IBERIABANK's (IBKC) CEO Daryl Byrd on Q2 2016 Results - Earnings Call Transcript

| About: IBERIABANK Corporation (IBKC)

IBERIABANK Corp. (NASDAQ:IBKC)

Q2 2016 Earnings Conference Call

July 28, 2016 9:30 AM ET

Executives

John Davis – Senior Executive Vice President, Director-Financial Strategy

Daryl Byrd – President and Chief Executive Officer

Anthony Restel – Chief Financial Officer

Randy Bryan – Chief Risk Officer

Michael Brown – Vice Chairman, Chief Operating Officer

Bob Kottler – Executive Vice President, Director-Retail, Small Business and Mortgage

Analysts

Michael Rose – Raymond James

Emlen Harmon – Jefferies

Catherine Mealor – KBW

Matt Olney – Stephens, Inc.

Peyton Green – Piper Jaffray

Christopher Nolan – FBR & Company

Kevin Chaksuvej – SunTrust

Operator

Good morning and welcome to the IBERIABANK Corporation Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded.

I would now like to turn the conference over to John Davis. Please go ahead.

John Davis

Thank you. Good morning, everyone. Thanks for joining us today for the conference call. On our call this morning are Daryl Byrd, our President and CEO; Anthony Restel, our Chief Financial Officer; and Randy Bryan, our Chief Risk Officer, who is calling in from a remote location. Rest of our team is also available for the Q&A session of the call.

If you had not already obtained a copy of the press release and supplemental PowerPoint presentation, you may access those documents from our website at www.iberiabank.com under Investor Relations. Replay of this call will be available until midnight on August 4. Information regarding the replay is provided in the press release. Our discussion deals with both historical and forward-looking information. Our Safe Harbor disclaimer is provided in the press release and the supplemental PowerPoint presentation.

I’ll now turn it over to Daryl for his comments. Daryl?

Daryl Byrd

John, thanks and good morning, everyone. Today, I’m delighted to report continued progress towards our strategic goals and another quarter of record core earnings per share. We experienced very good total loan growth on a linked quarter basis of 8% annualized and 16% for legacy loans. The growth was spread across a number of markets, most notably in Florida. Deposits edged down primarily as a result of the movement of a few large commercial client balances, some seasonal and some business-specific deployment opportunities, most were generally expected.

The margin in the second quarter was down slightly. Of 3 basis points, 1 basis point of which was due to accelerated bond premium amortization as rates declined. The cash margin was down 7 basis points on a linked quarter basis, as a result of yield declines in loans and investments in the second quarter of 2016 and recoveries in the first quarter of 2016. Generally speaking, we’re pleased that the reported and cash margins have held up quite well and were consistent with our expectations and guidance to investors.

Despite the sustained low interest rate environment, we are not extending our duration. As evidenced, we originated and renewed a record level of $1 billion in loans this quarter, up 14% on a linked quarter basis and nearly two-thirds of those loans were floating rate. We remain fairly asset sensitive, though our margin and earnings guidance do not reflect Fed rate increases to attain those guided levels.

The branch closures were completed by the end of the first quarter. So the run rate savings was embedded in the second quarter results, though a little masked by a few factors. Our expenses increased modestly in the second quarter as a result of higher mortgage commissions driven by higher origination volumes. In addition, we incurred our annual merit raises during the quarter and experienced increased annual incentive expense.

Good tax equivalent core revenue growth of nearly $9 million or 4% and modest core expense growth of nearly $5 million or 3% further improved our non-GAAP core tangible efficiency ratio down to 59.98%. And yes, we achieved our strategic goal to be below 60%, but we are continuing to work towards further improvement. As shown on Slide 4, we continued our risk-off trade in the second quarter. These loan categories declined $588 million over the last six quarters. The lost opportunity cost of this trade was approximately $6.2 million on a pre-tax basis during the first six months of this year, or about $0.05 per common share per quarter on an after-tax basis.

During the second quarter, we completed our second preferred stock issuance. While positive from a capital perspective, these issuances in aggregate cost us $3.4 million in after-tax year-to-date preferred dividends, given that the capital has not yet been meaningfully deployed. We recorded $50 million in net income to common shareholders, up 24% on a linked quarter basis and up 62% compared to the same [indiscernible].

In addition, we achieved the 1% ROA milestone. We reported $1.21 in fully diluted EPS, up 25% on linked quarter basis and up 53% compared to a year ago. Non-GAAP core EPS was $1.18 per common share, up 17% on linked quarter basis and a record for our company. As shown on Slide 5, we’ve achieved steady compounded growth in core EPS consistently over last several years.

Our non-energy asset quality continued to exhibit gentle improvement and, as Randy will describe shortly, we continue to work through our energy portfolio. Our provision for loan losses declined $3 million on a linked quarter basis, but remained elevated compared to our historical results. In fact, the second quarter was still aghast provision quarter over the last six years. Based on our view of credit, interest rates and other factors, we are sticking with the previously provided guidance regarding the provision, and core EPS for the year. Keep in mind that our guidance is subject to changing conditions including energy price trends.

While we naturally focus on the financial metrics for the quarter, please remember these favorable results are the culmination of actions taken over many quarters, and in some cases, many years. First, our consistently strong loan growth demonstrates our unique market diversification, and the efforts of many years of recruiting and retaining exceptionally talented associates.

Second, our core solid revenue improvement is an outgrowth of investments made over many years in the various fee income businesses. Third, the improvements in core efficiency can be attributed to our heightened cost containment efforts we implemented starting three years ago. We work really hard on expense initiatives, and our shareholders should be pleased with the progress in that regard.

Finally, our longstanding credit culture and discipline continue to serve us very well, as we address the energy-related challenges and declines. Our ability to address those issues are very manageable due to our focus on concentration limits and our longstanding industry expertise. While I’m very proud of our results this quarter, I’m particularly pleased to see the benefits resulting from a number of our strategic and infrastructure investments. As always, I’m proud of our associates for their teamwork and dedication in achieving these excellent results. And thankful to our clients and community for giving us the opportunity to serve them.

At this time, I’ll turn the call back to John.

John Davis

Thanks, Daryl. My very brief remarks will focus on how the second quarter results differed from the sell-side communities projections for the quarter. Our margin of 3.61% in the second quarter was consistent with our expectations and slightly better than the consensus estimate and average earning asset growth was very close to the Street. As a result, net interest income was about $1 million better than the Street consensus figure.

Our loan loss provision decreased $3 million on a linked quarter basis to about $12 million, which was about $3 million below the Street’s provision estimates. Our non-interest income was approximately $4 million better than consensus. About half of the variance was due to about the $1.8 million in opportunistic gains on the sale of investment securities, and the other half was likely due to better mortgage income. We had very few unusual items in the expense line in the second quarter.

Total non-interest expenses were about $2 million higher than the Street estimate this quarter. The expense differential was likely due to the $2.7 million increase in mortgage commission expense as a result of high origination volumes. So, from a bottom line perspective, we significantly exceeded the Street estimate for common reported EPS and also core EPS.

At this stage, I now turn it over to Anthony for his comments. Anthony?

Anthony Restel

Thanks, John and good morning, everyone. I’d like to begin with a few quick highlights of the quarter, which make me optimistic that we will achieve the long-term financial goals and guidance previously communicated at the beginning of 2016. Net income available to common shareholders was up $9.8 million or 24% from the linked quarter and up $34.2 million or 61% year-to-date over 2015.

While the year-over-year increase is largely related to prior acquisition activities, the linked quarter increase shows that our positive performance trends are sustainable through organic growth and focused expense control. Additional performance highlights for the quarter include GAAP return on average assets of 1%, up 18 basis points from the linked quarter and GAAP return on tangible common equity of 11.90%, up 201 basis points from the linked quarter.

Importantly, our common dividend payout ratio on a core basis well below to 30% in the current quarter. Continuing with the results of the quarter, global demand for safe-haven assets has led to a contraction in interest rates. However, our competitors are experiencing the same and we feel that we are well positioned with strong balance sheet to stand the current economic uncertainty.

We have experienced some downward pressure on NIM, as the yield curve has contracted and as both expected and previously communicated, NIM was down 3 basis points from the linked quarter to 3.61%. However, our mortgage title and consumer swap businesses have benefited from the low interest rate environment, contributing to a $9.1 million or 16% increase in non-interest income linked quarter.

Mortgage income was approximately $6 million over linked quarter and $2.7 million over the comparable year-to-date period. Mortgage originations were up 37% from the linked quarter and up 3% year-to-date, while volume sold was 38% higher linked quarter and 5% higher year-to-date. At June 30, the mortgage pipeline was consistent with March 31 and loans held-for-sale were up 19% over the same period.

Due to the current rate environment and housing inventory, I see the potential for seasonal demand which typically slows by Labor Day to extend deeper into the third quarter. Consistent with the trend in the mortgage business, we saw a $1.4 million or 29% increase in title revenue linked quarter. Customer swap income also benefited from a flat curve and was down $600,000 from a record level of first quarter, and a solid second quarter generating $2.3 million of income, and should have a strong third quarter.

To wrap up non-interest income, our treasury management business generated income of $4.5 million in Q2, up 6% from the linked quarter and $8.7 million year-to-date, up 35% over the comparable period, once again showing sustained positive trends in our fee income businesses. In addition to the positive trends in income, we’re seeing the benefit of our diligent expense control efforts. While non-interest expense was up $2 million linked quarter to $139.5 million, this increase was mostly due to salaries and benefit expenses from a full quarter impact of the Company-wide annual merit increases and commissions on increased mortgage production.

On a year-to-date basis, non-interest expense was down $9.4 million or 3%. As previously communicated, both sides of the efficiency ratio continue to trend favorably. So in the second quarter, we reported $8.8 million in core revenue growth, while incurring $4.6 million in additional core expenses, resulting in a marginal core efficiency ratio of 52% during the quarter.

The GAAP efficiency ratio was 61.3% for the quarter, down from 63.3% linked quarter and decreased steadily each of the last five quarters from 73.9% in the second quarter of 2015. Our core tangible efficiency ratio declined to 59.98% from 60.3% linked quarter, thereby achieving our stated goal of less than 60% in 2016. Also of note, on both the quarterly and trailing 12 month basis, the company has seen increased and positive operating leverage over the past five quarters.

Provision expenses lowered by $3 million or 20% on a linked quarter basis, and we feel like we have appropriately managed our credit exposure, specifically to our energy-related clients. We continue to expect annual provision expense within a range near $45 million in 2016. Randy will provide additional detail in his discussion. We have estimated an annual effective tax rate of 33.7% consistent with the first quarter estimates. Compared to 2015, the annual effective tax rate has increased in line with the increase in pre-tax income and expired tax credits.

From a balance sheet standpoint, we are generally pleased with the consolidated quarter and year-to-date loan growth we’ve seen of $271 million or 2%, and $395 million or 3% respectively. While we’ve seen some large inter-quarter fluctuations in deposit balances, specifically related to a few of our larger commercial customers, average deposit balances are up slightly from Q1.

I’d also like to mention two transactions of note that occurred during the quarter. First, we executed a preferred stock transaction during the quarter resulting in net proceeds of approximately $55 million and used a portion of the proceeds to buy back 202,000 common shares at an average price of $57.61, as previously approved by Board resolution. From a long-term perspective, we saw the combined transaction as an opportunity to diversify our capital stock, while lowering our overall cost of capital for the benefit of our shareholders. Also during the quarter, we took advantage of recent market volatility to sell excess securities capturing a gain of $1.8 million.

Finally, I’d like to take a minute to reconfirm our expectations that full year 2016 core EPS is expected to be in line with our previously disclosed budget number of $4.58. Our budget assumed there would be no interest rate increases in 2016 and based on the most recent FOMC meeting minutes, we have no reason to revise those expectations at this point. While the composition of our current internal forecast has fluctuated slightly from budget, variances such as higher-than-expected provision expense have been largely negated by strong non-interest income results.

Absent a move in the federal funds rate or large recoveries in the acquired portfolio, I expect the overall margin may decline a few basis points in the next quarter and be around 3.60% for the full year 2016. The company remains asset sensitive and projects the next 25 basis points move in fed funds would provide about $0.05 in quarterly EPS improvement. Our current forecast assumes provision expenses of approximately $45 million for the full year of 2016, consistent with our prior communication.

As previously expressed, I see the potential for a longer seasonal benefit in the mortgage title and customer swap businesses. We continue to expect legacy loan growth in the low double-digit range, and consolidated loan growth in the 5% to 7% range. And finally, I expect operating expenses will come in close to $555 million, about $5 million below what was communicated previously.

I will now turn the call over to Randy.

Randy Bryan

Thanks, Anthony and good morning, everyone. Credit-related information starts on page 15 of the supplemental deck. In the second quarter, asset quality tracked in line with our general expectations. Outside of the energy portfolio, we saw good loan growth, improvements in non-performing assets, past dues and allowance coverage for NPAs. Within the energy segment, we saw things play out as we expected, with some further movement in non-accrual reductions in both commitments and balances and the utilization of some of the allowance we’ve built over the past several quarters to cover charge-offs.

Provision was down $3 million and we booked in the first quarter is a downward migration of credits and our energy loan book slowed in the second quarter. The ACL of total loans decreased slightly from 101 basis points to 100 basis points in the quarter. This was driven largely by decrease in reserves related to the energy book as allowance was used to partially cover the approximately $8 million in energy-related charge-offs in the quarter, with some offsets from decreases ACL for the acquired portfolio and continued improvements in the credit quality of the other $14.1 billion in non-energy related loans on our books.

In total, we incurred 33 basis points in annualized net charge-offs. Excluding energy, net charge-offs were relatively unchanged from the prior quarter at $4.2 million or 12 basis points. Quarter end, the ACL for the energy portfolio was $35 million and was equal to 5.3% of the energy outstandings. Criticized energy loans decreased $43 million during the quarter. This was the net of rotation of new credits into the category and rotation out as others paid off or paid down. The midstream energy portfolio continues to perform well with no classified or criticized loans, but the E&P and service portfolio’s criticized and classified loans declined in the quarter.

Taking a look at energy-related non-accruals, they were up as expected in the quarter to $61 million, that’s a $14.6 million increase and reflect some migration of additional E&P credits, offset by some pay-offs and principle reductions on loans that were on non-accrual at the end of the first quarter. For example, we put two additional E&P credits on non-accrual and had another non-accrual pay-off completely with interest during the quarter.

As we discussed on the last call, these companies are moving down the conveyor belt towards resolution with some coming off and a handful of others that could come on. We expect this to continue. Outside of energy, non-accrual loans fell $24 million, reducing the NPA to total assets from 87 basis points to 72 basis points. Of that, the end reduction came from the acquired and legacy books.

Non-performing assets excluding energy and acquired were less than $50 million on $11.3 billion in loans and of that $8 million is related to closed former bank branches. Looking ahead, I would not be surprised to see some uptick in NPAs between now and year-end, some coming from energy and some from other parts of the portfolio. Slide 18, provide detail on our outstandings and commitments in energy.

Over the past six years, we’ve reduced – I mean six quarters, we’ve reduced our energy outstandings by $219 million or 25%, and reduced our commitments by more than $600 million or 36%. The $662 million energy loans outstanding were only 4.5% of our total loan portfolio, down from 8.4% at the peak in the fourth quarter of 2014. Energy loan commitments as a percentage of total commitments is down by nearly half in the peak to 5.4% at quarter-end and following.

Midstream continues to hold up very well. As discussed last quarter, we didn’t see a lot of risk through our portfolio for E&P bankruptcies or the threat of them impacting our midstream clients, that’s still our view today. Continued low CapEx spending by the E&P companies remains a source of pressure for the service companies. We didn’t see nearly the same degree of grade migration this quarter and conditions albeit poor for many in this segment did not change significantly in the quarter.

We’ve probably talked in prior quarters about how we look at sponsorship and support in this part of the portfolio and how important those assumptions are and how we asses ultimate levels of loss in these segments. We’ve given you the same tables breaking this down and I won’t refer to them in detail, but just to say that our view on this topic really has not changed during the quarter. On pages 19 through 36 of the supplemental deck, we’ve given you more detail on many other aspects of the energy portfolio, which in the interest of time, I won’t walk through my comments, but we can cover in Q&A if needed.

Over the past seven quarters, this portfolio has behaved in the manner we expected. We believe in early recognition of problem of potential challenges and downgrades. That’s why we worked so hard in the first quarter to make sure our complete E&P portfolio was fully reflective of the new grading standards that were being deployed in the shared national credit exam process. With that downward migration in ratings and a significant portion of the energy book roll into criticized and classified categories.

The pace of that migration slowed significantly in the quarter, as the bifurcation of the companies with the stronger and weaker balance sheets, lower and higher leverage levels, and other business attributes played out. Not unlike the share prices and bond prices of the public companies, we’d think, we’ve seen things beginning to settle out. As part of the process, some of the charge-offs in the service sector we expected to see began to flow through, while the need for incremental provisions slowed.

The lower price environment experienced in the first quarter was a significant factor in driving that bifurcation. Since then, improving commodity prices have helped. We’ve had a few consecutive weeks where the U.S. rig count has increased, not by a lot, but increased nonetheless. Last week, we saw a 15 rig – U.S. totaled something like 14% or 14% higher than the level reached last quarter.

We are starting to hear some talk in the industry the conditions are beginning to improve in some spots and the second quarter may turn out to be a bottom. Our view is that any improvements were most likely to see between now and year-end will come from pay-offs and pay-downs, not from any significant improvement in the brutal operating environment for either the E&P or service companies.

Should that operating environment improve more quickly, much like, if we were to unexpectedly see a better interest rate environment, it further strengthens our outlook, but we’re not expecting that. While we don’t expect prices and conditions to snap back quickly, we do think we could well be bumping along the bottom and beginning to move off a bit. I would also like to reaffirm the $45 million provision estimate we provided last quarter. That’s based on our current view and assumptions that commodity prices remain within their recent ranges, our estimation of liquidation collateral values for certain credits hold up and the sponsorship behind our service companies performs as expected.

Our analysis is based on the most up-to-date view of the net impact in grade migrations, pay downs, loan growth and normal charge-off levels in the bulk of the portfolio. Unexpected events can move the provision need up or down. Macro factors both internationally and domestically could also cause our estimates to change, particularly, global economic growth is further impeded and dampens energy demand.

As we noted on prior calls, the timing is difficult to pin down. However, as expected, we posted another elevated provision expense this quarter although lower than the first, as more of our provision was pulled forward into the front end of the year. We expect to see lower levels of provision expense in this third and fourth quarters. As a reminder, the allowance by its nature is an estimate. As noted on last quarter’s call, the number most likely won’t come in right on top of $45 million.

I don’t expect to see the energy allowance grows significantly, if it all. In fact, it may come down through charge-offs and portfolio shrinkage given the caveats I gave you earlier. We’re also watching some non-energy loans that could exhibit further weakness between now and year-end. If those migrate further down and we don’t get some offset from reductions in energy, we’ll likely come in on the higher side of that estimate.

Conversely, if those credits hold or improve and we get some more improvement in the energy portfolio, we could be inside of the $45 million number. We may see energy non-accruals tick higher, it is likely that we’ll have some more energy names there, but ultimately we’ll have some others that will come out as they exit bankruptcy, closed asset sales, reach agreement with bondholders and raise more equity. It’s very difficult to pin a timing of these events in exactly the right quarter and in both directions, but on balance, we should be closed to topping out as far as energy NPAs over the next couple of quarters.

Now, for a couple of other topics of interest. Our consumer portfolio in Acadiana continues to perform very well. Our total consumer outstandings in that market are down almost 20% from year ago levels reflecting our risk-off trade. Although we are beginning to see delinquencies rise somewhat, the delinquent dollars are still low and very manageable. Consumer delinquencies are running a bit higher than the average for the whole portfolio, but the percentages will increase as the portfolio shrinks for obvious reasons.

Non-accrual consumer loans in Acadiana are still running at lower levels than the overall portfolio. However, we continue to watch this market closely as unemployment growing there. It was 7.2% in that market in May, up from 6.9% in February. We are watching residential housing market closely as well and June aggregate sales volumes for the month was down 14% from a year ago and the average sales price was off 4.6%.

Listings for homes over $300,000 were up 21% from a year ago and the inventories continue to build. I would refer you to some of our commentary on the last call regarding our strong LTVs in this market and some of the comparative information we obtained from a third-party data service reflecting the relative strength of our portfolio versus other lenders in the market. I would also remind you that we’ve tightened underwriting early and often starting in late 2014.

Outstandings in the Acadiana business banking portfolio have all declined reflecting our risk-off trade. It’s also performing well and delinquencies are actually in line with the overall portfolio. Non-accrual rates are higher than the over portfolio, but in dollar terms is less than $2 million in balances. Last quarter, we gave you some more color on our CRE exposures in Houston and Lafayette and we’ve updated that information in the PowerPoint.

While we continue to reduce exposure in overall CRE in Lafayette, we’ve had a bit of Houston exposure. Houston is an awfully big market and even with the challenges facing the energy business, there is still good business to be done there. So in conclusion, while we remain cautious about energy and repeat that the ultimate length and depth of the downturn will determine losses in this sector. We have significantly reduced risk and exposure, maintained a consistent discipline around rating the credits and reserving appropriately and have taken charge-offs as needed.

I’ll leave you with a few more comments. Total energy loans were 4.46% of the total portfolio as of July 22, down an additional $16 million from quarter end. We’re expecting to be left in 4% at year end. We leverage the power of our market diversification to drive loan growth while engaging in a risk-off trade that’s moved well over $0.5 billion in outstanding loans from our balance sheet.

Total accruing loans past due remain low at 41 basis points. Total classified and criticized loans declined 7.8% and 5.2% respectively in the quarter. Despite energy, total non-performing assets came down in the quarter and are $45 million or 18% lower than a year ago.

As shown on slides 41 and 42, total non-performing assets to total assets of the Company had declined in 17 of the past 18 quarters and were about 70 basis points below our peers. I’ll close by thanking all of our sales associates, as well as those in the credit and other support areas for their continued vigilance and hard work in maintaining our strong asset quality.

Now, I’m going to hand the call back over to Daryl. Daryl?

Daryl Byrd

Thanks, Randy. We hope you found this quarter’s results to be less noisy and consistent with our prior communications and guidance. We believe we provide unparalleled transparency in guidance to our shareholders, which we also hope you find to be quite useful.

At this time, we’ll open the call for questions. Amy?

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] The first question is from Michael Rose with Raymond James.

Michael Rose

Hey, good morning, guys. How are you?

Daryl Byrd

Hi, Michael, how are you?

Michael Rose

Good. Maybe we can just start kind of more macro in nature, you’ve talked principally about generating double-digit earnings growth at least on a core basis. Given the flatness of the curve despite for obviously some strong trends on the loan side and credit quality coming line with your expectations on a core basis, do you expect that you can continue to grow core earnings or EPS at a double-digit rate in the next year and beyond?

Daryl Byrd

Yes. Michael, we think we’ve built a good diversified franchise. I’ve said in my comments, we’ve got great teams in place across a bunch of different markets and so we continue to believe that our loan growth will be very solid. We’ve done, I think, a pretty good job on the expense side. We’re not done, we’ll continue to work that. And Anthony – we feel like our margins held up pretty well actually without any help. So, yes, we feel pretty good about the prospects for continued growth. Anthony, any comments?

Anthony Restel

No. I would just also add that we’ve invested pretty heavily in our non-interest income businesses. I went through some of the year-over-year metrics, Michael. And so we expect to continue to see continued build in those businesses, which will help offset the slope of the current kind of issues that all banks dealing with.

Michael Rose

Got it, that’s helpful. Maybe just focusing on mortgage, it looks like the pipeline is up since the quarter end and it seems to be a chance for you guys. But maybe given where rates are, do you feel like this quarter’s mortgage line is – makes a good run rate to kind of build of off as we think about the back half of the year?

Daryl Byrd

Michael, I’d start with we’ve got a great team in mortgage and that group has done a really good job for us and they continue to add good team members. Bob, your comments.

Bob Kottler

Yes. I think mortgages had a really strong quarter. I think we are seeing continued strength. We will see some seasonality through the rest of the year. But with rates where they are and with good housing demand, we expect to do pretty well in mortgage.

Michael Rose

Okay. Then maybe one more from me for Randy, where do you think the energy portfolio has settled out in terms of size, maybe as a percentage of the portfolio? Have you added any credits more recently and maybe with a longer-term? Is there any update on your longer-term thought process for that business?

Randy Bryan

Yes. Mike, we’ve not added to – add to that portfolio. As we said, we are focused on managing the risk there. As I said in my comments, I think based on our forecast, we’ll be inside of 4% at the end of the year. I think, I’ve said previously, I think the energy industry will probably see some changes in terms of how it’s funded as we come out of the cycle and those are all things that will evaluate in terms of how we think about this part of the business going forward.

Michael Rose

Okay, guys. Thanks for taking my questions.

Daryl Byrd

Thank you.

Operator

The next question is from Emlen Harmon at Jefferies.

Emlen Harmon

Good morning, guys.

Daryl Byrd

Good morning.

Emlen Harmon

Anthony, on the cash NIM decline, seemed like a meaningful component of that was driven by the securities portfolio. Could you just talk about kind of the moving parts of the mix there? And I know you had some securities sales last quarter and what are the renewals in the quarter and what are you bringing kind of what yields on new securities coming on in that book?

Anthony Restel

Emlen, related to cash margin, basically on the overall margin, we’ve lost about 1 basis point or so from new security stuff, obviously that moves into the cash margin as well. Some of that erosion in yield is tied to increased prepayment speeds on our mortgage-related securities given kind of where rates went to. I would expect you would see that kind of continue for the next quarter or so, just given where rates kind of dipped to more recently.

What we are buying is our typical product. It’s heavily mortgage-backed type instruments pretty much – exclusively all agency-related paper. We’ve never really changed our portfolio structure over the last couple of years. Currently, we’re buying sub-2% and if you look at the portfolio, I believe we’ve got a current yield of about 2.15% on the overall portfolio. So, just natural reinvestment is kind of bringing the overall yield downward with probably a little of pressure on the margin.

Typically, we – the portfolio, given where prepayments and other things will move in and out and how much cash flow that we’ve got coming, but typically we’ve got roughly about a third of the portfolio in cash flow over about an 18 month period. And again, now we’ll kind of stretch in and out depending on where prepayments go.

Emlen Harmon

Got it. Okay, thank you. That’s all helpful. And then Randy, you’ve noted maybe you see some grade migration outside of the energy complex in the back half of the year. What are the trends that you’re seeing that could potentially drive that?

Randy Bryan

I would say, it’s really not a trend as much as – I think as I said in my commentary, if you sort of look outside of energy and you look outside of what’s remaining in the acquired book and what we have in OREO from closed branches, we’ve read numbers like $42 million in non-performing assets across the whole balance of our portfolio. And so, it’s really more a function of that – that number is pretty low and there are some other things that they may come – move to non-accrual, just given the fact that the number is so low. There’s not a whole lot of room for to really go substantially lower.

So it’s really more that and it’s a function of any kind of trends we’re seeing across the portfolio or any markets or any thing in that nature.

Emlen Harmon

Got it, that’s helpful. Thanks. And then I appreciate you guys are keeping your present expectations in tact just given the kind of macro uncertainties. I guess, we’ve seen oil kind of sliding since the end of the quarter. At what price of oil this credit migration start to go the other way again? Or when does it become more of a – when does the price of oil start to become more of a concern again?

Daryl Byrd

Go ahead, Randy.

Randy Bryan

I have to say, really, if we kind of go back to where we were in February, that’s going to be a much more stressful environment. Our current second quarter price deck is still kind of even at the base level, it’s below where the strip was yesterday when I was looking at it. So we will evaluate it again as we get further into the quarter. I think the front-end of the strip is down on the WTI side, maybe $6 or $7. If we hold down at these lower levels, it could impact a little bit on a couple of the credits where we’ve got some specific reserve analysis. But I think we’re pretty comfortable in this general range even where we are today. But, as I said, if we go back down into the $20s, we’ll assess what that looks like. Daryl, you had a comment?

Daryl Byrd

Yes, Anthony.

Anthony Restel

I was also going to say, I think, Emlen, [indiscernible], I think when you look within the E&P portfolio, given the magnitude of migration we saw in the first part of the year, we just don’t have the same ability to have that level of migration because most of our costs are migrated pretty far down the scale. I don’t think the risk from a risk migration move is quite the same as it was earlier in the year.

Daryl Byrd

Emlen, Michael is going to – want to jump in. We’d like to think we’re pretty conservative in the way we evaluate credit. And frankly from a – oil price kind of its step back a few dollars, I don’t think that was a real surprise. You had some disruptions and some disruptions kind of cleared up, you’ve got some supply issues. I wouldn’t surprise to see it drop back down into the low $40s, the good news because there is – we feel like a lot of the E&P companies – a little bit better place, not a great place, but a little bit better place. Also from a service company perspective, I would say we’re probably still in pretty early earnings and those entities are going to have a pretty tough time over the next, at least 18 months, probably two years. Michael?

Michael Brown

That was actually going to have the same on the service side. I think, we tend to focus more and we talk about the strip in pricing on the E&P declines, because that’s a greater part of our business. But first, companies that are service oriented they would see a slowdown in their recovery, which has been slow to begin with. So I think it would be a pretty significant impact on that part of the industry. As we’ve talked, fortunately that’s not a large part of what we do.

Emlen Harmon

Got it, thanks. That’s a lot of good color, there I think we hit the whole team. So I appreciated.

Daryl Byrd

You did.

Operator

The next question is from Catherine Mealor with KBW.

Catherine Mealor

Thanks. Good morning everyone.

Daryl Byrd

Good morning, Catherine.

Catherine Mealor

One more on the margin for you, Anthony. Can you talk a little bit about the acquired book, and the acquired loan yield has bounced around a little bit? The pace of decline in acquired book has been fairly consistent, but the yield has bounced around. Can you help us think about where you see that moving over the next year and how that plays into your forecast for the margin versus the cash margin?

Anthony Restel

Catherine, what I’ll tell you is, I think we’ve been pretty consistent in terms of our messaging relative to our accretion on the acquired portfolios. We don’t have a cliff event like some other entities may have had. So we do have some noise that will occur periodically, as we have some favorable recoveries and some favorable credit events that happen within the portfolios. It’s probably not unexpected given kind of the continued strength that we hear about relative to, I’ll call it, every credit outside of energy and performance that you see.

So we see that just like everybody else. As those improvements work their way back through in terms of little incremental parts and accretion that we will see periodically from time to time. So it is probably one of the more challenging things to model for the total model [indiscernible] predict customer behavior. But I can tell you that I don’t see a scenario where the accretion, meaningful drops, this is more of a steady – kind of steady and then you will see some positive bumps up from time to time.

The good news is the volatility is onto the positive side, but it’s unfortunate that it’s hard to predict.

Catherine Mealor

That’s helpful, thank you. Then one comment on M&A, can you talk about your appetite for M&A, given the improvement in your stock price? And then with that conversation, how you think about the buyback and how aggressive you expected in the buyback, given the improved stock price and really how price sensitive you are to how much you’re willing to buy back over the near-term? Thanks.

Daryl Byrd

Catherine, I’m going to guess, you’ve got several sort of comment on this. We’re certainly happy with the improvement in the stock price, never enough, but happy with the progress we’ve made. I’d be pretty consistent with my comments for several quarters. We think we’re in a great place, we’ve got a very diversified franchise, a lot of good markets, good growth, organic growth in those markets. So, I think we’re positioned where we don’t have to do anything.

That’s, I think John would comment, we are getting a fair number of incoming calls and we do see probably less buyers at this point than maybe in prior quarters. So we’ll see where that takes us. John?

John Davis

Hey, Catherine. I would suggest that, I think, our outbound calling efforts been pretty consistent for a number of years, it really hasn’t changed in that regard. On the inbound calling side, I think, to Daryl’s point, the activity has picked up quite a bit within, I’d say, over the last couple of months. I think, we always look at opportunities from the perspective as our shareholders would want to us to, which is, does it make economic sense and obviously, if you do most of your transactions in a share for share exchange like we do, if the share price is down and the currency, it really works against you and the economics just don’t work for some transactions.

And so, that’s fine. It’s a natural governor, I think, in that regard and it works pretty well. In those situations where it does have a strategic fit and the opportunities would fit us in that regard and the economics work, we’re certainly pursuing it. But to Daryl’s point, we’ve never had to do any – we’ve just been very fortunate to partner with some great people over the last several years that I think really fit us very well and I think we’ve built out a tremendous franchise. We’d love to act for the right opportunities, but we don’t have to be aggressive either. So, pretty consistent, I think, with what we’ve already seen.

One exception is probably activity on the inbound calling side, it’s been a little bit more steady than before. I guess with regards to buyback, the newly authorized program, we’re able to purchase some shares in the second quarter. I think, we’ve always been fairly selective, I think, in our buying process and expect that to continue. The circumstances come where that’s the right investment, we’d make that investment. So, I just look at that and say that’s a part of our capital management process and been pretty consistent in that regard as well?

Catherine Mealor

Great, make sense. Thank you. Great quarter guys.

Daryl Byrd

Thank you very much.

Operator

[Operator Instructions] Our next question is from Matt Olney with Stephens, Inc.

Matt Olney

Hey, thanks good morning guys. Just wanted to touch on expenses. I know you guys have completed several expense initiates over the last few years and made some big improvements in the overall efficiencies. Currently, I don’t think you guys have an expense initiative underway, but Daryl, you mentioned earlier that there is still more work to be done. So, what else can you tell us about what the focus is here on expenses from here on?

Daryl Byrd

I’ll ask Anthony to jump in and maybe Michael if he likes. We’re always working expenses in a lot of different direction, trying to improve the efficiency of the Company. We will continue in that regard and think we can be pretty disciplined. Anthony, your thoughts?

Anthony Restel

Matt, I think, the only thing that’s different today from maybe where we were two years ago when we were kind of dialing up year-over-year with big initiatives is we don’t have necessarily a laundry list of 45 things that we’re working on, but I can assure you that there are one-offs we are constantly working on whether it’s contract renewals, put new technology in place to make us more efficient and scalable. So, I’d say, the good practices that we’ve embraced over the last three years continue kind of unabated, just not to the same thing where we’ve right about the same month.

Matt Olney

Okay, thanks that’s helpful. Then shifting over, you guys are obviously still asset sensitive. It sounds like you’re not going to extend the duration of the securities book. But I’m curious if you are willing to consider any tweaks in this strategy given the current rate outlook, would you consider doing more fixed rate loans or some type of swap. If this issue still being discussed internally or have you decided that’s not something you want to modify at this point?

Anthony Restel

So, Matt, it is something that our asset liability committee talks about quite often. Again, at this point, we haven’t chosen to make any material change to the current position of the asset sensitivity. But it is something that we discuss internally, probably, at least on a quarterly basis, if not more frequently.

Matt Olney

Thank you.

Operator

The next question is from Peyton Green with Piper Jaffray.

Peyton Green

Yes, good morning.

Daryl Byrd

Good morning.

Peyton Green

Just wanted to talk maybe Daryl about or Michael about kind of the outlook in the 2017, and as you think about the puts and takes of the economies in your franchise, where do you see better opportunity at the margin in terms of the growth outlook? And then maybe on the flip side of that, with regard to the efficiency question, I mean are there more obvious things that can be done in terms of improving the expense side or just productivity, maybe two parts?

Daryl Byrd

I’ll start, back Anthony talked about the systems to make us more efficient, and I think he talked about some of our fee income businesses and our continued progress there from a revenue perspective. So we would expect that to continue. In terms of our markets, Florida is doing quite well for us. They had a good quarter and we would expect that to continue, in fact we are in some really good markets in Florida. Very excited about Atlanta, think Atlanta is going to be a very good market for us, particularly into 2017. Michael, any other places which you would?

Michael Brown

I guess if you step back, just big picture, we’ve built the franchise to geographically [indiscernible]. The benefit of that is the economies are driven by different factors as Daryl pointed out. We have high expectations for certain markets, particularly Georgia and Florida, which are enjoying a very strong relative recovery from the downturn in 2008. You look at other markets, we’ve got good growth historically from Alabama, from Tennessee, and certain markets in Louisiana; certainly expect that to continue. We also have good growth out of Dallas. I think one has a tenancy to paint a broad brush relative to the energy impact on Texas. And Dallas, remains very, very strong, it is less energy dependent than Houston, and we’ve seen very strong growth. I would expect that would continue into 2017.

One of the things that Daryl mentioned relative to the non-interest side is, I think we’re doing a lot better job relative to cross-selling to our clients. And as a result, we’re seeing great progress relative to things like treasury management, derivatives, or all of our actually non-interest products. So, we expect that to continue into 2017. And then at the margin, we continue to look for opportunities to become more efficient relative to how we operate the business, and I think that’s reflected in the results that you see today.

Matt Olney

Okay. And then maybe, I’ll ask a different question, but I guess with regard to Louisiana, would you expect there to be more of a kind of growth hangover from the downturn in energy as we move forward, at least in the next 18 months in terms of consumer and commercial activity?

Michael Brown

Not really. I think people misread Louisiana. New Orleans is doing quite well like Baton Rouge is doing quite well, like Tullos is doing quite well. We’ve had our risk-of trade in Acadiana that we’ve talked about. So that’s kind of the one market that will be impacted by energy. But the other markets in the state I think are doing quite well. So, I wouldn’t read it that way.

Matt Olney

Okay. Great. Thank you for taking my questions.

Michael Brown

Glad to.

Operator

[Operator Instructions] Next question is from Christopher Nolan with FBR & Company.

Christopher Nolan

Hi. Thanks for taking my questions. Did I hear correctly the comments earlier where you talked that seasonal mortgage production could extend into the third quarter, to the next quarter, I misunderstand that?

Michael Brown

No, Chris, I think you heard that correct. We feel very good about our mortgage origination capabilities. Bob?

Bob Kottler

Chris, our pipeline held steady at quarter-end and it was up to $357 million at the – on Monday. We’ve had – we’ve continued to see good production week. And so I think we had a little bit of a bump when rates went down after Brexit, and rates have moved back up a bit, but we’re still seeing strong demand and we’re seeing good signs in the housing market. And as I think we’ll continue to see, although seasonally, get the normal seasonal adjustments. So, I think we should have a fairly strong third quarter.

Christopher Nolan

Great. And then as a follow-up question, your ROEs are certainly hit recent highs, I’m estimating return on average equity roughly 7.5%. As you look forward to 2017, do you expect to improve on that or to stay in the 7%, 7.5% range of recent quarters?

Michael Brown

Anthony?

Anthony Restel

Look, I think, if you look at our expectations to continue to improve the core earnings of the bank that should translate into higher returns overall. So, my expectation would be it’ll continue to climb from where we are. We’re still very focused on achieving all the long-term goals we put out there. We recognize that we’re a little bit behind on the returns as a function of a higher provision in the energy, and kind of, I’d call, the headwinds of the interest rate environment, but we’re not giving up on achieving those goals.

Christopher Nolan

Okay. So, we should expect capital ratios to increase materially, looking ahead?

Anthony Restel

Look, I think we’ve got a number of things in place to, I’d call, actively manage the capital. So again, I would think more as you’ll be more steady state. Again, we’ve got good loan growth, organically. We do have the share buyback program, which may or may not use some of the capital, but I wouldn’t be looking for a significant build in capital from here.

Christopher Nolan

Okay. Thank you very much for taking my questions.

Operator

The next question is from Jennifer Denba with SunTrust.

Kevin Chaksuvej

Hi. This is actually Kevin on for Jennifer. You have discussed earlier, but you indicated NPAs might be up a bit in the second half of 2016. Can you give some more color on that, is that all energy, or you’re seeing this come from anywhere else?

Michael Brown

Randy you want to comment on that?

Randy Bryan

As I said, it’s a combination, we may have – as we continue to work through the energy portfolio, as I said, we have some names that are kind of going to come out of that category and some others will come on. So the timing of that may result in an uptick there from an energy perspective. And then across the balance of the portfolio, really no significant trends there or in particular markets, just that frankly, when you look outside of energy and the acquired book, the total number in dollars of non-performing assets is a pretty low number and there is not a whole lot of room for that to drift down and may drift up a bit, but nothing significant.

Kevin Chaksuvej

Great. Thank you.

Operator

At this time I show no further questions. This concludes our question-and-answer session. I would like to turn the conference back over to Daryl Byrd for any closing remarks.

Daryl Byrd

Amy, thank you. I want to thank everyone for listening today and for your confidence in our organization. Again, everybody have a great day. Thank you.

Operator

The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect.

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