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BancorpSouth, Inc.

Q2 2008 Earnings Call

July 28, 2008 11:00 am ET

Executives

Randy Burchfield – SVP, Director of Marketing

Aubrey Patterson – Chairman and CEO

Jim Kelley – President and COO

Nash Allen – CFO

Gregg Cowsert – CLO

James Threadgill – Vice Chairman

Tom Rodell – Chairman of Council of Insurance Agents

Analysts

John Pancari – J.P. Morgan

Kevin Fitzsimmons – Sandler O’Neill & Partners

Brian Klock – Keefe, Bruyette & Woods

Jennifer Demba – Suntrust Robinson Humphrey

[Joe Steven] – [Steven Capital]

Matt Olney – Stephens Inc.

Charlie Ernst – Sandler O’Neill & Partners

David Bishop – Stifel Nicolaus & Company

Brian Klock – Keefe, Bruyette & Woods

Operator

Welcome to BancorpSouth second quarter Conference call. (Operator Instructions) Now, I will turn the meeting over to BancorpSouth, Randy Burchfield.

Randy Burchfield

On our call today from our corporate office in Tupelo are BancorpSouth Chairman and CEO Aubrey Patterson; Jim Kelley, our President and Chief Operating Officer; Nash Allen, our Chief Financial officer; Gregg Cowsert, our Chief Lending Officer; and James Threadgill, Vice Chairman of Financial Services, which includes our Bank’s Insurance operation.

As we usually do, let me remind you that during today’s call, representatives of BancorpSouth may make certain forward-looking statements regarding future results or future financial performance of the company. We caution you that actual results could differ materially from those indicated in these forward-looking statements due to a variety of factors and/or risk. Information concerning certain of these factors can be found in BancorpSouth’s Annual Report on Form 10-K for the year ended December 31, 2007.

During the call, certain non-GAAP financial measures may be discussed regarding the company’s performance. If so, you can find the reconciliation of these measures to the GAAP financial measures on the Investor Relations portion of our website at www.bancorpsouth.com.

Now, Chairman Aubrey Patterson.

Aubrey Patterson

Thank all of you for being with us today to discuss BancorpSouth’s financial results for the second quarter. I’ll provide a brief overview of our highlights for the quarter this morning and then other members of the Senior Management Team and I will address any questions you have.

First, let me refer to a few key points from our press release. Just hitting the highlights:

We had a growth of 14% in earnings per diluted share to $0.49 for the second quarter of 2008 versus 2007. We had continued solid loan demand reflected in a 5.7% increase in loans and 2.7% growth sequentially from the first quarter.

We maintained our company’s net interest margin at 3.79% for the second consecutive quarter, the highest level achieved in over five years; an increase of 3.0% in net interest revenue; nonperforming loans at the end of the second quarter totaled 0.49% of net loans, and annualized net charge-offs for the second quarter of 2008 were 0.30% of average loans.

We added 21.6% increase in noninterest revenue to a record $73.3 million, including growth in insurance commission revenue of 21.5%, the second consecutive quarter of growth in insurance commission revenue that was in excess of 20%.

We declared a 4.8% increase in the company’s quarterly cash dividend at $0.22 per share, making 2008 the 25th consecutive year in which the dividend has been increased, and we overall had an 8.2% increase in shareholder’s equity against a 1.4% increase in total assets, bringing our capital to asset ratio to 9.21% from a previous 8.63%.

Our second quarter financial results, once again, stood out in a challenging environment for the financial services industry. We produced increased net interest revenue compared with the second quarter of 2007 to a common [inaudible] solid loan growth and effective execution of our asset liability management strategy. We also produced strong growth in noninterest revenue for the quarter, further validating our continuing initiatives to diversify our revenue streams and reducing the impact of interest rate volatility on our financial results. This revenue growth, along with an ongoing focus on expense management, increased operating leverage and improved our efficiency. As a result, we achieved a solid increase in net income on both a comparable and sequential quarter basis.

In addition, BancorpSouth’s credit quality remains strong, now more than a year after the adverse credit climate first gathered momentum. While all the industry data for the second quarter is obviously not yet available, we expect our credit quality metrics to, again, be substantially better than those of our industry peer group both within our region and across the nation.

Of course, our markets have not been immuned to the general trend of the national economy. We’ve seen the impact of this in the comparable quarter deterioration of credit quality metrics from our extremely strong levels experienced a year ago. While our team measures of credit quality remain well within our company’s normal operating range at the end of the quarter, we expect them to be subject to more pressure in the quarters ahead, again consist with the national economic outlook.

That said, and as we have often discussed with you before, our consistently strong credit quality is benefited from our geographic footprint and the solid markets within this footprint where we’ve established strong presence. We’ve also benefited from avoiding other less desirable and higher risk markets. We’ve intentionally limited our exposure to some of these more speculative markets within our eight-state region. Our key markets have generally grown at a sustainable level.

Our continued strong credit quality during the second quarter is further tangible evidence that our conservative lending and credit philosophies have served us well. They’re the basis for a credit culture where the systems infrastructure and people to translate these philosophies into effective and sustainable practice. Because of the consistent and disciplined implementation of our policies throughout the entire economic cycle, we expect our credit quality metrics to continue to perform within our long-term historical range of experience.

With that overview, let’s examine our results for the quarter in more detail. We were encouraged by improved loan demand for the second quarter, growing at 2.7% sequentially from the first quarter of 2008 or 10.8% on an annualized basis. This growth represented a rebound from an annualized growth of 2.3% for the first quarter, and it’s the best quarterly rate of internal growth we’ve produced in the last four quarters.

We continue to see demand for quality loans across markets consistent with my comments earlier that many of our markets are performing steadily. As one key component of our overall strategy, we continue to fund loan growth primarily with proceeds from maturing lower yielding investment securities.

In addition, we reduced other time deposits during the second quarter by approximately $190 million, primarily through conservative pricing of public fund timed deposits. These are readily accessible commodities when and if needed for liquidity.

The second quarter represented the fifth consecutive quarterly decline in other timed deposits, which had been reduced by approximately $850 million since the first quarter last year. This decline was partially replaced by lower rate short-term borrowings from the Federal Home Loan Bank. These borrowings have increased to $643 million at the end of the second quarter from a balance of zero five quarters ago.

In addition, total demand deposits at the end of the second quarter of 2008 have increased by $160 million from the same time in 2007. They did decline sequentially from the end of the first quarter of 2008 by approximately $100 million, mainly due to normal seasonal trends. We’ve executed this strategy in a period during which interest rates declined substantially. The Fed Funds Target Rate has declined by 325 basis points since the second quarter of last year and by 225 basis points in just the first half of this year.

Our key metric is that our average rate paid on interest bearding liabilities declined on a comparable quarter basis at a faster rate than did the average taxable equivalent yield on our earning assets. As a result, combined with the impact on interest revenue from loan growth, we maintained our net interest margin at 3.79% for the second consecutive quarter compared with 3.69% for the second quarter of last year; 3.79% is the highest level achieved since the first quarter of 2003. We also produced net interest revenue for the latest quarter of $109.8 million, an increase of 3% over the second quarter last year.

Turning back to credit quality, I mentioned earlier that we have experienced slight deterioration in our credit quality metrics on a sequential quarter basis, not unexpectedly considering the environment. Our provision for credit losses for the second quarter of the year was $11.2 million, slightly more than the $10.8 million provision for the first quarter.

Nonperforming loans increased 7 basis points to 0.49% of total loans and leases from 0.42% at the end of the first quarter. Annualized net charge-offs for the second quarter were 0.3% of average loans, a one basis point increase from the first quarter’s rate of 0.29%. We also remain well reserved for expected losses within an allowance for credit losses of 1.30% of loans and leases at the end of the second quarter versus 1.29% at the end of the first quarter. That provides coverage of 2.65 times our NPLs and 4.33 times annualized net charge-offs.

Obviously, we’ll continue to carefully monitor trends and credit quality and the absolute levels of net charge-offs and NPLs. It should be noted that the levels at the end of the second quarter are well within historic ranges for BancorpSouth. After a period of historically low and unsustainable levels of charge-offs in NPLs during 2006 and 2007, our second quarter performance is more in line with long-term performance. In fact, our six-year average NPLs as a percentage of loans and leases is 0.47%, just at the percentage for this second quarter.

Facing continued softness in residential real estate development and construction lending, we remain highly focused on credit quality. Our policy is and has been to lend within our market area. As always, we’ll take decisive action to deal promptly with any credit issue that might emerge. We’re fully committed to keeping exemplary credit quality as a defining characteristic of BancorpSouth.

As with our long-term commitment to strong credit quality, our long-term strategy for building noninterest revenue is also producing results that effectively reduce our interest rate spread dependence. Noninterest revenue increased 21.6% to a new record of $73.3 million for the second quarter, or two-thirds the amount generated by our net interest revenue. Much of this growth came from a 21.5% expansion in insurance commission revenue for the second quarter of 2008 compared to the second quarter of ’07, the second consecutive quarter of growth in excess of 20%.

As detailed in our press release, growth in insurance commission revenue was enhanced by an acquisition completed in the third quarter of 2007 and two transactions completed in the first quarter of this year. Insurance commission revenue is now our single largest noninterest revenue stream.

Growth in noninterest revenue for the second quarter is also attributable to a 19.7% increase in fee revenue from our credit and debit card business. In addition, mortgage lending revenue, excluding changes in valuation of the mortgage servicing asset, increased 8% from the second quarter last year. The valuation of the mortgage servicing asset separately increased by $4.9 million for the second quarter of ’08 compared to an increase of $1.2 million for the comparable quarter last year.

In the second quarter, we also recorded a $2.6 million gain from the sale of MasterCard common stock. BancorpSouth has continued to focus on expense management. For the second quarter of this year, noninterest expense increased 5.8% from the second quarter of ’07, primarily due to the three insurance acquisitions and the opening of several new full-service branch bank offices and loan production offices in 2007 and 2008. Noninterest expense declined 1.2% from the first quarter of ’08 to the current quarter.

Our year-to-date efficiency ratio has been reduced to 0.62 versus 0.64 in the comparable period of 2007. Our second quarter performance contributed to an overall 8.2% increase in shareholder’s equity over the past four quarters. With total assets increasing at a controlled rate of 1.4%, our equity capital to assets ratio improved to 9.21% during the 12-monhts ended June 30 from 8.63% at June 30 of last year.

By strengthening our balance sheet and maintaining ample sources of additional liquidity, we’ve positioned BancorpSouth to navigate an uncertain economic environment while maintaining our ability to respond to new strategic opportunities. We remain in a strong competitive position in our markets with opportunities to expand our business in existing and contiguous markets through both organic growth and acquisition.

We’re well capitalized and we have diversified end revenue streams. We also have a clear understanding of our mission, our markets, and our customers; and we’ve developed a customer service culture that we believe is second to none in our markets. In fact, BancorpSouth was recently ranked highest customer satisfaction with retail banking in the Southeast region by J.D. Power & Associates in its 2008 Retail Banking Satisfaction Study. The strength of our capital position and our consistently profitable growth led to the 4.8% increase in our cash dividend declared during the second quarter to $0.22 per share, making 2008 the 25th consecutive year that our dividend has been increased.

In conclusion, while the economy certainly faces challenges in the coming months, we’re confident that BancorpSouth is positioned to deal with those challenges and to use our strength to full advantage as opportunities present themselves.

Thank you for being with us today. Operator, we’d now be happy to answer any questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from John Pancari - J.P. Morgan.

John Pancari – J.P. Morgan

Can you give us some more detail on the drivers of the increases in your nonperformers and in delinquencies this quarter, just a little bit more granularity around how much is concentrated in real estate versus any other C&I areas or income producing commercial real estate and then industries within that there’s concentration?

Aubrey Patterson

You’d like some distinction between the sources within the portfolio of any changes in those categories, and I’m going to refer that to Gregg Cowsert, our Chief Lending Officer.

Gregg Cowsert

Most of our pressure on the quality of the portfolio obviously like most other people has come from the residential real estate sector. We still feel good about where we are in the performance level portfolios. Let me give you a few numbers here: Our construction and acquisition and development portfolio, which stood at $1,578 million at the end of June, had an annualized gross charge-off rate, and that’s gross charge-offs of 0.27. Our nonperforming loans in that category were 0.88 of the outstandings in that category, and our total dollar amount of nonperforming loans in that category was $13.9 million. So again, while the numbers are up, we feel like those are good levels, good manageable levels of nonperformings in that category.

In our true commercial real estate, which is non owner occupied and multi-family, we have a total of $1,480 million in that. Total dollar amount of nonperforming loans in that category is $800,000 or 0.5% of that category.

Of interest with most people is our home equity portfolio. We have $470 million outstanding in that. Our total nonperformers in that category is only $600,000 for 0.12% of portfolio, and our overall 30-day past dues in our home equity portfolio is 0.4%. We only have 60 accounts past due 30 days or more of 19,000 home equity accounts.

Our owner occupied real estate, commercial real estate, stood at $1,444 million. We had total nonperforming assets in that category of $2.8 million for 0.19% of total outstandings in that category.

So those are some highlights of where we’ve had some run-ups in our nonperformers. But again, given those numbers I’ve just discussed with you, they’re still at very manageable levels.

John Pancari – J.P. Morgan

The increases that you saw in the quarter, they were largely concentrated in the resi real estate, in the construction A&D particularly?

Aubrey Patterson

Yes.

John Pancari – J.P. Morgan

Can you give us an idea of how that MPL ratio of 88 basis points for the construction and A&D book changed this quarter?

Aubrey Patterson

I don’t have that number. Let me just mention again, Gregg gave good insight into the details of this, John. But total nonperforming loans were at 0.49%, 49 basis points at the end of the quarter. At the end of the first quarter, they were at 0.42% of 42, so its 7 basis point change quarter-over-quarter.

John Pancari – J.P. Morgan

Then one other question there, just in light of the pressure you are seeing on the resi real estate side, can you give us an idea of that portion of your portfolio that you have reappraised about what portion have you done recent reappraisals? For those that you have, what amount of collateral depreciation have you seen on those properties?

Gregg Cowsert

We do a lot of reappraisal at renewal times; and certainly on problem assets, we have properties reappraised. In the markets that we’re in, we haven’t seen the level of deterioration that a lot of hot markets have seen. I would say on the outside, most of our reappraisals may show 12% to 15% deterioration in values.

John Pancari – J.P. Morgan

You mentioned on the outside, you mean your outskirts markets or? You said on the outside, so you mean your outskirt markets or your core markets?

Aubrey Patterson

He’s referring to the most extreme cases of deterioration. That was not a market reference.

John Pancari – J.P. Morgan

On the high side, oh okay; I’m sorry. Then lastly, can you just give us an idea of any contagion you’re seeing in the C&I book at all, any mounting weakness there given the economic slowdown?

Gregg Cowsert

We’re really not seeing much at all in our portfolio. We’re diligent [inaudible] because obviously the more protracted that residential real estate sector weakness continues, then we’re likely to see some more deterioration in C&I and in CRE. But for our portfolio, we’re not seeing any marked deterioration in either one of those portfolios at this point.

Aubrey Patterson

We should’ve said this at the front end, those are all good questions and you probably have asked questions that several other attendees will want to have answered to as well. We do have a large number of participants on this call morning, if the individuals could ask a question and then reenter the queue so that we can answer as many questions from as many participants as possible. Every one of your questions were great questions, John. They’re probably helpful to everybody; but if we could follow that practice, it’ll let everyone participate.

Operator

Your next question comes from Kevin Fitzsimmons - Sandler O’Neil.

Kevin Fitzsimmons – Sandler O’Neill & Partners LP

Was wondering if you referenced the asset quality metrics and the fact that the nonperforming loan ratio was right around the average or the median for this long-term historical time period you’re talking about. Can you give us a sense on for nonperformers and for the pace of charge-offs, over this time period, over that time period you’re quoting, what is the high end historically for you all for BancorpSouth? Then secondly, what gives you with what we’re seeing in this market, what gives you comfort that we’re really just dealing with the historical norm here and we’re not dealing with something more that we would be going above and beyond where the nonperformers went over the last 5 or 6 years? I’m not sure what time period we’re using.

Aubrey Patterson

I think the average that I was given to use for that was a 5- or 6-year average. It’s a really good question and Nash and Gregg, Nash Allen and Greg can probably, either one, give you a better answer than I can as to the range around that average charge-off figure and DL figure.

Nash Allen

Actually I think the high was, correct me if I’m wrong, I think the high during that period was maybe 58 basis points.

Gregg Cowsert

You’ve have to go back to the agents to get to those numbers. It was actually I think [inaudible] in the 40s, somewhere in the mid 40s has generally been where the high levels have come and recent history, that’s going back maybe ten years.

Aubrey Patterson

That should respond to the question, Kevin. Generally it’s a fairly tight distribution around those numbers. If you go back to the ‘87/’88 period or the ‘90/’91 period, you’d be on the high end of that and it might be from what they’re saying, it might be 15 or 20 basis points above that average.

Operator

Your next question comes from Brian Klock - KBW.

Brian Klock – Keefe, Bruyette & Woods

I think, I’m not sure if you have the information, Gregg, from the first quarter that you went over answering John’s question. The construction acquisition and development you said was 1.578 billion here at June 30?

Gregg Cowsert

Yes.

Brian Klock – Keefe, Bruyette & Woods

From the investor’s slide deck you put out at March, was that relative to the 1.799 billion that was there at the end of the first quarter?

Gregg Cowsert

Yes, that’s down 12.25% from the first quarter.

Brian Klock – Keefe, Bruyette & Woods

I guess maybe you can talk about how you’ve been able to work that portfolio down. Has it been through any note sale or has it been through pay downs or re-margining or maybe you can talk about how you’ve been able to work that portfolio exposure down.

Gregg Cowsert

Well most of it’s been through pay downs and obviously as the markets have weakened, we’ve not had the demand to replenish that volume. So it’s a natural trend in what we’re seeing in the marketplace that there’s no real demand for acquisition certainly and development and residential construction and so we’re just seeing a pay down in that portfolio with no replenishing opportunities.

Aubrey Patterson

Gregg, I think we made a comment in the press release that we [inaudible] to the fact that we’ve had pullbacks in certain markets for really since ’06.

Gregg Cowsert

Yes, really in late ’05 and ’06 for instance in the Memphis market, which has experienced some significant weakness, we started pulling in that market and that portfolio up there is actually down about 12 basis points year-over-year. Some other markets are still good, but they are pulling back some. I would reference Nashville is still a good market, but it’s pulling back some. Baton Rouge is a good market, but it’s pulling back some as some of the dynamics in that market are stabilizing from the Katrina effect.

But we have some new markets that we’ve put on. I would reference our LPOs that have developed over in East Texas that are giving us great opportunities for C&I business as well some residential real estate and commercial real estate opportunities. So we do have some bright sports in our existing markets and the new markets that we’ve put on. But we’ll see and anticipate certainly continued pullback generally in the residential acquisition and development construction portfolio as we’re seeing from the first quarter to the second.

Brian Klock – Keefe, Bruyette & Woods

It looks like you said that what was it, 13.9 million are the NPLs at the end of June and then construction and acquisition development portfolio, is that right?

Gregg Cowsert

Yes.

Brian Klock – Keefe, Bruyette & Woods

So relative, it looks that it was 6.5 million at the end of the first quarter, so the lion share of the increase in NPLs was in this portfolio in the second quarter?

Gregg Cowsert

That’s correct.

Brian Klock – Keefe, Bruyette & Woods

Do you have any other MasterCard stock still on your portfolio?

Aubrey Patterson

Yes.

Brian Klock – Keefe, Bruyette & Woods

Do you have that amount?

Aubrey Patterson

I haven’t disclosed that.

Brian Klock – Keefe, Bruyette & Woods

With the change in the MSR during the second quarter, how much of that was through decay versus change in fair value?

Nash Allen

The servicing asset, the market adjustments was 6.2%. The pay downs or pay-offs was 1.3% for pay down, 2, 1.3 million.

Brian Klock – Keefe, Bruyette & Woods

So the change in the quarter was 6.2 million?

Nash Allen

Right.

Brian Klock – Keefe, Bruyette & Woods

The 1.3 million was the change in fair value?

Nash Allen

That was for pay downs.

Brian Klock – Keefe, Bruyette & Woods

The pay downs, gotcha. This is the last question and I’ll get off. Other fee income in the quarter, I know that you had $19 million in the first quarter, you had about $1.5 billion in student loan gains, so X that it looks like there’s about $2 million of an increase in the other fee income line in the second quarter. Anything in there that’s seasonal or anything that we should expect to go forward or maybe get some color on that line item?

Aubrey Patterson

I’ll let Nash amplify this, but we didn’t have student loan gains in the first quarter.

Nash Allen

No, we didn’t. I think that was probably the sale of some other credit card related stock. We have not sold any student loans materially this year so…

Brian Klock – Keefe, Bruyette & Woods

My misunderstanding.

Operator

Your next question comes from Jennifer Demba - Suntrust Robinson Humphrey.

Jennifer Demba – Suntrust Robinson Humphrey

I was just wondering if you could give us some color on where most of your loan growth came from geographically and by category?

Gregg Cowsert

Well, I mentioned some of our markets. To be specific, year-over-year, we’ve had about 10.5% growth in the Birmingham market, which is south, but still remains a good market for us. Huntsville, we’ve had about 19.7% growth in it. In our Nashville area, we’ve had considerable growth in that portfolio, although as I said it’s pulled back some. As I’ve mentioned the Memphis market is down almost 3%, and our Northwest banking region, which includes Memphis and the Northwest Mississippi area is down 11 basis points in total. We’ve had significant growth in our [Tyler] market of about $20 million. Our new LBO, LPO in Lafayette, Louisiana, has had about an $18 million growth. We’ve got a new LPO in Alexandria, Louisiana, which is going to produce some strong growth for us in that new market. Baton Rouge market is up about 20% over a year ago. Longview, Texas, is up 54%, Lufkin up 52%. So again, these new markets are really providing some good opportunity for us.

Jennifer Demba – Suntrust Robinson Humphrey

[Inaudible] if we looked sequentially.

Aubrey Patterson

Jennifer, yes, if you look sequentially that you’d see the same trends. In fact, they’re probably accelerating in those new markets. This goes back to a theme that I made a passing reference to, but you’ve heard us speak to numerous times, we don’t have concentrated market dependency. We’ve got a number of good markets, a number of very diverse markets that have different economic drivers. Those have generally been very positive for us and sustainable growth levels but significantly Gregg spent several minutes of his time there answering that question talking about our new loan production officers and new full-service branches, which have their genesis in loan production offices. Notably in markets like Louisiana whether its Freeport, Baton Rouge, Lafayette, Alexandria or East Texas, Tyler, Longview, Lufkin, a number of locations where we’ve experienced high quality performance from our staff as we’ve made market entries through LPOs. We’ve obviously picked those kind of [micropolitian] areas with good growth demographics to make those investments and we’re seeing them move to profitability in a very short period of time.

Jennifer Demba – Suntrust Robinson Humphrey

Could you give a sense of geographically where the increase in nonperformers came from?

Gregg Cowsert

Geographically, I would say the Alabama market was a driver in that and Missouri.

Aubrey Patterson

That was primarily it.

Operator

Your next question comes from Joe Steven - Steven Capital.

Joe Steven – Steven Capital

Big picture question because most of my detailed questions have been answered. We’ve heard some banks say that they’re seeing a true opportunity to honestly start pricing risk higher, where they’re simply going through all their annual loan renewal and just trying to move rates up on the lending side and also on the deposit side moving things down. On a big picture basis, is that something that you, number one, see as an opportunity and, number two, is it anything market-by-market that has let’s say a variance on that?

Aubrey Patterson

That’s a really good question for the broader landscape. As I pointed out in looking in the rearview mirror, we’ve had five-year record margins that we’ve been able to maintain at the 3.79 and obviously that’s a combination of good loan growth replacing. It’s been a shift from lower yielding investments to higher yielding loans and on the other side from higher costing [inaudible) CDs to lower costing home loan bank advances. That stood us in good stead. What we have seen and I think we’ll be seeing less of it to the point of your question, we have seen some of the large regional banks be very aggressive in their CD yield offerings.

I’m speculating but I’m assuming that that’s due to liquidity needs and some concerns about accessing debt markets. But in any case, we have seen that. We all, and our competitors, are likely seeing the need for what you’ve described as a strategy. All the markets are different, but I think the trend will logically be as you have described it. We may have seen the beginnings of that trend. Hopefully we’ll see more rational pricing on both sides of the balance sheet because it certainly called for under the circumstances. I can only respond to your question by saying, “We may be beginning to see that trend emerge, but it’s not substantial and it’s not broad-based yet.”

Operator

Your next question comes from Matt Olney - Stephens Incorporated

Matt Olney – Stephens Inc.

Wanted to switch gears to the insurance commission, they were down a little bit linked quarter. How much of that is just a difficult price environment versus just normal seasonality? Then secondly, how does the pipeline look for insurance acquisitions in the second half of the year?

Aubrey Patterson

James Threadgill’s with us, Matt, and I’ll refer that question to him.

James Threadgill

Well, Matt, the first quarter and I think we reported we received our contingency revenues primarily in the first quarter, so that’s the reason for the drop from first quarter to second quarter. The landscape in the insurance industry obviously there’s a lot of pressure on premium pricing. Carries are reducing their premiums and that’s driving commissions down. Year-to-date, from our organic or three foundation agencies from last year, we are seeing about a 1% or 2% growth in revenue, about 21% of that growth that we reported came from the acquisitions we made in January.

But you’re correct, it is a soft market. We’re challenged every day to grow new business and thus far this year we’ve been able to do that.

Aubrey Patterson

The acquisitions have been exceeding our hurdle rate on ROI threshold for acquisitions, and they’re adding to the relative profitability, the organization. But this is a seasonal business. The first quarter doesn’t look like the second quarter for the reasons James said. The good comparison to compare the second quarter with the previous second quarter and that’s where we’re exceeding. We’ve got small organic growth because of the soft market, but we do have more than 20% growth in quarter-over-quarter numbers.

Operator

Your next question comes from Charlie Ernst of Sandler O’Neill.

Charlie Ernst – Sandler O’Neill & Partners

Can you just talk, give a little bit of attention to the recent attention to the growth in your acquisition and development portfolio and just remind us historically speaking how much the portfolio came through the acquisition of Signature? Also, if I remember correctly, there was a restatement a few years back, I believe it was from commercial real estate into that portfolio.

Aubrey Patterson

Gregg, I know from recent conversations with him has those numbers at hand.

Gregg Cowsert

The re-classification number from a good many quarters back was about $360 million. During the first quarter and during ’07, we had new loans into that portfolio of net $160 million and the Signature acquisition brought in $210 million. So those three components, those are the drivers for the increase from the latter part of ’06 through ’07 and those trends as I mentioned in that portfolio are trending, that volume is trending down from March 31st this year to June 30th this year. It’s down 12.25%. We see that trend continuing in that portfolio.

Charlie Ernst – Sandler O’Neill & Partners

Then if I could just ask one more question. The margin, could you talk about where you think the sensitivity is these days? If I take the balance sheet mix from a year ago and I use this quarter rates that would imply that you could actually have a higher margin today. So that would say that you haven’t really been helped a lot by the decline in rates and historically speaking I think about you as being a little bit liability sensitive but the numbers don’t really suggest that. So can you just update us as to what your sensitivity is?

Aubrey Patterson

Nash, would you like to comment on that?

Nash Allen

Charlie, our goal, our practice is to keep our exposure within 10% of our earning assets as far as the gap that we have and we try to maintain that on a six-month to year basis. We think we’re going to manage through it. But to say that you’re going to see any upside or downside, we don’t forecast that. It’s dependent certainly on our markets and our competition. I think there’s going to be more pressure on the deposit side. Though going forward we’ve seen people talk about lowering rates, I think we’re going to see some pressure on our deposit pricing going forward.

Aubrey Patterson

I certainly don’t think we’re immuned to that. I understand the jest of your question. It’s a little more fundamental to the structure of the balance sheet taking this year versus last year on the same mix. Nash is correct that we model that fairly tightly and we critique our modeling fairly tightly. The model would show you that as you suggest that there’s some slight liability sensitivity in the short-run that depending on the things that have been happening that maybe actually flattened out a little bit.

Charlie Ernst – Sandler O’Neill & Partners

Then the CD rate, it’s 3.95, do you see much more flexibility in that rate?

Aubrey Patterson

I’m sorry, would you clarify that?

Charlie Ernst – Sandler O’Neill & Partners

The CD rate right now in your average balance sheet is around 3.95. Do you have much more room to cut those?

Aubrey Patterson

Probably not. Realistically for the reason that I said, the markets are reflecting a fairly aggressive move by some of the large regionals to use that as a source of funding, and I think we’ll do well to hold it.

Operator

Your next question comes from Dave Bishop - Stifel Nicolaus.

David Bishop – Stifel Nicolaus & Company

Another macro level question following Joe’s, obviously Mississippi, Alabama, that regions benefited pretty handedly from some of the exodus from detouring the Rust Belt in terms of auto manufacturing jobs, putting aside the derivative energy effect and how that’s playing out through maybe more the Lafayette region. But are you seeing any announcement from, I don’t know if there’s any pullbacks in terms of auto jobs there or manufacturing plants that have been on the drawing board that have been cancelled given the rise in gas prices there? Does that have any derivative effect there in terms of the job outlook there in that sector of the economy within your footprint?

Aubrey Patterson

There are a lot of moving parts in that business as you well know. We’re extremely pleased in the nucleus of our footprint in Northeast Mississippi that Toyota has made the decision to forego using a plant, the major assembly plant that’s under construction here in Tupelo from the Highlander to the Prius which will be the first hybrid technology vehicle Toyota has built in this country, and it’ll be the new generation Prius at that. So we’re excited about the technological impact on not only North Mississippi but Northwest Alabama, South Central Tennessee, parts of our markets we expect to see continued expansion of the positive aspects of that. I know and you’re referring to a lot of the pullbacks in some of the major assembly plants, I recall Texas being one, San Antonio.

Nissan is revamping their Mississippi plant to produce more small scale commercial vehicles as opposed to the large SUVs. That’ll have some temporary impact on the market. It’s one of our markets, but one of our major markets that they serve. So we’ll expect to see some diminution in employment for awhile, but then that’ll ramp back up later on.

So the overall move to our part of the world continues. You saw the announcement just this week that Volkswagen is going to build their major assembly plant in Chattanooga. While we’re not in Chattanooga, we’re certainly in the neighborhood and we’ll benefit by that as well.

David Bishop – Stifel Nicolaus & Company

Then maybe surfing back to the margin in the funding side of things, obviously you’ve been taking advantage of the flood window here. When we look at it from a marginal cost differential, what is that running at about these days in terms of the wholesale versus using some of these retailer and CD deposits?

Aubrey Patterson

Well if you look at average numbers, our average advances is to home loan bank at the current rates are more than 100 basis points below CDs that would be alternatives for sources, so it’s a significant advantage.

David Bishop – Stifel Nicolaus & Company

The average duration for those.

Aubrey Patterson

Well, we have a fairly short-term duration for our home loan bank advances, but we evaluate that in the context of our interest rate risk model and we will probably be expanding our, extending our maturities on some of those as we already have to some degree.

David Bishop – Stifel Nicolaus & Company

Then maybe one final question here: How about in terms of the M&A appetite? Obviously we’ve seen some distressed sales out there, is that something given your capital position in ever expanding footprint here you might have an appetite for?

Aubrey Patterson

We are focused on BancorpSouth. We think we have an extraordinary performance in maintaining our spreads and increasing our earnings at a 14% pace and building capital to now well above 9%, total capital and tangible capital above 7%. What’s that number? 7.12. We think that there may be better position to companies to deal with both this relatively weak economy and the opportunities that will present themselves. But at the moment, we’re focused on building this strength and continuing to perform as we have.

Operator

Your next question comes from Brian Klock - KBW.

Brian Klock – Keefe, Bruyette & Woods

Aubrey and Nash, what capacity do you still have at the FHLB for further funding?

Aubrey Patterson

It is tremendous capacity. Mr. Rodell is with us. He’s our [Alco] Chairman. We’ve utilized one, well one-sixth of the total, if that’s correct, excuse me, one-fifth. We have sizeable, I won’t say any exhaustible, but given the collateral that we have available, liquidity is not an issue.

Brian Klock – Keefe, Bruyette & Woods

So it’s more high cost CDs continue to roll down and you have the favorable funding, there should be or could be a benefit to your margin than as you connect at that funding source?

Aubrey Patterson

It would be a continuation of what we’ve been doing for some time, yes. I would moderate that to say that obviously we’re going to continue to look at our GAAP analysis to make sure that we’re not overly dependent on short-term financing. Longer term financing is available, but obviously that diminishes the spread, the spread gain that we would achieve.

Brian Klock – Keefe, Bruyette & Woods

I know you don’t necessarily give guidance on this, but you did build the reserve to loan ratio in the quarter. When you look at coverage of MPLs, amount of accrual loans and then when you add in your 90 days past due level is a lot higher than a lot of your peers, plus you’ve got strong capital in the form of tangible common. I think if you go back historically through some of the numbers you talked about, I don’t think your reserve to loan ratio has grown to much higher than where it is currently. So would the expectation be that the reserve ratio may stay in the same range of 130 basis points or so?

Aubrey Patterson

It actually has stayed in that range and it was up from quarter-to-quarter. Just to reiterate the numbers, the specificity of the numbers you indicated, the reserve is 2.65 times our MPLs and four and a third times are annualized charge-offs at the 30 basis point level. We feel that that’s where we need to be, and that’s about all we can say about that.

Operator

At this time, we have no further questions.

Aubrey Patterson

Thank you all for questions and for your support and interest in BancorpSouth. If you have any need for additional information or further discussion, don’t hesitate to call Nash Allen or Mr. Jim Kelley, our COO, or myself. Otherwise, we’ll look forward to speaking with you again in our third quarter conference call. Good day.

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Source: BancorpSouth, Inc. Q2 2008 Earnings Call Transcript
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