ii) an increase in our profit sharing expenses, (iii) an increase in our pension plan expenses, and (iv) an increase in medical insurance costs.

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Offsetting these increases in noninterest expense for 2019 when compared to 2018 was a decrease in FDIC insurance premiums of $1.24 million due to the FDIC assessment credit previously discussed.

Salaries and employee benefits for 2018 totaled $105.19 million, an increase of $9.90 million, or 10.39%, as compared to 2017.

The increase was primarily driven by (i) annual merit-based pay increases that were effective March 1, 2018, (ii) an increase in our profit sharing expenses, and (iii) increases in all categories from the Kingwood acquisition.

All other categories of noninterest expense for 2018 totaled $85.50 million, an increase of $6.80 million, or 8.64%, as compared to 2017.

Included in noninterest expense in 2018 was $1.55 million, before income tax, resulting from the Company’s partial settlement of its frozen defined benefit pension plan.

Other notable increases in noninterest expense included a $1.83 million increase in ATM, interchange and credit card expenses and a $652 thousand increase in net occupancy expense.

In addition, included in other miscellaneous expenses for 2018 were technology contract termination and conversion related costs totaling $1.75 million related to the Kingwood acquisition.

Table 4 — Noninterest Expense (in thousands):

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Our effective tax rates on pretax income were 16.64%, 16.78% and 15.46%, respectively, for the years 2020, 2019 and 2018.

The effective tax rates differ from the statutory federal tax rate of 21.0% in 2019 and 2018 and 35.0% in 2017 largely due to tax exempt interest income earned on certain investment securities and loans, the deductibility of dividends paid to our employee stock ownership plan and income tax deductions from the partial donation of two of our branch buildings to municipalities.

The effective tax rates differ from the statutory federal tax rate of 21.0% largely due to tax exempt interest income earned on certain investment securities and loans and the deductibility of dividends paid to our employee stock ownership plan.

On December 22, 2017, the Tax Cuts and Jobs Act was signed into law with sweeping modifications to the Internal Revenue Code.

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of the Company’s deferred tax balance was $7.65 million, a reduction of income tax expense for the year ended December 31, 2017.

At December 31, 2018, final regulations for the Tax Cuts and Jobs Act were still pending;

However, the Company updated its estimate of the impact to our deferred tax balances based on the proposed regulations issued to date and recorded an additional reduction of income tax expense for the year ended December 31, 2018 of $664 thousand.

No additional adjustment amounts were recorded for the year ended December 31, 2019, and the Company does not anticipate significant revision will be necessary in the future.

No additional adjustment amounts were recorded for the years ended December 31, 2019 and 2020.

Balance Sheet Review

Our portfolio is comprised of loans made to businesses, professionals, individuals, and farm and ranch operations located in the primary trade areas served by our subsidiary bank.

Real estate loans represent loans primarily for 1-4

family residences and commercial real estate.

The structure of loans in the real estate mortgage area generally provides re-pricing

intervals to minimize the interest rate risk inherent in long-term fixed rate loans.

As of December 31, 2019, total loans held for investment were $4.19 billion, an increase of $241.33 million, as compared to December 31, 2018.

As of December 31, 2020, total loans held-for-investment

were $5.17 billion, an increase of $976.06 million, as compared to December 31, 2019.

The increase in the Company’s total loans held-for-investment

in 2020 was primarily driven by the TB&T acquisition and the Company’s participation in the PPP loan program.

On January 1, 2020, TB&T had $447.70 million in loan balances.

During 2020, the Company originated $703.73 million in PPP loans of which $220.34 were forgiven during the year resulting in a balance of $479.43 million at December 31, 2020, which are included in the Company’s commercial loan totals.

The average balance of PPP loans was $479.43 million for the year ended December 31, 2020.

At December 31, 2020, $11.27 million of deferred loan fees related to PPP loans continues to be amortized over the shorter of the repayment period or the contractual life of 24 months.

As compared to year-end

2018, real estate loans increased $184.03 million, commercial loans increased $11.37 million, agricultural loans increased $6.96 million and consumer loans increased $38.97 million.

Loans averaged $4.07 billion during 2019, an increase of $246.63 million over the 2018 average balances.

Table 5 — Composition of Loans (in thousands):

Total loans held-for-investment

As of December 31, 2019, our real estate loans represent approximately 67.30% of our loan portfolio and are comprised of (i) commercial real estate loans of 29.72%, generally owner occupied, (ii) 1-4

family residence loans of 40.79%, (iii) residential development and construction loans of 9.73%, which includes our custom and speculation home construction loans, (iv) commercial development and construction loans of 6.80%, and (v) other loans, which includes ranches, hospitals and universities of 12.96%.

Loans held-for-sale,

consisting of secondary market mortgage loans, totaled $28.23 million and $21.67 million at December 31, 2019 and 2018, respectively.

2019 balances, total real estate loans increased $495.89 million, total commercial loans increased $456.38 million, agricultural loans decreased $8.78 million and total consumer loans increased $32.57 million.

Loans averaged $5.15 billion during 2020, an increase of $1.08 billion over 2019 average balances.

In conjunction with the adoption of ASC 326, the Company expanded its four loan portfolio segments used under the legacy disclosure requirements into the following ten portfolio segments.

For modeling purposes, our loan portfolio segments include Commercial and Industrial (“C&I”), Municipal, Agricultural, Construction and Development, Farm, Non-Owner

Occupied and Owner Occupied Commercial Real Estate (“CRE”), Residential, Consumer Auto and Consumer Non-Auto.

This additional segmentation allows for a more precise pooling of loans with similar credit risk characteristics and credit monitor procedures for the Company’s calculation of its allowance for credit losses.

Table 5 outlines the composition of the Company’s held-for-investment

by portfolio segment.

at December 31, 2020.

For all periods prior to December 31, 2020, management has elected to maintain its previously disclosed loan portfolio segments.

Table 5 — Composition of Loans Held-For-Investment

(in thousands):

Total Commercial

Construction & Development

Owner Occupied CRE

Total Real Estate

Total Consumer

Loans held-for-sale, consisting of secondary market mortgage loans, totaled $83.97 million and $28.23 million at December 31, 2020 and 2019, respectively.

At December 31, 2020 and 2019, $4.38 million and $5.15 million are valued at the lower of cost or fair value, and the remaining amount is valued under the fair value option.

The Company has certain lending policies and procedures in place that are designed to maximize loan income with an acceptable level of risk.

Management reviews and approves these policies and procedures on an annual basis and makes changes as appropriate.

The Company has certain lending policies and procedures in place that are designed to maximize loan growth with an acceptable level of risk.

Management reviews and approves these policies and procedures on an annual basis and makes changes as appropriate with input from our Board of Directors.

Management receives and reviews monthly reports related to loan originations, quality, concentrations, delinquencies, nonperforming and potential problem loans.

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Table 6 — Maturity Distribution and Interest Sensitivity of Loans at December 31, 2020 (in thousands):

The following tables summarize maturity and repricing information for the commercial and agricultural and the real estate-construction portion of our loan portfolio as of December 31, 2019:

The following tables summarize maturity and repricing information for the commercial and agricultural and the real estate-construction and development portion of our loan portfolio as of December 31, 2020:

Commercial and agricultural

Real estate - construction

After One Year

Real estate – construction and development

Loans with fixed interest rates

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Nonaccrual, past due 90 days or more and still accruing, and restructured loans plus foreclosed assets were $42.90 million at December 31, 2020, as compared to $25.77 million at December 31, 2019 and $29.63 million at December 31, 2018.

As a percent of loans and foreclosed assets, these assets were 0.61% at December 31, 2019, as compared to 0.75% at December 31, 2018 and 0.57% at December 31, 2017.

As a percent of loans held-for-investment

and foreclosed assets, these assets were 0.83% at December 31, 2020, as compared to 0.61% at December 31, 2019 and 0.75% at December 31, 2018.

As a percent of total assets, these assets were 0.39% at December 31, 2020, as compared to 0.31% at December 31, 2019 and 0.38% at December 31, 2018.

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Supplemental Oil and Gas Information.

At December 31, 2019, the Company’s exposure to the oil and gas industry was 2.84% of gross loans, or $119.79 million, compared to 2.86% of gross loans, or $113.54 million at December 31, 2018.

At December 31, 2020, the Company’s exposure to the oil and gas industry was 2.27% of loans held-for-investment,

excluding PPP loans, or $106.24 million, compared to 2.86% of loans held-for-investment,

or $119.79 million at December 31, 2019.

These oil and gas loans consisted (based on collateral supporting the loan) of (i) development and production loans of 11.99%, (ii) oil and gas field servicing loans of 6.62%, (iii) real estate loans of 57.40%, (iv) accounts receivable and inventory of 4.04%, (v) automobile of 12.09% and (vi) other of 7.86%.

These loans have warranted additional scrutiny because of fluctuating oil and gas prices.

These loans have warranted additional scrutiny because of fluctuating oil and gas prices and the COVID pandemic.

The Company instituted additional monitoring procedures for these loans and has classified and downgraded loans as appropriate.

The following oil and gas information is as of and for the years ended December 31, 2020 and 2019:

Oil and gas related loans

Oil and gas related loans as a % of total loans

Oil and gas related loans, excluding PPP loans

Oil and gas related loans as a % of total loans held-for-investment,

excluding PPP loans

Classified oil and gas related loans

Nonaccrual oil and gas related loans

Net charge-offs for oil and gas related loans

Allowance for oil and gas related loans as a % of oil and gas loans

Net charge-offs for oil and gas related loans for year then ended

Supplemental COVID Industry Exposure.

In addition, at December 31, 2020, loan balances in the retail/restaurant/hospitality industries totaled $359.33 million or 7.67% of the Company’s total loans held-for-investment,

excluding PPP loans.

Classified and nonperforming loans for these industries combined at December 31, 2020, totaled $31.19 million and $5.98 million, respectively.

Net charge-offs related to this portfolio totaled $895 thousand for the year ended December 31, 2020.

Additional information related to the Company’s retail/restaurant/hospitality industries follows below (in thousands, except percentages):

Restaurant loans

Other hospitality loans

Total Retail/Restaurant/Hospitality loans, excluding PPP loans

Retail/Restaurant/Hospitality loans as a % of total loans held-for-investment,

excluding PPP loans

Classified Retail/Restaurant/Hospitality loans

Nonaccrual Retail/Restaurant/Hospitality loans

Net Charge-Offs for Retail/Restaurant/Hospitality loans

Table 7 — Nonaccrual, Past Due 90 Days or More and Still Accruing, Restructured Loans and Foreclosed Assets (in thousands, except percentages):

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Total nonperforming assets

As a % of loans and foreclosed assets

As a % of loans held-for-investment

and foreclosed assets

As a % of total assets

Includes $251 thousand, $827 thousand, $618 thousand, $1.26 million and $2.18 million, respectively, of purchased credit impaired loans as of December 31, 2019, 2018, 2017, 2016 and 2015.

Troubled debt restructured loans of $4.79 million, $3.84 million, $4.63 million, $6.86 million and $6.11 million, respectively, whose interest collection, after considering economic and business conditions and collection efforts, is doubtful are included in non-accrual

loans as of December 31, 2019, 2018, 2017, 2016 and 2015.

We record interest payments received on non-accrual

loans as reductions of principal.

Prior to the loans being placed on non-accrual,

we recognized interest income on impaired loans as of December 31, 2019 of approximately $151 thousand during the year ended December 31, 2019.

If interest on these impaired loans had been recognized on a full accrual basis during the year ended December 31, 2019, such income would have approximated $2.39 million.

Troubled debt restructured loans of $7.41 million, $4.79 million, $3.84 million, $4.63 million and $6.86 million, respectively, whose interest collection, after considering economic and business conditions and collection efforts, is doubtful are included in nonaccrual loans as of December 31, 2020, 2019, 2018, 2017 and 2016.

We record interest payments received on nonaccrual loans as reductions of principal.

Prior to the loans being placed on nonaccrual, we recognized interest income on these loans as of December 31, 2020 of approximately $255 thousand during the year ended December 31, 2020.

If interest on these loans had been recognized on a full accrual basis during the year ended December 31, 2020, such income would have approximated $4.46 million.

Included in our loan portfolio are certain other loans not included in Table 7 that are deemed to be potential problem loans.

Potential problem loans are those loans that are currently performing, but for which known information about trends, uncertainties or possible credit problems of the borrowers causes management to have serious doubts as to the ability of such borrowers to comply with present repayment terms, possibly resulting in the transfer of such loans to nonperforming status.

These potential problem loans totaled $10.76 million as of December 31, 2020.

See Note 3 to the Consolidated Financial Statements beginning on page F-19

for more information on these assets.

Provision and Allowance for Loan Losses

The allowance for loan losses is the amount we determine as of a specific date to be appropriate to absorb probable losses on existing loans in which full collectability is unlikely based on our review and evaluation of the loan portfolio.

Allowance for Credit Losses

The allowance for credit losses is the amount we determine as of a specific date to be appropriate to absorb current expected credit losses on existing loans in which full collectability is unlikely based on our review and evaluation of the loan portfolio.

For a discussion of our methodology, see our accounting policies in Note 1 to the Consolidated Financial Statements beginning on page F-9.

The provision for loan losses was $2.97 million, as compared to $5.67 million in 2018 and $6.53 million in 2017.

The continued provision for loan losses in 2019 and 2018 reflects primarily the growth in the loan portfolio.

The provision for credit losses was $19.52 million in 2020, as compared to $2.97 million in 2019 and $5.67 million in 2018.

The provision for credit losses in 2020 reflects primarily the stress on our loan portfolio from the increase in unemployment and economic effects of the COVID pandemic.

As a percent of average loans, net loan charge-offs were 0.06% during 2020, 0.04% during 2019 and 0.07% during 2018.

The allowance for loan losses as a percent of loans was 1.24% as of December 31, 2019, as compared to 1.29% as of December 31, 2018 and 1.38% as of December 31, 2017.

Included in Tables 8 and 9 are further analysis of our allowance for loan losses.

Although we believe we use the best information available to make loan loss allowance determinations, future adjustments could be necessary if circumstances or economic conditions differ substantially from the assumptions used in making our initial determinations.

A downturn in the economy or lower employment could result in increased levels of nonaccrual, past due 90 days or more and still accruing, restructured loans, foreclosed assets, charge-offs, increased loan loss provisions and reductions in income.

Additionally, as an integral part of their examination process, bank regulatory agencies periodically review the adequacy of our allowance for loan losses.

The banking agencies could require additions to the loan loss allowance based on their judgment of information available to them at the time of their examinations of our bank subsidiary.

Table 8 — Loan Loss Experience and Allowance for Loan Losses (in thousands, except percentages):

The allowance for credit losses as a percent of loans held-for-investment

was 1.29% as of December 31, 2020, as compared to 1.25% as of December 31, 2019 and 1.30% as of December 31, 2018.

The allowance for credit losses as a percent of loans held-for-investment,

excluding PPP loans, was 1.42% as of December 31, 2020, as compared to 1.25% as of December 31, 2019 and 1.30% as of December 31, 2018.

Included in Tables 8 and 9 are further analysis of our allowance for credit losses.

Although we believe we use the best information available to make credit loss allowance determinations, future adjustments could be necessary if circumstances or economic conditions differ substantially from the assumptions used in making our initial determinations.

Additionally, as an integral part of their examination process, bank regulatory agencies periodically review the adequacy of our allowance for credit losses.

The banking agencies could require additions to our allowance for credit losses based on their judgment of information available to them at the time of their examinations of our bank subsidiary.

Table 8 — Loan Loss Experience and Allowance for Credit Losses (in thousands, except percentages):

Balance at January 1,

Impact of adopting ASC 326

Initial allowance on acquired TB&T PCD loans

Total Commercial

Construction & Development

Owner Occupied CRE

Residential real estate

Total real estate

Total Consumer

Total charge-offs

Total Commercial

Construction & Development

Owner Occupied CRE

Residential real estate

Total Real Estate

Total Consumer

Total recoveries

Net charge-offs

Provision for loan losses

Provision for credit losses (excluding provision for unfunded commitment)

Balance at December 31,

Loans at year-end

Loans, held-for-investment

Average loans

Net charge-offs/average loans

Allowance for loan losses/year-end

Allowance for loan losses/nonaccrual, past due 90 days still accruing and restructured loans

Reflects the impact of loans acquired in the Conroe acquisition in 2015 and the Kingwood acquisition in 2018, which were initially recorded at fair value with no allocated allowance for loan losses.

Table 9 — Allocation of Allowance for Loan Losses (in thousands):

Allowance for credit losses/year-end

loans held-for-

Allowance for credit losses/nonaccrual, past due 90 days still accruing and restructured loans

Table 9 — Allocation of Allowance for Credit Losses (in thousands):

At December 31,

Total Commercial

Construction & Development

Owner Occupied CRE

Residential real estate

Total Real Estate

Total Consumer

Percent of Loans in Each Category of Total Loans:

Included in our loan portfolio are certain other loans not included in Table 7 that are deemed to be potential problem loans.

These potential problem loans totaled $6.50 million as of December 31, 2019.

Interest-Bearing Deposits in Banks.

The Company had interest-bearing deposits in banks of $47.92 million at December 31, 2019 and $42.27 million at December 31, 2018, respectively.

Total Commercial

Construction & Development

Owner Occupied CRE

Residential real estate

Total Real Estate

Total Consumer

Interest-Bearing Demand Deposits in Banks.

The Company had interest-bearing demand deposits in banks of $517.97 million at December 31, 2020 and $47.92 million at December 31, 2019, respectively.

At December 31, 2020, our interest-bearing deposits in banks included $517.57 million maintained at the Federal Reserve Bank of Dallas and $403 thousand on deposit with the Federal Home Loan Bank of Dallas (FHLB).

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The average yield on interest-bearing deposits in banks was 0.38%, 2.22% and 1.79% in 2020, 2019 and 2018, respectively.

Available-for-Sale and Held-to-Maturity Securities

Available-for-Sale

At December 31, 2020, securities with a fair value of $4.39 billion were classified as securities available-for-sale.

There were no securities classified as held-to-maturity

at December 31, 2019.

at December 31, 2020 and 2019.

As compared to December 31, 2019, the available-for-sale

portfolio at December 31, 2020, reflected (1) a decrease of $10.02 million in U.S.

Treasury securities;

(2) an increase of $1.14 billion in obligations of states and political subdivisions;

(3) a decrease of $151 thousand in corporate bonds and other;

and (4) a decrease of $148.01 million in mortgage-backed securities.

As compared to December 31, 2018, the available-for-sale

portfolio at December 31, 2019, reflected (1) an increase of $57 thousand in U.S.

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and (5) an increase of $223.76 million in mortgage-backed securities.

As compared to December 31, 2017, the available-for-sale

portfolio at December 31, 2018, reflected (1) an increase of $9.96 million in U.S.

Treasury securities;

(2) a decrease of $60.03 million in obligations of U.S.

government sponsored enterprises and agencies;

(3) a decrease of $162.98 million in obligations of states and political subdivisions;

(4) a decrease of $6.66 million in corporate bonds and other;

and (5) an increase of $291.01 million in mortgage-backed securities.

Securities-available-for-sale

included fair value adjustments of $215.85 million, $84.51 million and $5.21 million at December 31, 2020, 2019 and 2018, respectively.

We did not hold any collateralized mortgage obligations or structured notes as of December 31, 2019 that we consider to be high risk.

Our mortgage related securities are backed by GNMA, FNMA or FHLMC or are collateralized by securities backed by these agencies.

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Available-for-Sale:

Treasury securities

Obligations of states and political subdivisions

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Maturities of mortgage-backed securities are based on contractual maturities and could differ due to prepayments of underlying mortgages.

Maturities of other

securities are reported at the earlier of maturity date or call date.

As of December 31, 2019, the investment portfolio had an overall tax equivalent yield of 3.17%, a weighted average life of 4.18 years and modified duration of 3.74 years.

Maturities of other securities are reported at the earlier of maturity date or call date.

As of December 31, 2020, the investment portfolio had an overall tax equivalent yield of 2.76%, a weighted average life of 4.66 years and modified duration of 4.14 years compared to December 31, 2019, the investment portfolio had an overall tax equivalent yield of 3.17%, a weighted average life of 4.18 years and modified duration of 3.74 years.

Deposits held by our subsidiary bank represent our primary source of funding.

Total deposits were $6.60 billion as of December 31, 2019, as compared to $6.18 billion as of December 31, 2018 and $5.96 billion as of

December 31, 2017.

Total deposits were $8.68 billion as of December 31, 2020, as compared to $6.60 billion as of December 31, 2019 and $6.18 billion as of December 31, 2018.

Table 11 provides a breakdown of average deposits and rates paid over the past three years and the remaining maturity of time deposits of $100,000 or more:

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Total average deposits

Total cost of deposits

As of December 31,

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Securities sold under repurchase agreements are generally with significant customers of the Company that require short-term liquidity for their funds for which we pledge certain securities that have a fair value equal to at least the amount of the short-term borrowing.

The average balances of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were $398.14 million, $418.98 million, and $422.29 million in 2019, 2018 and 2017, respectively.

The average balances of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were $561.51 million, $398.14 million,

and $418.98 million in 2020, 2019 and 2018, respectively.

The average rates paid on federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were 0.20%, 0.75% and 0.47% for the years ended December 31, 2020, 2019 and 2018, respectively.

The weighted average interest rate on federal funds purchased, securities sold under repurchase agreements and advances from the FHLB was 0.08%, 0.48% and 0.78% at December 31, 2020, 2019 and 2018, respectively.

The highest amount of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB at any month end during 2019, 2018 and 2017 was $423.67 million, $529.64 million and $611.30 million, respectively.

The highest amount of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB at any month-end

during 2020, 2019 and 2018 was $925.42 million, $423.67 million and $529.64 million, respectively.

Capital Resources

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Total shareholders’ equity was $1.68 billion, or 15.39% of total assets at December 31, 2020, as compared to $1.23 billion, or 14.85% of total assets at December 31, 2019.

During 2019, total shareholders’ equity averaged $1.15 billion, or 14.44% of average assets, as compared to $980.21 million, or 12.89% of average assets during 2018.

Included in shareholders’ equity at December 31, 2020 and 2019 were $170.40 million and $67.51 million, respectively, in unrealized gains on investment securities available-for-sale,

net of related income taxes.

During 2020, total shareholders’ equity averaged $1.56 billion, or 15.32% of average assets, as compared to $1.15 billion, or 14.44% of average assets during 2019.

Banking regulators measure capital adequacy by means of the risk-based capital ratios and leverage ratio under the Basel III regulatory capital framework and prompt corrective action regulations.

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average assets less intangible assets.

Beginning in January 2016, under the Basel III regulatory capital framework, the implementation of the capital conservation buffer was effective for the Company starting at the 0.625% level and increasing 0.625% each year thereafter, until it reaches 2.5% on January 1, 2019.

Beginning in January 2015, under the Basel III regulatory capital framework, the implementation of the capital conservation buffer was effective for the Company starting at the 0.625% level and increasing 0.625% each year thereafter, until it reached 2.5% on January 1, 2019.

The capital conservation buffer is designed to absorb losses during periods of economic stress and requires increased capital levels for the purpose of capital distributions and other payments.

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The regulatory capital ratios as of December 31, 2020 and 2019 were calculated under Basel III rules.

There is no threshold for well-capitalized status for bank holding companies.

Our subsidiary bank made the election to continue to exclude most accumulated other comprehensive income from capital in connection with its March 31, 2015 quarterly financial filing and, in effect, to retain the accumulated other comprehensive income treatment under the prior capital rules.

Our subsidiary bank made the election to continue to exclude accumulated other comprehensive income from capital in connection with its March 31, 2015 quarterly financial filing and, in effect, to retain the accumulated other comprehensive income treatment under the prior capital rules.

Interest Rate Risk

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and maturity characteristics of the existing and projected balance sheet.

As of December 31, 2019, the model simulations projected that 100 and 200 basis point increases in interest rates would result in variances in net interest income of positive 2.29% and positive 4.00%, respectively, relative to the current financial statement structure over the next twelve months, while a decrease in interest rates of 100 basis points would result in a variance in a net interest income of negative 2.77% relative to the current financial statement structure over the next twelve months .

We consider the likelihood of a decrease in interest rates beyond 100 basis points after December 31, 2019 remote given current interest rate levels.

As of December 31, 2020, the model simulations projected that 100 and 200 basis point increases in interest rates would result in positive variances in net interest income of 4.75% and 9.51%, respectively, relative to the current financial statement structure over the next twelve months, while a decrease in interest rates of 100 and 200 basis points would result in negative variances in net interest income of 3.46% and 5.44% relative to the current financial statement structure over the next twelve months .

Our model simulation as of December 31, 2020 indicates that our balance sheet is relatively asset/liability neutral.

These are good faith estimates and assume that the composition of our interest sensitive assets and liabilities existing at each year-end

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We believe these estimates are not necessarily indicative of what actually could occur in the event of immediate interest rate increases or decreases of this magnitude.

As interest-bearing assets and liabilities re-price

in different time frames and proportions to market interest rate movements, various assumptions must be made based on historical relationships of these variables in reaching any conclusion.

As interest-bearing assets and liabilities reprice in different time frames and proportions to market interest rate movements, various assumptions must be made based on historical relationships of these variables in reaching any conclusion.

Since these correlations are based on competitive and market conditions, we anticipate that our future results will likely be different from the foregoing estimates, and such differences could be material.

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At December 31, 2020, there were no amounts drawn on these lines of credit.

Our subsidiary bank also has available a line of credit with the FHLB totaling $1.35 billion at December 31, 2019, secured by portions of our loan portfolio and certain investment securities.

Our subsidiary bank also has (i) an available line of credit with the FHLB totaling $1.53 billion at December 31, 2020, secured by portions of our loan portfolio and certain investment securities and (ii) access to the Federal Reserve Bank of Dallas lending program.

At December 31, 2020, the Company did not have any balances outstanding under this line of credit.

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asset and cash flow coverage ratios.

In addition, the credit agreement contains certain operational covenants, which among others, restricts the payment of dividends above 55% of consolidated net income, limits the incurrence of debt (excluding any amounts acquired in an acquisition) and prohibits the disposal of assets except in the ordinary course of business.

prohibits the disposal of assets except in the ordinary course of business.

Since 1995, we have historically declared dividends as a percentage of our consolidated net income in a range of 37% (low) in 1995 to 53% (high) in 2003 and 2006.

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Amounts above for deposits do not include related accrued interest.

Off-Balance Sheet Arrangements.

We are a party to financial instruments with off-balance-sheet

risk in the normal course of business to meet the financing needs of our customers.

The above table also does not include balances related to the Company’s interest rate locks commitments (“IRLCs”) and forward mortgage-backed security trades.

Sheet/Reserve for Unfunded Commitments.

We are a party to financial instruments with OBS risk in the normal course of business to meet the financing needs of our customers.

These financial instruments include unfunded lines of credit, commitments to extend credit and federal funds sold to correspondent banks and standby letters of credit.

Those instruments involve, to varying degrees, elements of credit and interest rate risk in excess of the amount recognized in the consolidated balance sheets.

At December 31, 2020, the Company’s reserve for unfunded commitments totaled $5.49 million which is recorded in other liabilities.

Our exposure to credit loss in the event of nonperformance by the counterparty to the financial instrument for unfunded lines of credit, commitments to extend credit and standby letters of credit is represented by the contractual notional amount of these instruments.

We generally use the same credit policies in making commitments and conditional obligations as we do for on-balance-

sheet instruments.

We generally use the same credit policies in making commitments and conditional obligations as we do for on-balance-sheet

Unfunded lines of credit and commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract.

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Total Commercial Commitments

We believe we have no other off-balance

sheet arrangements or transactions with unconsolidated, special purpose entities that would expose us to liability that is not reflected on the face of the financial statements.

We believe we have no other OBS arrangements or transactions with unconsolidated, special purpose entities that would expose us to liability that is not reflected on the face of the financial statements.

The above table also does not include balances related to the Company’s IRLCs and forward mortgage-backed security trades.

Parent Company Funding

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We anticipate that our recurring cash sources will continue to include dividends and management fees from our subsidiaries.

At December 31, 2019, approximately $261.42 million was available for the payment of intercompany dividends by our subsidiaries without the prior approval of regulatory agencies.

At December 31, 2020, $289.68 million was available for the payment of intercompany dividends by our subsidiaries without the prior approval of regulatory agencies.

Our subsidiaries paid aggregate dividends to us of $87.50 million in 2020 and $84.50 million in 2019.

Our long-term dividend policy is to pay cash dividends to our shareholders of approximately 40% of annual net earnings while maintaining adequate capital to support growth.

Our long-term dividend policy is to pay cash dividends to our shareholders of approximately 35% to 40% of annual net earnings while maintaining adequate capital to support growth.

We are also restricted by a loan covenant within our line of credit agreement with Frost Bank to dividend no greater than 55% of net income, as defined in such loan agreement.

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The Federal Reserve Board, the FDIC and the OCC have each indicated that paying dividends that deplete a bank’s capital base to an inadequate level would be an unsafe and unsound banking practice.

The Federal Reserve Board, the OCC and the FDIC have issued policy statements that recommend that bank holding companies and insured banks should generally only pay dividends out of current operating earnings.

The Federal Reserve, the OCC and the FDIC have issued policy statements that recommend that bank holding companies and insured banks should generally only pay dividends out of current operating earnings.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

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Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-K

Item 7. Management’s Discussion and Analysis