Susan Blair - EVP of IR George Gleason - Chief Executive Officer Greg McKinney - Chief Financial Officer Tyler Vance - Chief Operating Officer.

Jennifer Demba - SunTrust Robinson Humphrey Michael Rose - Raymond James Stephen Scouten - Sandler O'Neill Brian Zabora - KBW Matthew Olney - Stephens, Inc. David Bishop - Drexel Hamilton Brian Martin - FIG Partners Blair Brantley - BB&T Capital Markets.

Welcome to the Bank of the Ozarks, Inc. Second Quarter Earnings Conference Call. My name is Christine, and I will be your operator for today's call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session. Please note, that this conference is being recorded.

Now I will turn the call over to Susan Blair. You may begin..

Good morning. I'm Susan Blair, Executive Vice President in charge of Investor Relations for Bank of the Ozarks. The purpose of this call is to discuss the company's results for the quarter just ended and our outlook for upcoming quarters.

Our goal is to make this call as useful as possible to you in understanding our recent operating results and outlook for the future. A transcript of today's call, including our prepared remarks and the Q&A will be posted on bankozarks.com under the Investor Relations tab.

During today's call and another disclosures and presentations, we may make certain forward-looking statements about our plans, goals, expectations, thoughts, beliefs, estimates and outlook, including statements about economic, real estate market, competitive, credit market and interest rate conditions, revenue growth, net income and earnings per share, net interest margin, net interest income, non-interest income including service charge income, mortgage lending income, trust income, bank-owned life insurance income, other income from purchased loans and gains on sales of foreclosed in other assets, non-interest expense, our efficiency ratio, asset quality and our various asset quality ratios, our expectations for net charge-offs and our net charge-off ratios, our allowance for loan and lease losses; loans, lease, and deposit growth, including growth in our non-purchased loan and lease portfolio; growth from unfunded closed loans; and growth in earning assets, changes in expected cash flows of our purchased loan portfolio; changes in the value and volume of our securities portfolio; the impact from termination of the loss share agreements in last year's fourth quarter, conversion of our core banking software and expected cost savings in connections with such conversions, the opening, relocating and closing of banking offices; our expectations regarding recent mergers and acquisitions and our goals for additional mergers and acquisitions in the future; the availability of capital, changes in growth in our staff, the eventual impact of the Durbin Amendment and expenses with regard to regulatory compliance.

You should understand that our actual results may differ materially from those projected in the forward-looking statements, due to a number of risks and uncertainties, some of which we will point out during the course of this call.

For a list of certain risks associated with our business, you should refer to the Forward-Looking Information section of our periodic public reports, the Forward-Looking Statements Caption of our most recent earnings release, and the description of certain Risk Factors contained in our most recent annual report on Form 10-K, all as filed with the SEC.

Forward-looking statements made by the company and its management are based on estimates, projections, beliefs and assumptions of management at the time of such statements and are not guarantees of future performance.

The company disclaims any obligation to update or revise any forward-looking statement based on the occurrence of future events, the receipt of new information or otherwise. Any references to non-GAAP financial measures are intended to provide meaningful insights and are reconciled with GAAP in our earnings press release.

Our first presenter today is Chief Financial Officer, Greg McKinney, followed by Chief Operating Officer, Tyler Vance; and finally, Chief Executive Officer, George Gleason..

Thank you for joining today's call. We are very pleased to report our excellent second quarter results.

Highlights of the quarter included net income of $44.8 million, diluted earnings per common share of $0.51, outstanding growth in our funded balance of non-purchase loans and leases, and in our unfunded balance of closed loans, a stellar efficiency ratio of 36.6%, excellent asset quality and completion of the Intervest conversion to our Fiserv Premier system.

In the second quarter, we achieved an annualized return on average assets of 2.17%, building on our track record of having achieved returns on average assets in excess of 2% in each of the last five years.

Net interest income is traditionally our largest source of revenue, and is a function of both the volume of average earning assets and net interest margin. Our second quarter 2015 net interest income was a record $93.8 million.

We continued to enjoy a very positive trend in net interest income in the quarter just ended, as a result of good growth in average earning assets, which more than offset a small reduction in our net interest margin. Of course, loans and leases comprise the majority of our earning assets.

In the quarter just ended, our non-purchased loans and leases grew a healthy $456 million. This growth was the second largest quarterly growth in our history, and just $12 million short of the record quarterly growth we achieved in the third quarter of 2014.

Our unfunded balance of closed loans increased $596 million during the quarter just ended, and totaled $4.01 billion at June 30, 2015. While some portion of this unfunded balance will not ultimately be advanced, we expect the vast majority will be advanced. This has favorable implications for future growth in loans and leases.

In our previous conference calls this year, we said that one of our goals in 2015 is to achieve growth in non-purchased loans and leases, exceeding our 2014 growth of $1.35 billion. Our non-purchased loan and lease growth was $787 million in the first half of 2015. That's 58% of our minimum goal for the year.

While it's impossible to precisely predict the timing of loan fundings and pay offs, we think it is more likely than not the growth in non-purchased loans and leases in the second half of this year will equal or exceed the $787 million of growth in the first half of the year.

In regard to net interest margin, our second quarter net interest margin on a fully taxable equivalent basis was 5.37%, a five basis point decline from the first quarter of 2015, and a 15 basis point decline compared to our full year 2014 net interest margin of 5.52%.

In our previous conference calls, we have said that given the continued decreases expected in our balances of purchased loans, and considering the current low rate, ultra-competitive environment in which we are operating, we expected another year of declining net interest margin in 2015.

We said that excluding the effects of any future acquisitions beyond the Intervest acquisition, we expected a decrease in our net interest margin in 2015 similar to the 28 basis point decrease in net interest margin we experienced in 2013, compared to 2012. Our results for the first six months this year are consistent with that guidance.

As part of our guidance provided in the January and April conference calls, we said we expected our cost of interest bearing deposits would increase between one and five basis points in each quarter of 2015, as a result of our deposit gathering activities to fund loan and lease growth.

During both the first and second quarters of this year, our cost of interest bearing deposits was 29 basis points, an increase of two basis points from our cost of interest bearing deposits in the fourth quarter of 2014.

That result is consistent with our guidance, and we continue to believe that our cost of interest bearing deposits will increase between one and five basis points in each of the remaining quarters of 2015.

Let me remind you that our guidance on net interest margin, including the guidance on cost of interest bearing deposits excludes the effect of any future acquisitions.

With our net interest margin well within our guidance range for the first half of 2015, and considering our good growth in the funded balance of non-purchase loans and leases in the first six months of the year, and our significant unfunded balance of closed loans, we appear to be well-positioned to maintain a positive trend in net interest income in the second half of 2015.

And more importantly, we are very pleased with the credit and interest rate risk profile of the loans and leases we have booked.

In the quarter just ended, we obtained large amounts of cash equity, and most new loans continue to require appropriate risk adjusted processing, and actually increased our percentage of variable rate loans, which now comprise 74.10% of total non-purchase loans and leases.

We believe we are achieving excellent growth in margins in a proper way without taking excessive credit or interest rate risk. Now, let me turn the call over to Tyler Vance..

In the quarter just ended, we achieved $371 million of deposit growth, while maintaining our cost of interest bearing deposits at 29 basis points, equal to our first quarter cost of interest bearing deposits.

These favorable results were achieved by utilizing several good low cost funding sources, and continuing to achieve excellent organic growth of core deposit customers. Our various deposit growth efforts and our substantial liquidity on hand as of June 30, have us well-positioned to fund our expected loan and lease growth.

You may recall we added approximately 9,370 net new core checking accounts in 2014, excluding accounts acquired in acquisitions.

Our retail banking team has successfully accelerated our net core checking account growth in the first half of 2015, adding approximately 6,539 net new core checking accounts, excluding the core accounts acquired in our Intervest acquisition.

We are on pace to exceed the number of net new core checking accounts opened in 2014, perhaps as early as the end of the third quarter of 2015. Our ability to achieve such strong core account growth has favorable implications for future service charge income and liquidity.

We have spoken at lengthabout our decision in 2014 to convert our core operating systems to Fiserv Premier. Last month, we completed the Intervest systems conversion, which was our last pending core systems conversion. We are very pleased to have our entire bank on one core operating system for the first time since June 2013.

Of course, any future acquisitions will entailfuture conversions, and we are excited about those opportunities. Additionally, our new Little Rock data center [indiscernible] 2015. The new state-of-the-art facility provides increased processing and data capacity to support continued growth, enhanced security and system redundancy.

Our long established datacenter in Ozark, Arkansas, remained intact providing near instantaneous backup capabilities to the new Little Rock datacenter.

Our core systems conversion projects combined with our two fully redundant datacenters position us well for the growth and enhanced service we have planned for both our internal and external system users in the years to come.

In addition to the favorable implications for service quality and new product introductions, these projects should also approve efficiency over time as we fully leverage the capacity within our new systems datacenter and technology infrastructure.

Our efficiency ratio for the quarter just ended improved to 36.6% compared to 42.8% for the first quarter of 2105, and 45.3% for the full year of 2014. Traditionally, we've been among the most efficient bank holding companies in the U.S.

And the improvement in our efficiency ratio this year further enhances our excellent standing among the nation's most efficient banks.

While our efficiency ratio will vary from quarter-to-quarter, especially in quarters where we have significant unusual items of income and non-interest expense, we have stated in recent conference calls that we expect to see a generally improving trend in our efficiency ratio in the coming years.

This is predicated on a number of factors, including our expectation that we will ultimately utilize a large amount of the current excess capacity of our extensive branch network, our expectation that our core software conversion projects will reduce software cost by approximately $2.75 million per year, starting this year, while providing greater functionality for our customers and employees, and creating other opportunities for enhanced operational efficiency, and our expectation of achieving additional cost savings from our recent acquisitions.

In the quarter just ended, we incurred approximately $1.6 million of acquisition-related and system conversion expenses.

Any future acquisitions will result in our incurring various amounts of acquisition-related system conversion and contract termination expenses, which will increase our efficiency ratio in those quarters, as such cost did in the quarters and the quarter just ended.

For example, our previously announced acquisition of the Bank of the Carolinas Corporation, which is expected to close late in the third quarter or early in the fourth quarter of 2015, is expected to result in total acquisition-related system conversion and contract termination expenses of approximately $3.5 million.

When we exceed $10 billion in total assets, either as a result of additional acquisitions, organic growth or a combination thereof, we will lose some interchange revenue as a result of the Durbin Amendment.

And we will incur increased regulatory compliance costs, both of which will create some headwinds in our efforts to further improve our efficiency ratio.

Our guidance regarding an improving efficiency ratio in future years considers the impact of exceeding $10 billion in total assets, but does not consider the potential impact of any future acquisitions. Now, let me turn the call over to George..

Last year, we entered into agreements with the FDIC terminating our loss share agreements on all seven of the banks we acquired in FDIC assisted transactions.

In the January call, we discussed that all future recoveries, gains, charge-offs, losses and expenses related to the previously covered assets would subsequently be recognized entirely by us, since the FDIC would no longer be sharing in such items.

We noted that our future earnings would be positively impacted to the extent we recognized recoveries and excess of the carrying value of such assets and gains on any sales, and that our future earnings would be negatively impacted to the extent we recognized charge-offs, losses on any sales, and expenses related to such assets.

We stated our expectation that the termination of our loss share agreements would have a net positive effect on future earnings. That expectation was based on our historical experience in which we have recognized combined recovery incoming gains on sale, well in excess of our combined net charge-offs, losses on sales and related expenses.

All this has played out as expected in the first half of this year when we realized mass increases and other income from purchase loans and gains on sales of other assets, those of which included substantial positive contributions from loans and foreclosed assets previously covered by loss share.

Specifically, our other income from purchase loans was $7.0 million in the quarter just ended, after being $8.9 million in this year's first quarter, both much higher than the average of $3.7 million per quarter in 2014.

And our gains on sales of other assets were $2.6 million in the quarter just ended after being $2.8 million in this year's first quarter, both being much higher than the average of $1.5 million per quarter in 2014.

The increases in these two line items more than offset any increases and provision expense for purchase loans and any increases in non-interest expense related to loans in foreclosed assets previously covered by loss share.

Specifically, our provision expense for purchase loans was $0.4 million in the quarter just ended, after being $1.3 million in this year's first quarter, compared to an average of $0.8 million per quarter in 2014.

And our loan collection and repo expense and OREO write-down expense in the quarter just ended was $1.2 million, after being $3.9 million in this year's first quarter, compared to an average of $1.1 million per quarter in 2014.

These numbers suggest that, as expected, at least in the first two quarter of this year the termination of loss share resulted in additional income items, which more than offset the additional expense items. Other income from purchase loans and gains on sales of other assets were both less in the quarter just ended than in this year's first quarter.

All these income items will vary significantly from quarter-to-quarter we expect a declining trend in these income items over time as the volume of purchase loans and the foreclosed assets decline.

On the other hand, our aggregate loan collection and repo expense, OREO write-down expense and provision expense for purchase loans in the quarter just ended declined significantly from this year's first quarter.

This decline reflects a reduction in the volume and severity of problem purchase loans and foreclosed assets, and while these expenses will vary significantly from quarter-to-quarter, further reductions in the volume of such problem assets should result in further reductions in these expense categories. Let me provide a few comments on asset quality.

We feel that our asset quality at June 30, 2015 is about as good as it has ever been. The numbers support that assessment. At June 30, 2015, excluding purchase loans, non-performing loans and leases as a percent of total loans and leases were 0.34%.

Non-performing assets as a percent of total assets were 0.49%, and our ratio of loans and leases passed through 30 days or more, including passed through non-accrued loans and leases. The total loans and leases were 0.50%.

Our annualized net charge-off ratio for non-purchase loans and leases was 0.12% for the second quarter this year, and for purchase loans were 0.08%. Our annualized net charge-off ratio for all loans and leases were 0.11% for the quarter just ended.

When we provided guidance on asset quality in our January conference call, we said we expected our 2015 net charge-off ratio for total loans and leases would not be significantly different from the range of net charge-off ratios we had experienced for total loans and leases in 2013, which was 26 basis points, and in 2014, which was 16 basis points.

Our annualized net charge-off ratio for all loans and leases for the first six months of 2105 was 22 basis points putting us well within that guidance range. Let me close our prepared remarks with a few comments about growth and acquisitions. Organic growth of loans, leases, and deposits continues to be our top growth priority.

And we've clearly demonstrated our ability to achieve substantial growth apart from acquisitions. With that said, M&A activity continues to be another focus as we believe M&I provide significant opportunities to augment our healthy organic growth.

On May 6, 2015, we announced we had entered into a definitive agreement plan of merger and reorganization with Bank of the Carolina's Corporation headquartered in Mocksville, North Carolina.

Bank of Carolinas operates eight full-service branches between Charlotte and Winston-Salem, providing us the opportunity to expand our presence in the northern portion of the Charlotte MSI, and providing our initial offices in the Piedmont Triad region.

This acquisition is expected to close either late in the third quarter or early in the fourth quarter of 2015. We continue to be active in identifying and analyzing M&A opportunities, and we believe an active and disciplined M&A strategy will allow us to continue to create significant additional shareholder value. That concludes our prepared remarks.

This time we will entertain questions. Let me ask our operator to once again remind our listeners how to queue in for questions.

Operator?.

Thank you. [Operator Instructions] Our first question is from Jennifer Demba of SunTrust Robinson Humphrey. Please go ahead..

Thank you. Good morning, George..

Good morning, Jennifer..

I'm just curious about your loan growth and the strength of it.

Could you give us some sense of the geographic makeup of it, and give us a sense of what you are seeing down in the state of Texas, and if there's been any impact from your perspective from the oil decline?.

Well, first let me tell you that our growth continued to be led by our real estate specialties group. About $295 million of our second quarter growth came from real estate specialties group. Our community bank lending group contributed a $114 million to our funded balances of non-purchased loans in the quarter. Leasing contributed $11 million.

Stabilized properties group contributed $32 million, and corporate loan specialties group contributed $4 million. So all were positive, clearly the leading candidate and runner-up in loan growth were real estate specialties group and our community bank lending. With that said, the geographic dispersion of those loans, I believe was fairly broad-based.

I don't actually have the June 30 data breaking down loans by geographic location of collateral yet, but if you go back to our latest investor presentations, Arkansas was responsible for just under $1.3 billion of our outstanding loans at March 31. New York was just under a billion dollars.

Texas was about $850 million, and California came in third at just under $600 million of our outstanding loans.

My guess is without having the data or just knowing what closed, and what paid off, and so forth, on significant transactions I would guess that New York and California increased, Arkansas and Texas probably held relatively stable at June 30, versus March 31.

To your question about are we seeing any significant impacts in Texas as a result of the oil and gas price declines, again, I would point out as we have in previous calls, we have almost no exposure directly to oil and gas exploration or service and there is very limited indirect exposure.

Our exposure is just for the most part what happens to the macro economy as a result of that, and certainly I'm sure that has created lot of job losses in Texas, and has slowed Texas GDP, but our sense is that jobs are still being created on a net basis.

The GDP is still moving along in a fairly good fashion in the state, and it continues to be a positive environment in which we are operating. We continue to vigorously pursue new loan opportunities there. So we are not seeing any problems in Texas at this point, caused by the oil and gas decline.

Certainly it's taken the edge off the growth in the state, but it has not resulted in problems for us at this point. And I think if it does, they will be very small problems..

Okay. Thank you very much..

Thank you. Our next question is from Michael Rose of Raymond James. Please go ahead..

Hey, good morning, George.

How are you?.

Hi, Michael. Good morning..

Hey, I just wanted to get a little color on the decline in expenses this quarter. Obviously a little bit greater than I was expecting.

Just want to get a sense for how much of the Intervest cost saves are currently in the run rate? I think you had outlined 20% to 25% of their expense [base] [ph] within the first 12 months, and then just any other color you might have on expenses. Thanks..

Okay. Well, obviously a good quarter and moving the non-interest expenses downward, and we are very pleased to have booked a solid 36.6% efficiency ratio even with the merger and conversion cost, acquisition conversion costs that were in the second quarter numbers.

As I mentioned, our loan collection and repo expense declined significantly in the quarter just ended, and I gave those numbers in our prepared remarks.

We also completed back in February, I guess it was, Tyler, the system conversion on FNB Shelby acquisition, which was an 18-month old acquisition at the time we converted their systems, they were the last conversion other than Intervest, which occurred in this quarter.

So we finally got a lot of the operational system cost saves out of the FNB Shelby consolidation. You saw the full quarter's impact of those with the FNB Shelby conversion done, and Intervest done in June. We have now got most of those $2.75 million of annual cost saves on software costs in the run rate; most of that savings was reflected in Q2.

The Intervest part of that will be reflected in Q3. We will have some additional cost saves related to the Intervest conversion as their accounting and ops people exited post that conversion in Q2. We had that cost in Q2, and we will have a full quarter of the savings from that in Q3.

So, a lot of cost saves from conversions and consolidations, some cost saves from efficiency that we've managed to gain from those process improvements as well, and then a big cost saves on loan collection and repo expense.

As we talked about in the last couple of quarters of last year, and I think we've mentioned it maybe in one or both of the calls this year, we really worked hard as we were approaching the end of loss share to try to conclude a lot of the more challenging problem assets and so forth, and really wrap up that process and not just on our loss share buyings, but our other acquired banks really trying hard to wrap up a lot of the litigation and resolution of some of the more expensive problem assets.

And we saw that in a significant reduction between Q1 and Q2 in loan collection and repo expense. So those are savings we expected to get, and at some time, and we're glad to see them finally began to get through to the bottom line..

Okay, that's really helpful. Then as a follow-up, the purchased loan balances were down maybe a little bit more than I think many of us were expecting.

I know it's hard to ask for a trajectory here but was there anything outsized that you guys had exited this quarter; any maybe one-time credits that left that caused the sequential drop?.

We had more pay offs in that portfolio, honestly, than I was expecting as well. The magnitude of the decline in that purchase loan portfolio surprised me a little bit. So I can't really tell you if that is an ongoing run rate, or if it that was an unusually robust level of pay downs. I wish I knew the answer to that question, but I don't.

But what I will tell you is, I hated to see the loss in volume that significantly in the quarter, but 95% of the loans that we originate in dollar amount are probably better in quality than 80% of the loans that we purchased.

And flip that around and look at it the other way, probably only 20% or so of the aggregate loans that we've acquired in acquisitions would really fully meet our credit standards and credit criteria today.

So when we have a quarter as we had in the quarter just ended, where we have very robust growth in our non-purchase loans and leases that are underwritten and documented to high standards with very high levels of equity in the non-average and very low leveraged transactions, and we have couple of a hundred million dollars runoff in the purchase loan book.

I'm looking at that in a philosophical way and saying, well, I hated to lose the volume, but I know that that shift fundamentally improved the overall credit quality of our portfolio. So you can look at it and say, I hate to lose the volume, that's true, and that's the glass half empty view.

You can look at it and say, yes, I did lose the volume, but I know that the trade off and all that was improved quality of the portfolio. So that's the glass half full version of it..

Okay, and just one quick numbers question for you. You guys purchased $85 million in BOLI in the quarter. What's the expected I guess quarterly or annual revenue impact? Obviously it seems like maybe only half quarters in this quarter's run rate. Thanks..

It was almost exactly a half quarter's run rate in there. So, and the BOLI we purchased I think has got about the same yield roughly as the BOLI we had.

So you can just factor in another half quarter's impact and slightly less than half quarter's impact as slightly less than half quarter I think about four ninths of a quarter's impact, that's what we had in Q2. So, factor in another half quarter's impact plus a little bit, and that would be a good proxy for Q3..

Can you just remind us what the rate was?.

It was a number of different policies. We split it up between four or five carriers….

Three or four carriers; I want to say it was right at or just right under 4%..

Yes, mid to high three's..

Yes..

Okay. All right. Thanks for taking my questions..

All right. Thank you..

Thank you. Our next question is from Stephen Scouten of Sandler O'Neill. Please go ahead..

Hey, good morning guys. Thanks for taking the call..

All right. Good morning, Stephen..

One question just going back on the loan growth, two ways to dig deeper I guess in regards to the community bank loan growth you had mentioned last quarter that that was performing as strong as it had been since maybe 2007 and this quarter's growth seems to play out in that regard.

Do you think that will continue or what do you think the trends look like in regards to community bank loan growth moving forward?.

Yes, I think we have very positive trends there. We had $98 million of community bank loan growth in Q1. We had a $114 million in Q3. You don't want to try to extrapolate a trend from two quarters of data, but we do feel positively about that, and guys are working really hard.

They're planning some good opportunities out there, and I think it's more likely than not kind of consistent with the overall loan growth guidance that Greg gave, I think it's more likely than not that our loan growth in community banking is a little better in the second half of the year than it was in the first half of the year.

Not just like our general guidance that doesn't preclude the possibility of having less growth, but I think we'll do better in community banking in the second half of the year than we did in the first half just like I think we will for non-purchase loans in the aggregate..

Okay.

And any migration or any meaningful migration I guess from that purchased book to the non-purchased book that's driving any of the growth this quarter? Obviously as Michael mentioned it was maybe a little larger decline than we had expected, so any major migration there between those two books?.

There is. There is some migration. Obviously, some loans get refinanced and moved over into that non-purchase book from the purchase book, but I don't have the numbers on that, Stephen, but I would tell you I think it's a relatively small part of the total equation there..

Okay. Okay, great. And then a question on the excess liquidity that Tyler mentioned. Obviously you had a big influx of cash from the Intervest deal.

I'm curious if you can give any color or data around how much of that was able to be deployed this quarter and how much maybe you would anticipate in the next quarter and what the effect on the NIM might be?.

Well, we did a good job of deploying virtually all of the cash we got from the Intervest transaction. The good news is Tyler and the deposit guys generated $300 million of new deposit growth. So we ended the quarter with really what I would consider over $400 million of available cash to land.

I think our cash position was not 500 million, but it takes 100 million or so to operate. So we get $400 million plus of lendable cash at the end of the quarter, which is not a comfortable position to be in, and that was a result really of the excellent deposit growth in Q2. We didn't have any offices really in spin-up mode in the second quarter.

So this was really done with just organic regular way growth and core checking accounts and tapping some additional low cost deposit sources that Tyler and the retail banking team were able to tap for. So we felt pretty good about the deposit momentum from the second quarter..

Okay. And maybe one last question just on your outlook about your concentrations around the RESG group.

Is there any change in your perception about regulators you view especially as you branch out more and more nationally into New York, California, et cetera? Do you get any pushback or anticipate any from the regulators in those markets specifically in regards to your concentration and the pace of growth there?.

Well, first let me say this; our real estate specialties group unit has been in operation since I think 2003. And we weren't, but a few years into before it began to look at transactions outside of Arkansas and Texas. So our presence in business activity in other states is not new. That's something that's been going on for ten years or so.

And we've always been comfortable and confident, and I think our regulators have been comfortable and confident in what we've done there, because of the low leverage nature of our transactions, the extreme attention to detail and underwriting, closing documentation and servicing of those loans. So we really view our geography as a company.

The entire United States, we've done real estate specialist group loans in 41 or 42 states, our leasing division I think has business in I think all 48 contiguous states. Our investment portfolio has pretty much done business in every state in the country. So we view our presence as really a national presence.

And we realize that when we're outside of our Arkansas or Texas, one of the other states where we have branches that it's incumbent upon us to do extra homework, extra underwriting, extra analysis, and make sure that we know everything about the market or more than we would know if we had branches there and people there all the time.

And I think we've done that. So our low leveraged, high quality, well-serviced, well-credit, underwritten, documented, closed portfolio, I think gives us the latitude to go wherever the best opportunities exists; the best quality projects that we can get good yields on. So that's been an important secret of our company.

If you look at our history we've had two thirds or less losses than the industry. We've had two thirds or more margin than the industry.

Our ability to consistently produce lower than industry losses were better than industry margin is in part a reflection of the fact that we are able to go where the quality opportunities exist, where we can also get paid reasonable yields.

So important part of our strategy, I think if we execute it well, our shareholders will lock in, our regulators will lock in..

Definitely. Well George, thanks for the color, and congrats on another great quarter..

Thank you..

Thank you. Our next question is from Brian Zabora of KBW. Please go ahead..

Thanks. Good morning..

Hi, good morning, Brian..

A question on loan yields; you had loan yields up in the quarter, compared to first quarter it's been a little lumpy recently. I just wanted to see on the competitive environment if you're seeing originations stabilize and if maybe you're seeing some prepayment or fees that are helping the loan yields..

Well, we did have a number of loans payoff, prepay in the quarter, and that does help us. As we've talked about numerous times on the call we defer loan origination cost. We also defer all the fees on loans. We defer more loan fees than we do origination cost, because our fees typically on average exceed the cost of originating the loan.

So for example at June 30, we had $17 million of net deferred credits. So we had $17 million of more loan fees defer than we did origination cost.

That number actually increased in the last quarter -- well, really 3.0 million in change from just under $14 million at March 31, because we have this big volume of net deferred credits when we have periods where we have a number of loans prepaid before their contractual maturity that unamortized deferred credit drops into income.

Now, if we have a loan where we have got a low fee and actually deferred more cost than fee, that's a debit that drops in and reduces our yield, but by and large, because we have a such a large volume of net per credits, prepayments tend to bump up our income and the periods that prepayments occur.

And we do have prepayment penalties and yield maintenance probations in certain loans, and we had a couple of instances in the quarter just ended, where those contributed to higher yield. So you mentioned the -- I think you described our margin results on the -- our yield results on loans as lumpy in this quarter. They are always going to be lumpy.

Depending on whether we're in a quarter, or we have a lot of prepayments or a quarter where we have a sparse number of prepayments, that will tend to move our yield on those loans around several basis points in a given quarter.

In regard to your bigger question of are we really saying the fundamental shift in pricing in Q2 versus Q1 for new loan originations, I don't think that numbers really move much.

You would hope with the top that was present throughout a lot of the second quarter that the Fed was getting ready to move rights, we would have --- I would have been able to say, wow, I think we're getting better pricing than we were, but without doing a scientific analysis on it, my gut instinct from just looking at all the loans that I signed off on in the quarter was that pricing didn't really change much from Q1 to Q2..

That's very helpful. Then on the expense side you mentioned it sounds like there's a little bit more savings from Intervest and the conversion. You talked last quarter about some expense spending to support the growth.

So I wanted to see if second quarter is a good run rate or could we see expenses continue to fall going forward?.

Well, that's hard to answer. My guess is that we will get some cost savings from the Intervest conversion. The operations and accounting staff as I mentioned, that was via through that conversion, left in Q2, we paid them their severance benefits in Q2. So we will lose that cost.

We have a few other smaller elements of cost sides that are finally coming through on some of these acquisitions that we're down to small atoms there.

So my guess is that the additions of staff in risk management, additions to staff to manage the increased volumes in community bank and real estate specialist group and increased deposit volumes, we've actually added in the last couple of months, number of people and branches were –- because we've added 7000 net new core checking accounts almost through to-date, where it's taking few more people in the branches than we've had in the past.

So I think you'll see an upward trend in our overall overhead, non-interest expense over time just because we will continue to add more people and grow the company.

Now, those upward additions as you surmised will be offset by some other cost saves and some -- hopefully some efficiencies will gain through our advance technology capacity now and so forth. So we're trying to mitigate the amount of those increases as much as we can.

I think the key guidance that we've given today in Tyler's remarks as he said we believe we can over the next couple of years further improve our efficiency ratio, and certainly well, 36.6% is a great efficiency ratio, we do have aspirations to noticeably improve that over the next couple of years.

So I think the key is to grow revenue at a much faster rate than our expense growth..

Great. Well, thanks for taking my questions..

Thank you..

Thank you. Our next question is from Matthew Olney of Stephens, Inc. Please go ahead..

Hey, thanks guys, good morning..

Good morning, Matt..

It looks like the loan pipeline of closed but unfunded loans continues to build at a pretty nice pace.

Is there any change in the percent of loans that you believe will ultimately be funded within this or is there any change in the amount of time it's going to take the fund these loans in the next few years?.

Not really, Matt. I still believe that the vast majority of those loans will fund, whether that's 85% or 95% of those balances will fund out, I don't know that number exactly. I think it's -- 80's, 90's percent of those balances will ultimately be booked.

As we mentioned on previous calls and publicly in conferences and so forth a number of times we're doing the very low leverage transactions.

So when we're doing a transaction that our loan is 52% of the cost, and the other 48% of the cost come in before we fund, that tends to delay our funding as opposed to if we were doing the same deal with 70% loan to cost, and we only had to expend 30% equity or mezz debt before we got to our 70% loan.

So we think we are in advanced stages of the current economic recovery. So we are being very defensive on a credit posture with the loans we are originating, which I think is appropriate, given the economy in which we operate.

And at March 31, I don't have the June 30 data yet, but in March 31, I think our average loan to cost in our construction book with interest reserves, which is almost all of that book was five or 46%. I don't remember the number; loan to price value.

So the substantial equity that we're getting is tending to elongate our funding cycle on these loans, just because we -- and almost all loans fund last. And if you fund last and there's more equity and mezz debt, it's got to be funded before you fund it. It just takes longer to get your money to work. But that's okay.

I'm thrilled to death to wait to get it in the funded balances in exchange for having the assurance that we are uber low leverage, and thus very low risk in the transactions that we are doing..

Okay, that's helpful.

And then lastly any update in the M&A chatter you're having with potential partners? Any change in the tone of discussions you're having at all?.

No, we're very active in that regard. The tone of those conversations is very positive.

The challenge for us is to plan transactions that we can do or we can meet the sellers passing expectations and meet the earning expectations return on investment expectations that we have established in those transactions, we've been able to do that 12 times in closed transactions, and have one pending that we believe will meet everybody's criteria there.

We've got to find 14th, 15th, and 16th, and so forth transactions, where we can make a good match that everybody is happy with. But we were diligently working that on those opportunities on a continuous basis..

Okay, thank you..

Thank you..

Thank you. [Operator Instructions] Our next question is from David Bishop of Drexel Hamilton. Please go ahead..

Hey, good morning gentlemen..

Good morning, Dave..

George, I think we spoke last quarter you had some details in terms of the asset sensitivity of the variable rate loan portfolio in terms of what's at floors for various rate movements.

Do you have any updates on those percentages in terms of what remains at floors after 25, 50 basis points and the light?.

I do. Our rocket scientists down in the corporate finance have provided me very detailed information on that subject. As Greg mentioned, I think in his remarks, 74.1% of our loans are variable rate. And of that 74.1%, 77.9% of those loans are at their floor rate today.

So they cannot go any lower, and some of those are -- the formula is below the floor rate.

So if -- let's say that total of variable rate loans and this is non-purchase loans only, we don't have this data on the purchase loans, but of the variable rate loans, there are 3 billion 532 million dollars of them, 2 billion 752 million dollars of those will not adjust with the first quarter rise in rates.

After we have a 25 basis point rise, only 1 billion 545 million of them did not increase. So basically almost two-thirds of the loans will increase once we have we go from 25 to 50, or 50 to 75 basis points. By the time we get to an up 100 basis point, only $602 million of those loans are still at a rate that is under their floor rate.

And by the time we get up 200 basis points, there's only $119 [ph] million in loans that are not adjusting in that environment. So while we do have a lot of loans that are at their floor rate, the number that are the formula is more than a quarter or half of the floor rate, below the floor rate is getting pretty small.

So we will have a high degree of sensitivity in that portfolio.

And again, we don't have that at June 30, yet, but in March 31, our models suggested to us that our net interest income would go up about 1.7%, ending up 100 basis point environment, because we would be escaping almost all of the floors ending up 200 and up 300 environment that our net interest income will go up about 4% ending up 200 basis point environment, up 6.7% ending up 300 basis point environment, and then up 9.5% ending up 400 basis point environment.

So clearly we believe based on our models and analysis that we're assets sensitive in rising rates if we ever get them, who knows. But if we ever get them, would contribute to some improvement in our net interest income as compared to our baseline scenario..

Got it, that's good color.

And then a follow-up question I guess to Matt in terms of the M&A, would you consider maybe as opposed to entering a newer market via M&A maybe with the real estate specialty groups looking at opening up a loan production office in some of the new geography there to get establish a beachhead within a market rather than acquire?.

We have commented previously that in the coming years we expect to open additional real estate specialties group offices probably in Seattle, the Washington D.C. area, the Boston area, and Chicago. Obviously, Seattle would service Oregon and Washington State, and probably the other -- probably even service Denver, Colorado, out of that office as well.

The Boston office would service New England. The Washington office would service the Mid-Atlantic; and the Chicago office, the upper Midwest now.

We do business in all of those markets already through real estate specialty group, and our business there is done with our clients who have a very national or regional presence, and we're doing transaction with them all over the country.

What we really get by opening in a local office is we get down to that next tier of local and regional developers that are sophisticated sponsors doing meaningful projects, where our expertise would add value to them and be needed, but as a local or small regional sponsor, and "Small" is a relative term there, but that level of sponsor, I might not get that relationship from our Dallas office.

The big national guys that are all over the country that we're doing business with, they are everywhere.

We're going to get their stuff in Boston, or Washington, or Seattle, or at least get a chance to take a look at it, whether we got an office there or not, but the reason to open an office is to get down to that next level of customer that I wouldn't get unless I had boots on the ground in the local market. So that is actually part of the strategy..

Got it.

Then just one final housekeeping, I noticed the tax rate bumped up a bit; anything going on unusual there?.

No, no, that's –- I think that's a pretty decent run rate on the tax rate..

Great. Thank you, George..

Thanks..

Thank you. Our next question is from Brian Martin of FIG Partners. Please go ahead..

Good morning, George..

Hi, good morning, Brian..

Most of my stuff was covered just maybe one housekeeping and that was just the relative size of the bond portfolio has continued to get lower and lower.

Any thoughts on where you want to maintain that or how some outlook on what you're thinking there in the coming quarters?.

Yes. Our bond portfolio shrunk again in the quarter just ended, I think just a modest $2 million, that's the fourth quarter in a row that that shrunk, and basically over the last four quarters, we shrunk it about a $100 million.

So obviously that reflects the fact that we believe we're getting closer and closer to interest rates going up, and again I'll qualify that with a big "Who knows?" But we've taken a fairly defensive posture in the regard of the bond portfolio. We brought the size of that portfolio shrink just through calls and actual pay downs.

We continue to buy things that we think have unique underappreciated value, but those lines have been very hard to find. So our pay downs for four straight quarters have exceeded our purchases. It was just nip and tuck in this last quarter in that regard.

The expectation that rates were going to move created a couple of modest little bank opportunities for us in the last quarter.

We've also continued to shorten the average life and duration of that portfolio at June 30; preliminary numbers that I have got from the guys say that our average life on the portfolio was about 5.29 years and the modified duration of the portfolio was about 4.55 years.

So that's lower than it has been in a lot of the quarters in the past five years; probably about as low as it has been in a number of years, and just reflects the fact that we're defensively positioning that portfolio, if we could get a really nice run in rates, or some massive [ph] market upheaval, we would have no reservations whatsoever in expanding that loan portfolio at the right time to buy to $1.5 billion to $2 billion, or $2.5 billion portfolio.

We have got the balance sheet to support that. And I might be proven wrong on this, but we don't think it's a particularly great time to load the loan book. We think there's more downside risk than upside risk to doing that..

Okay, and maybe just any comments on the deposit outlook in the second half was there much, it doesn't sound like there's much spin-up activity at all this quarter, it sounds like none, and I guess the expectation is you do some of that in the second half of the year?.

That's all going to depend on how successful tolerant the retail banking group are in growing deposits without incurring the cost of spin-up. Spin-up increases our cost of interest bank deposits. You saw from Q4 to Q1 even though we didn't spin-up in Q1, we went from I think 27 basis cost of interest in Q4 to 29 in Q1.

And that increased from 27 to 29 in Q1 as a result of the accounts that were added in our spin-up program in Q4. They were in their -- those higher cost deposits were in Q4. For part of the quarter they were in Q1 for the whole four.

So back to basis point cost of funding was -- increase was locked in when we started Q1 even though we weren't in spin-up mode in Q1. We had no spin-up mode going in Q2. So our cost of interest bank deposits stabilized at 29 basis points flat to the first quarter.

So if Tyler needs to put multiple offices in spin-up mode to fund our deposit growth, we'll be thrilled to do our loan growth, we'll be thrilled to do that because that means we need the funds for loan growth.

If, on the other hand you can fund that loan growth without putting us in spin-up mode and hold our cost to fund it, 29 or 30 basis points instead of 32 or 33 basis points that would be very helpful to our margins. What he does there? He is there monitoring that literally on a daily basis.

And we're looking at the loan funding forecast on a daily basis to make sure we got plenty of deposits, plenty of cash available to meet all of our funding obligations and closed transactions as we need to, and keep up a very healthy cushion there for unforeseen things that whether we spin-up or not will depend on success in other deposit gaining activities and the actual results on loan growth..

Okay, that's helpful. I appreciate the color. Thanks, George..

Thank you..

Thank you. And our next question is from Blair Brantley of BB&T Capital Markets. Please go ahead..

Hey, everyone..

Hi, good morning, Blair..

I just had one quick question on capital. I just want to get your updated thoughts given the growth in the unfunded, the closed commitments and just your stated growth and HVCRE rules and any just updated thoughts on there would be very helpful. Thanks..

Yes. Our calculations at June 30, we have roughly enough capital that we could instantaneously had about 2.07-2.08, just over $2 billion in asset, and still be well capitalized by all regulatory capital standards. And that assumes a fully phased-in Basel III standard that's still multi years away.

But we are working through that future standard instead of the current standard. So we think we could make an acquisition or instantly fund $2 billion and still meet the fully phased-in Basel III standards. Certainly, the HVCRE rules have added an element of complexity and additional capital requirement.

And they have added an element of complexity, because there is so many ambiguities and uncertainty about how those rules apply. So we are being very conservative in how we are interpreting those. We think we are being very conservative in how we interpret those. And that has eaten up some capital.

If it was not for the HVCRE rules, we would probably be saying we had more like 2.3 billion or 2.4-2.5 billion of growth room. So clearly HVCRE is absorbing some additional capital, but even with HVCRE, as we understand the applicable rules, we've still got $2 billion of room..

Okay. Great, thank you..

Thank you. And we have no further questions..

All right, thank you guys for joining the call. There being no further questions, that concludes our call today. Have a great day. We look forward to talking with you in about 90 days..

Thank you. And thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect..