Edgar Filing: INTERNATIONAL BANCSHARES CORP

iboc_Current Folio_10Q

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

☒QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2016

☐TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number 000-09439

INTERNATIONAL BANCSHARES CORPORATION

(Exact name of registrant as specified in its charter)


Texas		74-2157138
(State or other jurisdiction of		(I.R.S. Employer Identification No.)
incorporation or organization)

1200 San Bernardo Avenue, Laredo, Texas 78042-1359

(Address of principal executive offices)

(Zip Code)

(956) 722-7611

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ☒ No ☐

Indicate by check mark if the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.


Large accelerated filer ☒		Accelerated filer ☐

Non-accelerated filer ☐ (Do not check if a smaller reporting company)		Smaller reporting company ☐

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date


Class		Shares Issued and Outstanding
Common Stock, $1.00 par value		65,963,840 shares outstanding at November 3, 2016

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Condition (Unaudited)

(Dollars in Thousands)


	September 30,		December 31,
	2016		2015
Assets
Cash and cash equivalents	$	248,897	$	273,053
Investment securities:
Held to maturity (Market value of $2,400 on September 30, 2016 and $2,400 on December 31, 2015)		2,400		2,400
Available for sale (Amortized cost of $4,378,080 on September 30, 2016 and $4,196,034 on December 31, 2015)		4,427,570		4,199,372
Total investment securities		4,429,970		4,201,772
Loans		5,886,662		5,950,914
Less allowance for probable loan losses		(63,970)		(66,988)
Net loans		5,822,692		5,883,926
Bank premises and equipment, net		510,649		516,716
Accrued interest receivable		28,956		31,572
Other investments		506,569		468,791
Identified intangible assets, net		57		153
Goodwill		282,532		282,532
Other assets		107,091		114,354
Total assets	$	11,937,413	$	11,772,869

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Condition, continued (Unaudited)

(Dollars in Thousands)


	September 30,		December 31,
	2016		2015
Liabilities and Shareholders’ Equity
Liabilities:
Deposits:
Demand—non-interest bearing	$	3,209,143	$	3,149,618
Savings and interest bearing demand		3,082,637		3,020,222
Time		2,254,535		2,366,413
Total deposits		8,546,315		8,536,253
Securities sold under repurchase agreements		732,899		827,772
Other borrowed funds		627,000		505,750
Junior subordinated deferrable interest debentures		161,416		161,416
Other liabilities		122,499		76,175
Total liabilities		10,190,129		10,107,366
Shareholders’ equity:
Common shares of $1.00 par value. Authorized 275,000,000 shares; issued 95,888,369 shares on September 30, 2016 and 95,866,218 shares on December 31, 2015		95,888		95,866
Surplus		169,039		167,980
Retained earnings		1,742,491		1,683,600
Accumulated other comprehensive income (including $(3,462) on September 30, 2016 and $(4,026) on December 31, 2015 of comprehensive loss related to other-than-temporary impairment for non-credit related issues)		31,935		2,167
		2,039,353		1,949,613
Less cost of shares in treasury, 29,934,516 shares on September 30, 2016 and 29,585,646 on December 31, 2015		(292,069)		(284,110)
Total shareholders’ equity		1,747,284		1,665,503
Total liabilities and shareholders’ equity	$	11,937,413	$	11,772,869

See accompanying notes to consolidated financial statements.

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Income (Unaudited)

(Dollars in Thousands, except per share data)


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2016		2015		2016		2015
Interest income:
Loans, including fees	$	74,388	$	77,176	$	223,245	$	222,546
Investment securities:
Taxable		19,630		20,620		60,346		67,760
Tax-exempt		2,561		2,901		7,835		8,423
Other interest income		45		27		151		105

Total interest income		96,624		100,724		291,577		298,834

Interest expense:
Savings deposits		1,173		891		3,333		2,669
Time deposits		2,551		2,807		7,519		8,514
Securities sold under repurchase agreements		5,480		6,041		16,591		18,097
Other borrowings		812		375		2,196		1,219
Junior subordinated deferrable interest debentures		1,159		1,019		3,377		3,088

Total interest expense		11,175		11,133		33,016		33,587

Net interest income		85,449		89,591		258,561		265,247

Provision for probable loan losses		(1,347)		8,832		14,884		18,976

Net interest income after provision for probable loan losses		86,796		80,759		243,677		246,271

Non-interest income:
Service charges on deposit accounts		19,035		20,627		54,999		59,669
Other service charges, commissions and fees
Banking		13,722		11,028		35,056		34,556
Non-banking		1,803		2,091		4,794		5,057
Investment securities transactions, net		(1,345)		—		(1,705)		(428)
Other investments, net		4,082		4,400		14,699		12,117
Other income		3,233		4,876		10,229		9,029

Total non-interest income	$	40,530	$	43,022	$	118,072	$	120,000

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Income, continued (Unaudited)

(Dollars in Thousands, except per share data)


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2016		2015		2016		2015
Non-interest expense:
Employee compensation and benefits	$	33,908	$	31,962	$	95,846	$	93,364
Occupancy		6,153		7,143		18,225		20,003
Depreciation of bank premises and equipment		6,175		6,240		18,563		18,798
Professional fees		3,661		3,448		10,400		10,715
Deposit insurance assessments		1,332		1,511		4,333		4,441
Net expense, other real estate owned		2,320		1,678		4,575		4,074
Amortization of identified intangible assets		32		161		96		441
Advertising		1,921		1,857		6,345		5,887
Early termination fee—securities sold under repurchase agreements		1,799		3,510		1,799		3,510
Software and software maintenance		3,687		2,740		10,721		7,869
Impairment charges (Total other-than-temporary impairment charges, $353 net of $263, $(26), net of $223, $876 net of $ 595 and $150, net of $850, included in other comprehensive income)		90		249		281		700
Other		15,589		14,399		45,385		40,990

Total non-interest expense		76,667		74,898		216,569		210,792

Income before income taxes		50,659		48,883		145,180		155,479

Provision for income taxes		14,872		16,864		46,721		53,723

Net income	$	35,787	$	32,019	$	98,459	$	101,756

Basic earnings per common share:

Weighted average number of shares outstanding		65,948,815		66,449,974		65,968,975		66,430,440
Net income	$	0.54	$	0.48	$	1.49	$	1.53

Fully diluted earnings per common share:

Weighted average number of shares outstanding		66,291,556		66,661,841		66,189,507		66,633,913
Net income	$	0.54	$	0.48	$	1.49	$	1.53

See accompanying notes to consolidated financial statements

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income (Unaudited)

(Dollars in Thousands)


	Three Months Ended				Nine Months Ended
	September 30,				September 30,
	2016		2015		2016		2015

Net income	$	35,787	$	32,019	$	98,459	$	101,756
Other comprehensive income (loss), net of tax:

Net unrealized holding (losses) gains on securities available for sale arising during period (net of tax effects of $(5,371), $9,409, $15,334, and $7,555)		(9,975)		17,474		28,477		14,031
Reclassification adjustment for losses on securities available for sale included in net income (net of tax effects of $471, $0, $597, and $150)		874		—		1,108		278
Reclassification adjustment for impairment charges on available for sale securities included in net income (net of tax effects of $31, $87, $98, and $245)		59		162		183		455
		(9,042)		17,636		29,768		14,764

Comprehensive income	$	26,745	$	49,655	$	128,227	$	116,520

See accompanying notes to consolidated financial statements.

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Cash Flows (Unaudited)

(Dollars in Thousands)


	Nine Months Ended
	September 30,
	2016		2015
Operating activities:

Net income	$	98,459	$	101,756

Adjustments to reconcile net income to net cash provided by operating activities:
Provision for probable loan losses		14,884		18,976
Specific reserve, other real estate owned		2,116		918
Depreciation of bank premises and equipment		18,563		18,798
(Gain) loss on sale of bank premises and equipment		(226)		256
Loss (gain) on sale of other real estate owned		42		(197)
Accretion of investment securities discounts		(406)		(1,337)
Amortization of investment securities premiums		19,142		21,197
Investment securities transactions, net		1,705		428
Impairment charges on available for sale securities		281		700
Amortization of identified intangible assets		96		441
Stock based compensation expense		822		872
Earnings from affiliates and other investments		(9,134)		(9,853)
Deferred tax expense		6,752		1,274
Decrease in accrued interest receivable		2,616		2,022
Decrease in other assets		2,023		9,372
Net increase in other liabilities		(1,028)		14,358

Net cash provided by operating activities		156,707		179,981

Investing activities:

Proceeds from maturities of securities		—		1,075
Proceeds from sales and calls of available for sale securities		326,037		30,282
Purchases of available for sale securities		(1,190,066)		(310,030)
Principal collected on mortgage backed securities		661,261		659,852
Net decrease (increase) in loans		43,857		(269,207)
Purchases of other investments		(45,622)		(14,587)
Distributions from other investments		18,368		15,307
Purchases of bank premises and equipment		(12,580)		(15,830)
Proceeds from sales of bank premises and equipment		310		12,727
Proceeds from sales of other real estate owned		7,956		1,700

Net cash (used in) provided by investing activities	$	(190,479)	$	111,289

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Cash Flows, continued (Unaudited)

(Dollars in Thousands)


	Nine Months Ended
	September 30,
	2016		2015
Financing activities:

Net increase in non-interest bearing demand deposits	$	59,525	$	159,013
Net increase (decrease) in savings and interest bearing demand deposits		62,415		(44,646)
Net decrease in time deposits		(111,878)		(86,212)
Net decrease in securities sold under repurchase agreements		(94,873)		(27,338)
Net increase (decrease) in other borrowed funds		121,250		(270,394)
Redemption of long-term debt		—		(14,000)
Purchase of treasury stock		(7,959)		(3,146)
Proceeds from stock transactions		259		1,248
Payments of cash dividends - common		(19,123)		(19,259)

Net cash provided by (used in) financing activities		9,616		(304,734)

Decrease in cash and cash equivalents		(24,156)		(13,464)

Cash and cash equivalents at beginning of year		273,053		255,146

Cash and cash equivalents at end of year	$	248,897	$	241,682

Supplemental cash flow information:
Interest paid	$	33,345	$	33,549
Income taxes paid		41,489		46,218
Non-cash investing and financing activities:
Net transfers from loans to other real estate owned		2,493		6,936
Dividends declared, not yet paid on common stock	$	20,446	$	19,256

See accompanying notes to consolidated financial statements.

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Unaudited)

Note 1 — Basis of Presentation

The accounting and reporting policies of International Bancshares Corporation (the “Corporation”) and Subsidiaries (the Corporation and Subsidiaries collectively referred to herein as the “Company”) conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry. The consolidated financial statements include the accounts of the Corporation and its wholly-owned subsidiaries, International Bank of Commerce, Laredo (“IBC”), Commerce Bank, International Bank of Commerce, Zapata, International Bank of Commerce, Brownsville and the Corporation’s wholly-owned non-bank subsidiaries, IBC Subsidiary Corporation, IBC Trading Company, Premier Tierra Holdings, Inc., IBC Charitable and Community Development Corporation, and IBC Capital Corporation. All significant inter-company balances and transactions have been eliminated in consolidation. The consolidated financial statements are unaudited, but include all adjustments, which, in the opinion of management, are necessary for a fair presentation of the results of the periods presented. All such adjustments were of a normal and recurring nature. These financial statements should be read in conjunction with the financial statements and the notes thereto in the Company’s latest Annual Report on Form 10-K. The consolidated statement of condition at December 31, 2015 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. Certain reclassifications have been made to make prior periods comparable. Operating results for the three and nine months ended September 30, 2016 are not necessarily indicative of the results for the year ending December 31, 2016 or any future period.

The Company operates as one segment. The operating information used by the Company’s chief executive officer for purposes of assessing performance and making operating decisions about the Company is the consolidated statements presented in this report. The Company has four active operating subsidiaries, namely, the bank subsidiaries, known as International Bank of Commerce, Laredo, Commerce Bank, International Bank of Commerce, Zapata and International Bank of Commerce, Brownsville. The Company applies the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), FASB ASC 280, “Segment Reporting,” in determining its reportable segments and related disclosures.

The Company has evaluated all events or transactions that occurred through the date the Company issued these financial statements. During this period, the Company did not have any material recognizable or non-recognizable subsequent events.

In June 2016, the Financial Accounting Standards Board issued Accounting Standards Update No. 2016-13, to ASC 326, “Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.” The update requires the measurement of all expected credit losses for financial assets held at the reporting date based on historical experience, current conditions, and reasonable and supportable forecasts and requires enhanced disclosures related to the significant estimates and judgments used in estimating credit losses, as well as the credit quality and underwriting standards of an organization’s portfolio. In addition, the update amends the accounting for credit losses on available-for-sale debt securities and purchased financial assets with credit deterioration. The update will be effective on for interim and fiscal years ending after December 31, 2019. The Company is currently evaluating the potential impact of the update on the Company’s consolidated financial statements.

Note 2 — Fair Value Measurements

ASC Topic 820, “Fair Value Measurements and Disclosures” (“ASC 820”), defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements. ASC 820 applies to all financial instruments that are being measured and reported on a fair value basis. ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly

transaction between market participants at the measurement date; it also establishes a fair value hierarchy that prioritizes the inputs used in valuation methodologies into the following three levels:

Level 1 Inputs - Unadjusted quoted prices in active markets for identical assets or liabilities.

Level 2 Inputs - Observable inputs other than Level 1 inputs, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

Level 3 Inputs - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities. Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or other valuation techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy is set forth below.

The following table represents assets and liabilities reported on the consolidated balance sheets at their fair value on a recurring basis as of September 30, 2016 by level within the fair value measurement hierarchy:


			Fair Value Measurements at
			Reporting Date Using
			(in Thousands)
			Quoted
			Prices in
			Active		Significant
	Assets/Liabilities		Markets for		Other		Significant
	Measured at		Identical		Observable		Unobservable
	Fair Value		Assets		Inputs		Inputs
	September 30, 2016		(Level 1)		(Level 2)		(Level 3)
Measured on a recurring basis:
Assets:
Available for sale securities
Residential mortgage-backed securities	$	4,136,473	$	—	$	4,117,963	$	18,510
States and political subdivisions		262,251		—		262,251		—
Other		28,846		28,846		—		—
	$	4,427,570	$	28,846	$	4,380,214	$	18,510

The following table represents assets and liabilities reported on the consolidated balance sheets at their fair value on a recurring basis as of December 31, 2015 by level within the fair value measurement hierarchy:


			Fair Value Measurements at
			Reporting Date Using
			(in Thousands)
			Quoted
			Prices in
			Active		Significant
	Assets/Liabilities		Markets for		Other		Significant
	Measured at		Identical		Observable		Unobservable
	Fair Value		Assets		Inputs		Inputs
	December 31, 2015		(Level 1)		(Level 2)		(Level 3)
Measured on a recurring basis:
Assets:
Available for sale securities
Residential mortgage - backed securities	$	3,893,211	$	—	$	3,871,981	$	21,229
States and political subdivisions		277,704		—		277,705		—
Other		28,457		28,457		—		—
	$	4,199,372	$	28,457	$	4,149,686	$	21,229

Investment securities available-for-sale are classified within Level 2 and Level 3 of the valuation hierarchy, with the exception of certain equity investments that are classified within Level 1. For investments classified as Level 2 in the fair value hierarchy, the Company obtains fair value measurements for investment securities from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. Investment securities classified as Level 3 are non-agency mortgage-backed securities. The non-agency mortgage-backed securities held by the Company are traded in inactive markets and markets that have experienced significant decreases in volume and level of activity, as evidenced by few recent transactions, a significant decline or absence of new issuances, price quotations that are not based on comparable securities transactions and wide bid-ask spreads among other factors. As a result of the inability to use quoted market prices to determine fair value for these securities, the Company determined that fair value, as determined by level 3 inputs in the fair value hierarchy, is more appropriate for financial reporting and more consistent with the expected performance of the investments. For the investments classified within Level 3 of the fair value hierarchy, the Company used a discounted cash flow model to determine fair value. Inputs in the model included both historical performance and expected future performance based on information currently available.

Assumptions used in the discounted cash flow model as of September 30, 2016 and December 31, 2015 were applied separately to those portions of the bond where the underlying residential mortgage loans had been performing under original contract terms for at least the prior 24 months and those where the underlying residential mortgages had not been meeting the original contractual obligation for the same period. Unobservable inputs included in the model are estimates on future principal prepayment rates and default and loss severity rates. For that portion of the bond where the underlying residential mortgage had been meeting the original contract terms for at least 24 months, the Company used the following estimates in the model: (i) a voluntary prepayment rate of 7%, (ii) a 1% default rate, (iii) a loss severity rate of 25%, and (iv) a discount rate of 13%. The assumptions used in the model for the rest of the bond included the following estimates: (i) a voluntary prepayment rate of 2%, (ii) a default rate of 4.5%, (iii) a loss severity rate that started at 60% for the first year (2012) then declines by 5% for the following five years (2013, 2014, 2015, 2016 and 2017) and remains at 25% thereafter (2018 and beyond), and (iv) a discount rate of 13%. The estimates used in the model to determine fair value are based on observable historical data of the underlying collateral. The model anticipates that the housing market will gradually improve and that the underlying collateral will eventually all perform in accordance with the original contract terms on the bond. Should the number of loans in the underlying collateral that default and go into foreclosure or the severity of the losses in the underlying collateral significantly change, the results of the model would be impacted. The Company will continue to evaluate the actual historical performance of the underlying collateral and will modify the assumptions used in the model as necessary.

The following table presents a reconciliation of activity for such mortgage-backed securities on a net basis (Dollars in Thousands):


Balance at December 31, 2015	$	21,229
Principal paydowns		(3,314)
Total unrealized gains (losses) included in:
Other comprehensive income		876
Impairment realized in earnings		(281)

Balance at September 30, 2016	$	18,510

Certain financial assets and financial liabilities are measured at fair value on a nonrecurring basis. The instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).

The following table represents financial instruments measured at fair value on a non-recurring basis as of and for the period ended September 30, 2016 by level within the fair value measurement hierarchy:

Fair Value Measurements at Reporting

Date Using

(in thousands)

Quoted

Assets/Liabilities

Prices in

Measured at

Active

Significant

Fair Value

Markets for

Other

Significant

Net Provision

Year ended

Identical

Observable

Unobservable

(Credit)

September 30,

Assets

Inputs

During

2016

(Level 1)

(Level 2)

(Level 3)

Period

Measured on a non-recurring basis:

Assets:

Impaired loans

37,321

—

37,321

19,377

Other real estate owned

12,156

—

12,156

2,116

The following table represents financial instruments measured at fair value on a non-recurring basis as of and for the period ended December 31, 2015 by level within the fair value measurement hierarchy:

Fair Value Measurements at Reporting

Date Using

(in thousands)

Quoted

Assets/Liabilities

Prices in

Measured at

Active

Significant

Fair Value

Markets

Other

Significant

Net (Credit)

Year ended

for Identical

Observable

Unobservable

Provision

December 31,

Assets

Inputs

During

2015

(Level 1)

(Level 2)

(Level 3)

Period

Measured on a non-recurring basis:

Assets:

Impaired loans

18,033

—

18,033

(8,589)

Other real estate owned

12,705

—

12,705

1,023

The Company’s assets measured at fair value on a non-recurring basis are limited to impaired loans and other real estate owned. Impaired loans are classified within Level 3 of the valuation hierarchy. The fair value of impaired loans is derived in accordance with FASB ASC 310, “Receivables”. Impaired loans are primarily comprised of collateral-dependent commercial loans. Understanding that as the primary sources of loan repayments decline, the secondary repayment source takes on greater significance and correctly evaluating the fair value of that secondary source, the collateral, becomes even more important. Re-measurement of the impaired loan to fair value is done through a specific valuation allowance included in the allowance for probable loan losses. The fair value of impaired loans is

based on the fair value of the collateral, as determined through either an appraisal or evaluation process. The basis for the Company’s appraisal and appraisal review process is based on regulatory guidelines and strives to comply with all regulatory appraisal laws, regulations, and the Uniform Standards of Professional Appraisal Practice. All appraisals and evaluations are “as is” (the property’s highest and best use) valuations based on the current conditions of the property/project at that point in time. The determination of the fair value of the collateral is based on the net realizable value, which is the appraised value less any closing costs, when applicable. As of September 30, 2016, the Company had $37,502,000 of impaired commercial collateral dependent loans, of which $22,942,000 had an appraisal performed within the immediately preceding twelve months, and of which $7,886,000 had an evaluation performed within the immediately preceding twelve months. As of December 31, 2015, the Company had $51,021,000 of impaired commercial collateral dependent loans, of which $39,520,000 had an appraisal performed within the immediately preceding twelve months and of which $2,958,000 had an evaluation performed within the immediately preceding twelve months.

The determination to either seek an appraisal or to perform an evaluation begins in weekly credit quality meetings, where the committee analyzes the existing collateral values of the impaired loans and where obsolete appraisals are identified. In order to determine whether the Company would obtain a new appraisal or perform an internal evaluation to determine the fair value of the collateral, the credit committee reviews the existing appraisal to determine if the collateral value is reasonable in view of the current use of the collateral and the economic environment related to the collateral. If the analysis of the existing appraisal does not find that the collateral value is reasonable under the current circumstances, the Company would obtain a new appraisal on the collateral or perform an internal evaluation of the collateral. The ultimate decision to get a new appraisal rests with the independent credit administration group. A new appraisal is not required if an internal evaluation, as performed by in-house experts, is able to appropriately update the original appraisal assumptions to reflect current market conditions and provide an estimate of the collateral’s market value for impairment analysis. The internal evaluations must be in writing and contain sufficient information detailing the analysis, assumptions and conclusions, and they must support performing an evaluation in lieu of ordering a new appraisal.

Other real estate owned is comprised of real estate acquired by foreclosure and deeds in lieu of foreclosure. Other real estate owned is carried at the lower of the recorded investment in the property or its fair value less estimated costs to sell such property (as determined by independent appraisal) within Level 3 of the fair value hierarchy. Prior to foreclosure, the value of the underlying loan is written down to the fair value of the real estate to be acquired by a charge to the allowance for probable loan losses, if necessary. The fair value is reviewed periodically and subsequent write-downs are made, accordingly, through a charge to operations. Other real estate owned is included in other assets on the consolidated financial statements. For the three and nine months ended September 30, 2016, the Company recorded $0 and $381,000, respectively, in charges to the allowance for probable loan losses in connection with loans transferred to other real estate owned. For the three and nine months ended September 30, 2016, respectively, the Company recorded $1,546,000 and $2,116,000 in adjustments to fair value in connection with other real estate owned.

The fair value estimates, methods, and assumptions for the Company’s financial instruments at September 30, 2016 and December 31, 2015 are outlined below.

Cash and Cash Equivalents

For these short-term instruments, the carrying amount is a reasonable estimate of fair value.

Time Deposits with Banks

The carrying amounts of time deposits with banks approximate fair value.

Investment Securities Held-to-Maturity

The carrying amounts of investments held-to-maturity approximate fair value.

Investment Securities

For investment securities, which include U.S. Treasury securities, obligations of other U.S. government agencies, obligations of states and political subdivisions and mortgage pass through and related securities, fair values are from an independent pricing service. The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things. See disclosures of fair value of investment securities in Note 6.

Loans

Fair values are estimated for portfolios of loans with similar financial characteristics. Loans are segregated by type, such as commercial, real estate and consumer loans, as outlined by regulatory reporting guidelines. Each category is segmented into fixed and variable interest rate terms and by performing and non-performing categories.

For variable rate performing loans, the carrying amount approximates the fair value. For fixed-rate performing loans, except residential mortgage loans, the fair value is calculated by discounting scheduled cash flows through the estimated maturity using estimated market discount rates that reflect the credit and interest rate risk inherent in the loan. For performing residential mortgage loans, fair value is estimated by discounting contractual cash flows adjusted for prepayment estimates using discount rates based on secondary market sources or the primary origination market. Fixed-rate performing loans are within Level 3 of the fair value hierarchy. At September 30, 2016, and December 31, 2015, the carrying amount of fixed-rate performing loans was $1,405,673,000 and $1,383,836,000 respectively, and the estimated fair value was $1,371,880,000 and $1,362,248,000, respectively.

Accrued Interest

The carrying amounts of accrued interest approximate fair value.

Deposits

The fair value of deposits with no stated maturity, such as non-interest bearing demand deposit accounts, savings accounts and interest bearing demand deposit accounts, was equal to the amount payable on demand as of September 30, 2016 and December 31, 2015. The fair value of time deposits is based on the discounted value of contractual cash flows. The discount rate is based on currently offered rates. Time deposits are within Level 3 of the fair value hierarchy. At September 30, 2016 and December 31, 2015, the carrying amount of time deposits was $2,254,535,000 and $2,366,413,000, respectively, and the estimated fair value was $2,253,836,000 and $2,365,390,000, respectively.

Securities Sold Under Repurchase Agreements

Securities sold under repurchase agreements include both short- and long-term maturities. Due to the contractual terms of the short-term instruments, the carrying amounts approximated fair value at September 30, 2016 and December 31, 2015. The fair value of the long-term instruments is based on established market spreads using option adjusted spread methodology. Long-term repurchase agreements are within Level 3 of the fair value hierarchy. At September 30, 2016 and December 31, 2015, the carrying amount of long-term repurchase agreements was $500,000,000 and $560,000,000, respectively, and the estimated fair value was $478,492,000 and $527,198,600, respectively.

Junior Subordinated Deferrable Interest Debentures

The Company currently has floating-rate junior subordinated deferrable interest debentures outstanding. Due to the contractual terms of the floating-rate junior subordinated deferrable interest debentures, the carrying amounts approximated fair value at September 30, 2016 and December 31, 2015.

Other Borrowed Funds

The Company currently has short-term borrowings issued from the Federal Home Loan Bank (“FHLB”). Due to the contractual terms of the short-term borrowings, the carrying amounts approximated fair value at September 30, 2016 and December 31, 2015.

Commitments to Extend Credit and Letters of Credit

Commitments to extend credit and fund letters of credit are principally at current interest rates, and, therefore, the carrying amount approximates fair value.

Limitations

Fair value estimates are made at a point in time, based on relevant market information and information about the financial instrument. These estimates do not reflect any premium or discount that could result from offering for sale at one time the Company’s entire holdings of a particular financial instrument. Because no market exists for a significant portion of the Company’s financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and other factors. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Changes in assumptions could significantly affect the estimates.

Fair value estimates are based on existing on- and off-statement of condition financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. Other significant assets and liabilities that are not considered financial assets or liabilities include the bank premises and equipment and core deposit value. In addition, the tax ramifications related to the effect of fair value estimates have not been considered in the above estimates.

Note 3 — Loans

A summary of loans, by loan type at September 30, 2016 and December 31, 2015 is as follows:


	September 30,		December 31,
	2016		2015
	(Dollars in Thousands)
Commercial, financial and agricultural	$	3,035,961	$	3,101,748
Real estate - mortgage		1,013,521		962,582
Real estate - construction		1,611,076		1,649,827
Consumer		55,996		57,744
Foreign		170,108		179,013
Total loans	$	5,886,662	$	5,950,914

Note 4 — Allowance for Probable Loan Losses

The allowance for probable loan losses primarily consists of the aggregate loan loss allowances of the bank subsidiaries. The allowances are established through charges to operations in the form of provisions for probable loan losses. Loan losses or recoveries are charged or credited directly to the allowances. The allowance for probable loan losses of each bank subsidiary is maintained at a level considered appropriate by management, based on estimated probable losses in the loan portfolio. The allowance for probable loan losses is derived from the following elements: (i) allowances established on specific impaired loans, which are based on a review of the individual characteristics of each loan, including the customer’s ability to repay the loan, the underlying collateral values, and the industry in which the customer operates; (ii) allowances based on actual historical loss experience for similar types of loans in the Company’s loan portfolio; and (iii) allowances based on general economic conditions, changes in the mix of loans, company resources, border risk and credit quality indicators, among other things. All segments of the loan portfolio continue to be impacted by the prolonged economic recovery. Loans secured by real estate could be impacted negatively

by the continued economic environment and resulting decrease in collateral values. Consumer loans may be impacted by continued and prolonged unemployment rates.

The Company’s management continually reviews the allowance for loan losses of the bank subsidiaries using the amounts determined from the allowances established on specific impaired loans, the allowance established on quantitative historical loss percentages, and the allowance based on qualitative data to establish an appropriate amount to maintain in the Company’s allowance for loan losses. Should any of the factors considered by management in evaluating the adequacy of the allowance for probable loan losses change, the Company’s estimate of probable loan losses could also change, which could affect the level of future provisions for probable loan losses. While the calculation of the allowance for probable loan losses utilizes management’s best judgment and all information reasonably available, the adequacy of the allowance is dependent on a variety of factors beyond the Company’s control, including, among other things, the performance of the entire loan portfolio, the economy, changes in interest rates and the view of regulatory authorities towards loan classifications.

The loan loss provision is determined using the following methods. On a weekly basis, loan past due reports are reviewed by the credit quality committee to determine if a loan has any potential problems and if a loan should be placed on the Company’s internal classified report. Additionally, the Company’s credit department reviews the majority of the Company’s loans for proper internal classification purposes, regardless of whether they are past due, and segregates any loans with potential problems for further review. The credit department will discuss the potential problem loans with the servicing loan officers to determine any relevant issues that were not discovered in the evaluation. Also, an analysis of loans that is provided through examinations by regulatory authorities is considered in the review process. After the above analysis is completed, the Company determines if a loan should be placed on an internal classified report because of issues related to the analysis of the credit, credit documents, collateral and/or payment history.

A summary of the transactions in the allowance for probable loan losses by loan class is as follows:


	Three Months Ended September 30, 2016
	Domestic														Foreign
			Commercial
			Real Estate:
			Other		Commercial
			Construction &		Real Estate:		Commercial
			Land		Farmland &		Real Estate:		Residential:		Residential:
	Commercial		Development		Commercial		Multifamily		First Lien		Junior Lien		Consumer		Foreign		Total
	(Dollars in Thousands)

Balance at June 30,	$	25,982	$	11,109	$	16,942	$	855	$	2,277	$	3,400	$	532	$	936	$	62,033
Losses charged to allowance		(3,485)		(14)		(497)		—		(27)		—		(124)		(41)		(4,188)
Recoveries credited to allowance		791		6,073		512		—		11		74		11		—		7,472
Net (losses) recoveries charged to allowance		(2,694)		6,059		15		—		(16)		74		(113)		(41)		3,284

Provision charged to operations		2,602		(4,659)		291		(65)		126		221		98		39		(1,347)

Balance at September 30,	$	25,890	$	12,509	$	17,248	$	790	$	2,387	$	3,695	$	517	$	934	$	63,970


	Three Months Ended September 30, 2015
	Domestic														Foreign
			Commercial
			Real Estate:
			Other		Commercial
			Construction &		Real Estate:		Commercial
			Land		Farmland &		Real Estate:		Residential:		Residential:
	Commercial		Development		Commercial		Multifamily		First Lien		Junior Lien		Consumer		Foreign		Total
	(Dollars in Thousands)

Balance at June 30,	$	18,902	$	13,524	$	17,885	$	685	$	3,434	$	4,308	$	625	$	1,175	$	60,538
Losses charged to allowance		(4,921)		(10)		—		—		(45)		(60)		(131)		—		(5,167)
Recoveries credited to allowance		770		98		7		—		4		155		21		2		1,057
Net losses charged to allowance		(4,151)		88		7		—		(41)		95		(110)		2		(4,110)

Provision charged to operations		5,774		654		1,733		120		287		130		127		7		8,832

Balance at September 30,	$	20,525	$	14,266	$	19,625	$	805	$	3,680	$	4,533	$	642	$	1,184	$	65,260


	Nine Months Ended September 30, 2016
	Domestic														Foreign
			Commercial
			Real Estate:
			Other		Commercial
			Construction &		Real Estate:		Commercial
			Land		Farmland &		Real Estate:		Residential:		Residential:
	Commercial		Development		Commercial		Multifamily		First Lien		Junior Lien		Consumer		Foreign		Total
	(Dollars in Thousands)

Balance at December 31,	$	21,431	$	13,920	$	19,769	$	1,248	$	3,509	$	5,321	$	638	$	1,152	$	66,988
Losses charged to allowance		(27,952)		(16)		(2,387)		(180)		(57)		(324)		(341)		(41)		(31,298)
Recoveries credited to allowance		6,447		6,080		598		—		18		188		53		12		13,396
Net (losses) recoveries charged to allowance		(21,505)		6,064		(1,789)		(180)		(39)		(136)		(288)		(29)		(17,902)

Provision charged to operations		25,964		(7,475)		(732)		(278)		(1,083)		(1,490)		167		(189)		14,884

Balance at September 30,	$	25,890	$	12,509	$	17,248	$	790	$	2,387	$	3,695	$	517	$	934	$	63,970


	Nine Months Ended September 30, 2015
	Domestic														Foreign
			Commercial
			Real Estate:
			Other		Commercial
			Construction &		Real Estate:		Commercial
			Land		Farmland &		Real Estate:		Residential:		Residential:
	Commercial		Development		Commercial		Multifamily		First Lien		Junior Lien		Consumer		Foreign		Total
	(Dollars in Thousands)

Balance at December 31,	$	22,352	$	12,955	$	18,683	$	846	$	3,589	$	4,683	$	660	$	1,060	$	64,828
Losses charged to allowance		(20,303)		(695)		(356)		—		(136)		(162)		(544)		—		(22,196)
Recoveries credited to allowance		2,100		137		820		—		28		406		151		10		3,652
Net (losses) recoveries charged to allowance		(18,203)		(558)		464		—		(108)		244		(393)		10		(18,544)

Provision charged to operations		16,376		1,869		478		(41)		199		(394)		375		114		18,976

Balance at September 30,	$	20,525	$	14,266	$	19,625	$	805	$	3,680	$	4,533	$	642	$	1,184	$	65,260

The allowance for probable loan losses is a reserve established through a provision for probable loan losses charged to expense, which represents management’s best estimate of probable loan losses when evaluating loans individually or collectively. The increase in losses charged to the allowance for probable loan losses for the nine months ended September 30, 2016 can be attributed to further deterioration in a previously identified and charged down relationship primarily secured by multiple pieces of transportation equipment. In March 2016, litigation against the management of the borrower was filed in the State of Nevada, resulting in a going concern issue with the operations of the borrower and the future use of the transportation equipment pledged as collateral on the relationship. As a result, management, in accordance with its credit review procedures, re-evaluated the collateral values on the equipment in light of the new circumstances and reduced the collateral values accordingly, resulting in a further charge-down of the relationship of approximately $16.8 million, which is included in the losses charged to the allowance in the commercial category in the table detailing the nine months ended September 30, 2016 activity. The impact of the charge-down is also reflected in the various tables in this Note including impaired loans, non-accrual loans and the credit quality indicator summary. The relationship was classified as Watch-List Impaired at December 31, 2015. The credit to provision expense for the three months ended September 30, 2016 can be attributed to a large recovery on a loan charged off in prior years. The amount of the recovery was approximately $6 million and is included in the Commercial Real Estate: Other Construction and Land Development category in the tables above.

The table below provides additional information on the balance of loans individually or collectively evaluated for impairment and their related allowance, by loan class as of September 30, 2016 and December 31, 2015:


	September 30, 2016
	Loans Individually				Loans Collectively
	Evaluated For				Evaluated For
	Impairment				Impairment
	Recorded				Recorded
	Investment		Allowance		Investment		Allowance
	(Dollars in Thousands)
Domestic
Commercial	$	21,931	$	734	$	891,889	$	25,156
Commercial real estate: other construction & land development		4,601		116		1,606,475		12,393
Commercial real estate: farmland & commercial		10,746		546		1,993,117		16,702
Commercial real estate: multifamily		571		—		117,708		790
Residential: first lien		6,752		—		410,930		2,387
Residential: junior lien		1,008		—		594,831		3,695
Consumer		1,230		—		54,766		517
Foreign		752		—		169,356		934

Total	$	47,591	$	1,396	$	5,839,072	$	62,574


	December 31, 2015
	Loans Individually				Loans Collectively
	Evaluated For				Evaluated For
	Impairment				Impairment
	Recorded				Recorded
	Investment		Allowance		Investment		Allowance
	(Dollars in Thousands)
Domestic
Commercial	$	30,946	$	1,704	$	935,905	$	19,727
Commercial real estate: other construction & land development		6,221		100		1,643,606		13,820
Commercial real estate: farmland & commercial		13,806		202		1,981,643		19,567
Commercial real estate: multifamily		777		200		138,671		1,048
Residential: first lien		5,699		—		404,545		3,509
Residential: junior lien		950		—		551,388		5,321
Consumer		1,297		—		56,447		638
Foreign		752		—		178,261		1,152

Total	$	60,448	$	2,206	$	5,890,466	$	64,782

The table below provides additional information on loans accounted for on a non-accrual basis by loan class at September 30, 2016 and December 31, 2015:


	September 30, 2016		December 31, 2015
	(Dollars in Thousands)
Domestic
Commercial	$	21,886	$	30,894
Commercial real estate: other construction & land development		3,017		3,668
Commercial real estate: farmland & commercial		8,235		11,543
Commercial real estate: multifamily		571		777
Residential: first lien		792		383
Residential: junior lien		178		21
Consumer		2		34
Foreign		386		365
Total non-accrual loans	$	35,067	$	47,685

Impaired loans are those loans where it is probable that all amounts due according to contractual terms of the loan agreement will not be collected. The Company has identified these loans through its normal loan review procedures. Impaired loans are measured based on (i) the present value of expected future cash flows discounted at the loan’s effective interest rate; (ii) the loan’s observable market price; or (iii) the fair value of the collateral if the loan is collateral dependent. Substantially all of the Company’s impaired loans are measured at the fair value of the collateral. In limited cases, the Company may use other methods to determine the level of impairment of a loan if such loan is not collateral dependent.

The following tables detail key information regarding the Company’s impaired loans by loan class at September 30, 2016 and December 31, 2015:


	September 30, 2016
							Quarter to Date				Year to Date
			Unpaid				Average				Average
	Recorded		Principal		Related		Recorded		Interest		Recorded		Interest
	Investment		Balance		Allowance		Investment		Recognized		Investment		Recognized
	(Dollars in Thousands)
Loans with Related Allowance
Domestic
Commercial	$	2,214	$	2,293	$	734	$	2,247	$	—	$	3,239	$	—
Commercial real estate: other construction & land development		158		169		116		159		—		162		—
Commercial real estate: farmland & commercial		5,030		6,171		546		5,036		24		5,639		73
Total impaired loans with related allowance	$	7,402	$	8,633	$	1,396	$	7,442	$	24	$	9,040	$	73


	September 30, 2016
					Quarter to Date				Year to Date
			Unpaid		Average				Average
	Recorded		Principal		Recorded		Interest		Recorded		Interest
	Investment		Balance		Investment		Recognized		Investment		Recognized
	(Dollars in Thousands)
Loans with No Related Allowance
Domestic
Commercial	$	19,717	$	46,729	$	13,813	$	1	$	15,234	$	3
Commercial real estate: other construction & land development		4,443		4,457		3,924		14		4,927		53
Commercial real estate: farmland & commercial		5,716		6,751		5,513		3		6,469		10
Commercial real estate: multifamily		571		576		577		—		349		—
Residential: first lien		6,752		6,840		6,712		75		6,644		220
Residential: junior lien		1,008		1,032		1,012		12		1,011		39
Consumer		1,230		1,230		1,229		—		1,191		1
Foreign		752		752		752		4		752		12
Total impaired loans with no related allowance	$	40,189	$	68,367	$	33,532	$	109	$	36,577	$	338


	December 31, 2015
			Unpaid				Average
	Recorded		Principal		Related		Recorded		Interest
	Investment		Balance		Allowance		Investment		Recognized
	(Dollars in Thousands)
Loans with Related Allowance
Domestic
Commercial	$	4,016	$	4,156	$	1,704	$	19,313	$	—
Commercial real estate: other construction & land development		167		169		100		7,183		—
Commercial real estate: farmland & commercial		4,003		4,309		202		6,790		92
Commercial real estate: multifamily		599		599		200
Total impaired loans with related allowance	$	8,785	$	9,233	$	2,206	$	33,286	$	92


	December 31, 2015
			Unpaid		Average
	Recorded		Principal		Recorded		Interest
	Investment		Balance		Investment		Recognized
	(Dollars in Thousands)
Loans with No Related Allowance
Domestic
Commercial	$	26,930	$	38,845	$	21,291	$	1
Commercial real estate: other construction & land development		6,054		6,204		6,045		20
Commercial real estate: farmland & commercial		9,803		10,717		6,203		—
Commercial real estate: multifamily		178		178		819		—
Residential: first lien		5,699		5,822		5,315		65
Residential: junior lien		950		972		1,075		15
Consumer		1,297		1,298		1,263		1
Foreign		752		752		632		4
Total impaired loans with no related allowance	$	51,663	$	64,788	$	42,643	$	106

The following table details key information regarding the Company’s impaired loans by loan class at September 30, 2015:


	September 30, 2015
		Quarter to Date				Year to Date
	Average				Average
	Recorded		Interest		Recorded		Interest
	Investment		Recognized		Investment		Recognized
	(Dollars in Thousands)
Loans with Related Allowance
Domestic
Commercial	$	11,247	$	—	$	15,634	$	—
Commercial real estate: other construction & land development		170		—		1,136		—
Commercial real estate: farmland & commercial		3,517		23		4,046		69
Total impaired loans with related allowance	$	14,934	$	23	$	20,816	$	69


	September 30, 2015
	Quarter to Date				Year to Date
	Average				Average
	Recorded		Interest		Recorded		Interest
	Investment		Recognized		Investment		Recognized
	(Dollars in Thousands)
Loans with No Related Allowance
Domestic
Commercial	$	21,291	$	1	$	20,623	$	3
Commercial real estate: other construction & land development		6,045		20		6,561		57
Commercial real estate: farmland & commercial		6,203		—		7,253		—
Commercial real estate: multifamily		819		—		832		1
Residential: first lien		5,315		65		5,375		188
Residential: junior lien		1,075		15		1,255		54
Consumer		1,263		1		1,201		2
Foreign		632		4		480		13
Total impaired loans with no related allowance	$	42,643	$	106	$	43,580	$	318

A portion of the impaired loans have adequate collateral and credit enhancements not requiring a related allowance for loan loss. The level of impaired loans is reflective of the economic weakness that has been created by the financial crisis, the subsequent economic downturn and prolonged recovery. Management is confident the Company’s loss exposure regarding these credits will be significantly reduced due to the Company’s long-standing practices that emphasize secured lending with strong collateral positions and guarantor support. Management is likewise confident the reserve for probable loan losses is adequate. The Company has no direct exposure to sub-prime loans in its loan portfolio, but the sub-prime crisis has affected the credit markets on a national level, and as a result, the Company has experienced an increasing amount of impaired loans; however, management’s decision to place loans in this category does not necessarily mean that the Company will experience significant losses from these loans or significant increases in impaired loans from these levels.

Management of the Company recognizes the risks associated with these impaired loans. However, management’s decision to place loans in this category does not necessarily mean that losses will occur. In the current environment, troubled loan management can be protracted because of the legal and process problems that delay the collection of an otherwise collectable loan. Additionally, management believes that the collateral related to these impaired loans and/or the secondary support from guarantors mitigates the potential for losses from impaired loans.

The following table details loans accounted for as “troubled debt restructuring,” segregated by loan class. Loans accounted for as troubled debt restructuring are included in impaired loans.


	September 30, 2016		December 31, 2015
		(Dollars in Thousands)
Domestic
Commercial	$	11,754	$	2,419
Commercial real estate: other construction & land development		1,585		2,553
Commercial real estate: farmland & commercial		3,101		2,853
Residential: first lien		5,960		5,316
Residential: junior lien		830		929
Consumer		1,227		1,263
Foreign		366		386

Total troubled debt restructuring	$	24,823	$	15,719

The increase in loans accounted for as troubled debt restructurings for September 30, 2016, is due to the renewal of an impaired loan that was previously charged down. The loan remains on non-accrual status and is included in total impaired loans in the various tables in this Note.

The bank subsidiaries charge off that portion of any loan which management considers to represent a loss as well as that portion of any other loan which is classified as a “loss” by bank examiners. Commercial and industrial or real estate loans are generally considered by management to represent a loss, in whole or part, when an exposure beyond any collateral coverage is apparent and when no further collection of the loss portion is anticipated based on the borrower’s financial condition and general economic conditions in the borrower’s industry. Generally, unsecured consumer loans are charged-off when 90 days past due.

While management of the Company believes that it is generally able to identify borrowers with financial problems reasonably early and to monitor credit extended to such borrowers carefully, there is no precise method of predicting loan losses. The determination that a loan is likely to be uncollectible and that it should be wholly or partially charged-off as a loss is an exercise of judgment. Similarly, the determination of the adequacy of the allowance for probable loan losses can be made only on a subjective basis. It is the judgment of the Company’s management that the allowance for probable loan losses at September 30, 2016 was adequate to absorb probable losses from loans in the portfolio at that date.

The following table presents information regarding the aging of past due loans by loan class at September 30, 2016 and December 31, 2015:


	September 30, 2016
							90 Days or		Total
	30 - 59		60 - 89		90 Days or		greater &		Past				Total
	Days		Days		Greater		still accruing		Due		Current		Portfolio
	(Dollars in Thousands)
Domestic
Commercial	$	6,372	$	1,418	$	17,042	$	2,587	$	24,832	$	888,987	$	913,819
Commercial real estate: other construction & land development		2,366		—		1,869		12		4,235		1,606,841		1,611,076
Commercial real estate: farmland & commercial		5,728		1,314		7,094		1,341		14,136		1,989,727		2,003,863
Commercial real estate: multifamily		194		192		571		—		957		117,322		118,279
Residential: first lien		3,748		2,160		3,852		3,428		9,760		407,922		417,682
Residential: junior lien		786		312		672		504		1,770		594,069		595,839
Consumer		692		277		334		332		1,303		54,693		55,996
Foreign		1,921		147		574		188		2,642		167,466		170,108
Total past due loans	$	21,807	$	5,820	$	32,008	$	8,392	$	59,635	$	5,827,027	$	5,886,662


	December 31, 2015
							90 Days or		Total
	30 - 59		60 - 89		90 Days or		greater &		Past				Total
	Days		Days		Greater		still accruing		Due		Current		Portfolio
		(Dollars in Thousands)
Domestic
Commercial	$	3,361	$	940	$	28,615	$	2,566	$	32,916	$	933,936	$	966,852
Commercial real estate: other construction & land development		193		293		3,502		—		3,988		1,645,839		1,649,827
Commercial real estate: farmland & commercial		2,684		1,328		8,292		3,373		12,304		1,983,144		1,995,448
Commercial real estate: multifamily		49		442		826		49		1,317		138,131		139,448
Residential: first lien		5,299		1,545		4,295		4,093		11,139		399,105		410,244
Residential: junior lien		713		413		646		640		1,772		550,566		552,338
Consumer		646		175		487		453		1,308		56,436		57,744
Foreign		2,639		83		807		442		3,529		175,484		179,013
Total past due loans	$	15,584	$	5,219	$	47,470	$	11,616	$	68,273	$	5,882,641	$	5,950,914

The Company’s internal classified report is segregated into the following categories: (i) “Special Review Credits,” (ii) “Watch List-Pass Credits,” or (iii) “Watch List-Substandard Credits.” The loans placed in the “Special Review Credits” category reflect management’s opinion that the loans reflect potential weakness which requires monitoring on a more frequent basis. The “Special Review Credits” are reviewed and discussed on a regular basis with the credit department and the lending staff to determine if a change in category is warranted. The loans placed in the “Watch List-Pass Credits” category reflect the Company’s opinion that the credit contains weaknesses which represent a greater degree of risk, which warrant “extra attention.” The “Watch List-Pass Credits” are reviewed and discussed on a regular basis with the credit department and the lending staff to determine if a change in category is warranted. The loans placed in the “Watch List-Substandard Credits” classification are considered to be potentially inadequately protected by the current sound worth and debt service capacity of the borrower or of any pledged collateral. These credit obligations, even if apparently protected by collateral value, have shown defined weaknesses related to adverse financial, managerial, economic, market or political conditions which may jeopardize repayment of principal and interest. Furthermore, there is the possibility that some future loss could be sustained by the Company if such weaknesses are not corrected. For loans that are classified as impaired, management evaluates these credits in accordance with the provisions of ASC 310-10, “Receivables,” and, if deemed necessary, a specific reserve is allocated to the credit. The specific reserve allocated under ASC 310-10 is based on (i) the present value of expected future cash flows discounted at the loan’s effective interest rate; (ii) the loan’s observable market price; or (iii) the fair value of the collateral if the loan is collateral dependent. Substantially all of the Company’s loans evaluated as impaired under ASC 310-10 are measured using the fair value of collateral method. In limited cases, the Company may use other methods to determine the specific reserve of a loan under ASC 310-10 if such loan is not collateral dependent.

The allowance based on historical loss experience on the Company’s remaining loan portfolio, which includes the “Special Review Credits,” “Watch List - Pass Credits,” and “Watch List - Substandard Credits” is determined by segregating the remaining loan portfolio into certain categories such as commercial loans, installment loans, international loans, loan concentrations and overdrafts. Installment loans are then further segregated by number of days past due. A historical loss percentage, adjusted for (i) management’s evaluation of changes in lending policies and procedures, (ii) current economic conditions in the market area served by the Company, (iii) other risk factors, (iv) the effectiveness of the internal loan review function, (v) changes in loan portfolios, and (vi) the composition and concentration of credit volume is applied to each category. Each category is then added together to determine the allowance allocated under ASC 450-20.

A summary of the loan portfolio by credit quality indicator by loan class at September 30, 2016 and December 31, 2015 is as follows:


			September 30, 2016
			Special		Watch		Watch List—		Watch List—
	Pass		Review		List—Pass		Substandard		Impaired
			(Dollars in Thousands)
Domestic
Commercial	$	728,696	$	92,938	$	1,523	$	68,732	$	21,931
Commercial real estate: other construction & land development		1,545,790		250		—		60,435		4,601
Commercial real estate: farmland & commercial		1,852,147		1,404		60,687		78,879		10,746
Commercial real estate: multifamily		117,587		—		—		121		571
Residential: first lien		409,950		828		—		152		6,752
Residential: junior lien		594,595		—		236		—		1,008
Consumer		54,766		—		—		—		1,230
Foreign		169,356		—		—		—		752
Total	$	5,472,887	$	95,420	$	62,446	$	208,319	$	47,591


			December 31, 2015
			Special		Watch		Watch List—		Watch List—
	Pass		Review		List—Pass		Substandard		Impaired
			(Dollars in Thousands)
Domestic
Commercial	$	771,999	$	42,152	$	31,539	$	90,215	$	30,946
Commercial real estate: other construction & land development		1,582,683		1,164		13,765		45,994		6,221
Commercial real estate: farmland & commercial		1,849,587		2,283		37,765		92,008		13,806
Commercial real estate: multifamily		138,546		—		—		125		777
Residential: first lien		401,053		—		—		3,492		5,699
Residential: junior lien		551,138		—		—		250		950
Consumer		56,440		—		—		7		1,297
Foreign		178,261		—		—		—		752
Total	$	5,529,707	$	45,599	$	83,069	$	232,091	$	60,448

The increase in Special Review credits for September 30, 2016 compared to December 31, 2015 can be attributed to the re-classification of a commercial loan relationship secured mainly by transportation equipment used in the shipping industry Pass category. The decrease in Watch-List Pass credits can be attributed to the re-classification of a commercial loan relationship secured mainly by assets, including contract rights of the borrower to the Pass category. Additionally impacting the Watch-List Pass credits in the real estate farmland and commercial is a reclassification of a relationship secured mainly by warehouses from the Pass category. Also impacting the Watch-List Pass and Watch-List Substandard category at September 30, 2016 is the reclassification of a relationship secured by all assets, equipment, and accounts receivable from Watch-List Substandard to the Pass category. The decrease in Watch-List Impaired loans at can be attributed to the charge-down of the loan relationship that is mainly secured by multiple pieces of transportation equipment previously discussed.

Note 5 — Stock Options

On April 5, 2012, the Board of Directors adopted the 2012 International Bancshares Corporation Stock Option Plan (the “2012 Plan”). There are 800,000 shares available for stock option grants under the 2012 Plan. Under the 2012 Plan, both qualified incentive stock options (“ISOs”) and non-qualified stock options (“NQSOs”) may be granted. Options granted may be exercisable for a period of up to 10 years from the date of grant, excluding ISOs granted to 10% shareholders, which may be exercisable for a period of up to only five years. As of September 30, 2016, 201,250 shares were available for future grants under the 2012 Plan.

A summary of option activity under the stock option plans for the nine months ended September 30, 2016 is as follows:


				Weighted
		Weighted		average
		average		remaining	Aggregate
	Number of	exercise		contractual	intrinsic
	options	price		term (years)	value ($)
					(in Thousands)
Options outstanding at December 31, 2015	871,727	$	19.08
Plus: Options granted	4,000		22.07
Less:
Options exercised	22,151		11.73
Options expired	—		—
Options forfeited	30,500		21.58
Options outstanding at September 30, 2016	823,076		19.20	6.01	$	8,707

Options fully vested and exercisable at September 30, 2016	241,771	$	15.79	3.80	$	3,383

Stock-based compensation expense included in the consolidated statements of income for the three and nine months ended September 30, 2016 was approximately $268,000 and $822,000, respectively. Stock-based compensation expense included in the consolidated statements of income for the three and nine months ended September 30, 2015 was approximately $289,000 and $872,000, respectively. As of September 30, 2016, there was approximately $2,541,000 of total unrecognized stock-based compensation cost related to non-vested options granted under the Company plans that will be recognized over a weighted average period of 1.8 years.

Note 6 — Investment Securities

The Company classifies debt and equity securities into one of three categories: held-to maturity, available-for-sale, or trading. Such securities are reassessed for appropriate classification at each reporting date. Securities classified as “held-to-maturity” are carried at amortized cost for financial statement reporting, while securities classified as “available-for-sale” and “trading” are carried at their fair value. Unrealized holding gains and losses are included in net income for those securities classified as “trading,” while unrealized holding gains and losses related to those securities classified as “available-for-sale” are excluded from net income and reported net of tax as other comprehensive income (loss) and accumulated other comprehensive income (loss) until realized, or in the case of losses, when deemed other than temporary.

The amortized cost and estimated fair value by type of investment security at September 30, 2016 are as follows:


	Held to Maturity
			Gross		Gross
	Amortized		unrealized		unrealized		Estimated		Carrying
	cost		gains		losses		fair value		value
	(Dollars in Thousands)
Other securities	$	2,400	$	—	$	—	$	2,400	$	2,400
Total investment securities	$	2,400	$	—	$	—	$	2,400	$	2,400


	Available for Sale
			Gross		Gross
	Amortized		unrealized		unrealized		Estimated		Carrying
	cost		gains		losses		fair value		value(1)
	(Dollars in Thousands)
Residential mortgage-backed securities	$	4,104,579	$	42,699	$	(10,805)	$	4,136,473	$	4,136,473
Obligations of states and political subdivisions		245,426		16,826		(1)		262,251		262,251
Equity securities		28,075		893		(122)		28,846		28,846
Total investment securities	$	4,378,080	$	60,418	$	(10,928)	$	4,427,570	$	4,427,570

(1)

Included in the carrying value of residential mortgage-backed securities are $956,003 of mortgage-backed securities issued by Ginnie Mae, $3,161,960 of mortgage-backed securities issued by Fannie Mae and Freddie Mac and $18,511 issued by non-government entities.

The amortized cost and estimated fair value by type of investment security at December 31, 2015 are as follows:


	Held to Maturity
			Gross		Gross
	Amortized		unrealized		unrealized		Estimated		Carrying
	cost		gains		losses		fair value		value
	(Dollars in Thousands)
Other securities	$	2,400	$	—	$	—	$	2,400	$	2,400
Total investment securities	$	2,400	$	—	$	—	$	2,400	$	2,400


	Available for Sale
			Gross		Gross		Estimated
	Amortized		unrealized		unrealized		fair		Carrying
	cost		gains		losses		value		value(1)
	(Dollars in Thousands)
Residential mortgage-backed securities	$	3,908,809	$	30,959	$	(46,557)	$	3,893,211	$	3,893,211
Obligations of states and political subdivisions		259,150		18,579		(25)		277,704		277,704
Equity securities		28,075		627		(245)		28,457		28,457
Total investment securities	$	4,196,034	$	50,165	$	(46,827)	$	4,199,372	$	4,199,372

(1)

Included in the carrying value of residential mortgage-backed securities are $1,147,143 of mortgage-backed securities issued by Ginnie Mae, $2,724,839 of mortgage-backed securities issued by Fannie Mae and Freddie Mac and $21,229 issued by non-government entities.

The amortized cost and estimated fair value of investment securities at September 30, 2016, by contractual maturity, are shown below. Expected maturities will differ from contractual maturities because borrowers may have the right to prepay obligations with or without prepayment penalties.


	Held to Maturity				Available for Sale
	Amortized		Estimated		Amortized		Estimated
	Cost		fair value		Cost		fair value
	(Dollars in Thousands)
Due in one year or less	$	1,325	$	1,325	$	—	$	—
Due after one year through five years		1,075		1,075		—		—
Due after five years through ten years		—		—		1,218		1,307
Due after ten years		—		—		244,208		260,944
Residential mortgage-backed securities		—		—		4,104,579		4,136,474
Equity securities		—		—		28,075		28,845
Total investment securities	$	2,400	$	2,400	$	4,378,080	$	4,427,570

Residential mortgage-backed securities are securities primarily issued by the Federal Home Loan Mortgage Corporation (“Freddie Mac”), Federal National Mortgage Association (“Fannie Mae”), and the Government National Mortgage Association (“Ginnie Mae”) or non-government entities. Investments in residential mortgage-backed securities issued by Ginnie Mae are fully guaranteed by the U.S. Government. Investments in residential mortgage-backed securities issued by Freddie Mac and Fannie Mae are not fully guaranteed by the U.S. Government, however, the Company believes that the quality of the bonds is similar to other AAA rated bonds with limited credit risk, particularly given the placement of Fannie Mae and Freddie Mac into conservatorship by the federal government in early September 2008 and because securities issued by others that are collateralized by residential mortgage-backed securities issued by Fannie Mae or Freddie Mac are rated consistently as AAA rated securities.

The amortized cost and fair value of available-for-sale investment securities pledged to qualify for fiduciary powers, to secure public monies as required by law, repurchase agreements and short-term fixed borrowings was $1,808,512,000 and $1,827,783,000, respectively, at September 30, 2016.

Proceeds from the sale and calls of securities available-for-sale were $130,499,000 and $326,037,000 for the three and nine months ended September 30, 2016, which included $117,713,000 and $311,931,000 of mortgage-backed securities, respectively. Gross gains of $2,000 and $586,000 and gross losses of $1,347,000 and $2,291,000 were realized on the sales for the three and nine months ended September 30, 2016, respectively. Proceeds from the sale of securities available-for-sale were $0 and $30,282,000 for the three and nine months ended September 30, 2015, which included $0 and $23,992,000 of mortgage-backed securities, respectively. Gross gains of $0 and $0 and gross losses of $0 and $428,000 were realized on the sales for the three and nine months ended September 30, 2015, respectively.

Gross unrealized losses on investment securities and the fair value of the related securities, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position at September 30, 2016, were as follows:


	Less than 12 months				12 months or more				Total
			Unrealized				Unrealized				Unrealized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
	(Dollars in Thousands)
Available for sale:
Residential mortgage-backed securities	$	812,590	$	(4,009)	$	412,993	$	(6,796)	$	1,225,583	$	(10,805)
Obligations of states and political subdivisions		541		(1)		—		—		541		(1)
Equity securities		—		—		5,627		(123)		5,627		(123)
	$	813,131	$	(4,010)	$	418,620	$	(6,919)	$	1,231,751	$	(10,929)


	Less than 12 months				12 months or more				Total
			Unrealized				Unrealized				Unrealized
	Fair Value		Losses		Fair Value		Losses		Fair Value		Losses
	(Dollars in Thousands)
Available for sale:
Residential mortgage-backed securities	$	1,083,137	$	(9,333)	$	1,454,550	$	(37,224)	$	2,537,687	$	(46,557)
Obligations of states and political subdivisions		6,814		(19)		544		(6)		7,358		(25)
Equity securities		5,041		(35)		5,540		(210)		10,581		(245)
	$	1,094,992	$	(9,387)	$	1,460,634	$	(37,440)	$	2,555,626	$	(46,827)

The unrealized losses on investments in residential mortgage-backed securities are primarily caused by changes in market interest rates. Residential mortgage-backed securities are primarily securities issued by Freddie Mac, Fannie Mae and Ginnie Mae. The contractual cash obligations of the securities issued by Ginnie Mae are fully guaranteed by the U.S. Government. The contractual cash obligations of the securities issued by Freddie Mac and Fannie Mae are not fully guaranteed by the U.S. Government; however, the Company believes that the quality of the bonds is similar to other AAA rated bonds with limited credit risk, particularly given the placement of Fannie Mae and Freddie Mac into conservatorship by the federal government in early September 2008, and because securities issued by others that are collateralized by residential mortgage-backed securities issued by Fannie Mae and Freddie Mac are rated consistently as AAA rated securities. The decrease in fair value on residential mortgage-backed securities issued by Freddie Mac, Fannie Mae and Ginnie Mae is due to market interest rates. The Company has no intent to sell and will more than likely not be required to sell before a market price recovery or maturity of the securities; therefore, it is the conclusion of the Company that the investments in residential mortgage-backed securities issued by Freddie Mac, Fannie Mae and Ginnie Mae are not considered other-than-temporarily impaired. In addition, the Company has a small investment in non-agency residential mortgage-backed securities that have additional market volatility beyond economically induced interest rate events. The Company has concluded that the investments in non-agency residential mortgage-backed securities are other-than-temporarily impaired due to both credit and other than credit issues. Impairment charges of $90,000 ($58,500, after tax) and $281,000 ($182,650 after tax) were recorded for the three and nine months ended September 30, 2016, respectively. Impairment charges of $249,000 ($161,850, after tax) and $700,000 ($455,000, after tax) were recorded for the three and nine months ended September 30, 2015, respectively. The impairment charge represents the credit related impairment on the securities.

The unrealized losses on investments in other securities are caused by fluctuations in market interest rates. The underlying cash obligations of the securities are guaranteed by the entity underwriting the debt instrument. The Company believes that the entity issuing the debt will honor its interest payment schedule, as well as the full debt at maturity. The decrease in fair value is primarily due to market interest rates and not other factors, and because the Company has no intent to sell and will more than likely not be required to sell before a market price recovery or maturity of the securities, it is the conclusion of the Company that the investments are not considered other-than-temporarily impaired.

The following table presents a reconciliation of credit-related impairment charges on available-for-sale investments recognized in earnings for the three and nine months ended September 30, 2016 (Dollars in Thousands):


Balance at June 30, 2016	$	13,768
Impairment charges recognized during period		90
Balance at September 30, 2016	$	13,858


Balance at December 31, 2015	$	13,577
Impairment charges recognized during period		281
Balance at September 30, 2016	$	13,858

The following table presents a reconciliation of credit-related impairment charges on available-for-sale investment recognized in earnings for the three and nine months ended September 30, 2015 (Dollars in Thousands):


Balance at June 30, 2015	$	13,074
Impairment charges recognized during period		249
Balance at September 30, 2015	$	13,323


Balance at December 31, 2014	$	12,623
Impairment charges recognized during period		700
Balance at September 30, 2015	$	13,323

Note 7 — Other Borrowed Funds

Other borrowed funds include FHLB borrowings, which are short-term and long-term borrowings issued by the FHLB of Dallas at the market price offered at the time of funding. These borrowings are secured by residential mortgage-backed investment securities and a portion of the Company’s loan portfolio. At September 30, 2016, other borrowed funds totaled $627,000,000, an increase of 24.0% from $505,750,000 at December 31, 2015. The increase in borrowings can be attributed to cash needs to fund daily operations, purchases of available for sale securities and the termination of a portion of the lead bank subsidiary’s long-term outstanding repurchase agreements.

Note 8 — Junior Subordinated Interest Deferrable Debentures

The Company has formed six statutory business trusts under the laws of the State of Delaware, for the purpose of issuing trust preferred securities. The six statutory business trusts formed by the Company (the “Trusts”) have each issued Capital and Common Securities and invested the proceeds thereof in an equivalent amount of junior subordinated debentures (the “Debentures”) issued by the Company. As of September 30, 2016 and December 31, 2015, the principal amount of debentures outstanding totaled $161,416,000. On July 29, 2015, the Company bought back a portion of the Capital Securities of IB Capital Trusts X and XI from the holder of the securities for a price that reflected an approximate 24.5% discount from the redemption prices of the securities. The Company thereby retired $13,000,000 of the total $34,021,000 of related Junior Subordinated Deferrable Interest Debentures related to IB Capital Trust X, resulting in Junior Subordinated Deferrable Interest Debentures on Trust X, and $1,000,000 of the total $27,900,000 of related Junior Subordinated Deferrable Interest Debentures related to IB Capital Trust XI.

The Debentures are subordinated and junior in right of payment to all present and future senior indebtedness (as defined in the respective indentures) of the Company, and are pari passu with one another. The interest rate payable on, and the payment terms of the Debentures are the same as the distribution rate and payment terms of the respective issues of Capital and Common Securities issued by the Trusts. The Company has fully and unconditionally guaranteed the obligations of each of the Trusts with respect to the Capital and Common Securities. The Company has the right, unless an Event of Default (as defined in the Indentures) has occurred and is continuing, to defer payment of interest on the

Debentures for up to twenty consecutive quarterly periods on Trusts VI, VIII, IX, X, XI and XII. If interest payments on any of the Debentures are deferred, distributions on both the Capital and Common Securities related to that Debenture would also be deferred. The redemption prior to maturity of any of the Debentures may require the prior approval of the Federal Reserve and/or other regulatory bodies.

For financial reporting purposes, the Trusts are treated as investments of the Company and not consolidated in the consolidated financial statements. Although the Capital Securities issued by each of the Trusts are not included as a component of shareholders’ equity on the consolidated statement of condition, the Capital Securities are treated as capital for regulatory purposes. Specifically, under applicable regulatory guidelines, the Capital Securities issued by the Trusts qualify as Tier 1 capital up to a maximum of 25% of Tier 1 capital on an aggregate basis. Any amount that exceeds the 25% threshold would qualify as Tier 2 capital. At September 30, 2016 and December 31, 2015, the total $161,416,000 of the Capital Securities outstanding qualified as Tier 1 capital.

The following table illustrates key information about each of the Capital and Common Securities and their interest rate at September 30, 2016:

Junior

Subordinated

Deferrable

Interest

Repricing

Interest

Optional

Debentures

Frequency

Rate

Rate Index(1)

Maturity Date

Redemption Date(1)

(Dollars in thousands)

Trust VI

25,774

Quarterly

4.27

LIBOR

3.45

November 2032

February 2008

Trust VIII

25,774

Quarterly

3.73

LIBOR

3.05

October 2033

October 2008

Trust IX

41,238

Quarterly

2.27

LIBOR

1.62

October 2036

October 2011

Trust X

21,021

Quarterly

2.41

LIBOR

1.65

February 2037

February 2012

Trust XI

26,990

Quarterly

2.27

LIBOR

1.62

July 2037

July 2012

Trust XII

20,619

Quarterly

2.29

LIBOR

1.45

September 2037

September 2012

161,416

(1)

The Capital Securities may be redeemed in whole or in part on any interest payment date after the Optional Redemption Date.

Note 9 — Common Stock and Dividends

Prior to the redemption in 2012, the Company had outstanding 216,000 shares of Series A cumulative perpetual preferred stock (the “Senior Preferred Stock”), issued to the US Treasury under the Company’s participation in the Troubled Asset Relief Program Capital Purchase Program (the “TARP Capital Purchase Program”). In conjunction with the purchase of the Senior Preferred Stock, the US Treasury received a warrant (the “Warrant”) to purchase 1,326,238 shares of the Company’s common stock (the “Warrant Shares”) at $24.43 per share, which would represent an aggregate common stock investment in the Company on exercise of the warrant in full equal to 15% of the Senior Preferred Stock investment. The term of the Warrant is ten years and was immediately exercisable. The Warrant is included as a component of Tier 1 capital. On June 12, 2013, the U.S. Treasury sold the Warrant to a third party. As of September 30, 2016, the Warrant is still outstanding, but expires on December 23, 2018 with no value if not exercised before that date. Adjustments to the $24.43 per share Exercise Price of the Warrant will be made if the Company pays cash dividends in excess of $.33 per semi-annual period or makes certain other shareholder distributions before the Warrant expires on December 23, 2018.

The Company paid cash dividends to the common shareholders of $.29 per share on April 18, 2016 to all holders of record on April 1, 2016. The Company paid cash dividends to the common shareholders of $.31 per share on October 17, 2016 to all holders of record on September 30, 2016. The Company paid cash dividends to the common shareholders on April 17, 2015 and October 15, 2015 to all holders of record on April 1, 2015 and September 30, 2015, respectively.

In April 2009, following receipt of the Treasury Department’s consent, the Board of Directors re-established a formal stock repurchase program that authorized the repurchase of up to $40 million of common stock within the following twelve months, and on March 15, 2016, the Board of Directors extended the repurchase program and again authorized the repurchase of up to $40 million of common stock during the 12 month period commencing on April 9, 2016, which repurchase cap the Board is inclined to increase over time. Stock repurchases may be made from time to time, on the open market or through private transactions. Shares repurchased in this program will be held in treasury for reissue for various corporate purposes, including employee stock option plans. During the third quarter of 2016, the Company’s Board of Directors adopted a Rule 10b5-1 plan and intends to adopt additional Rule 10b5-1 trading plans that will allow the Company to purchase its shares of common stock during certain trading blackout periods when the Company ordinarily would not be in the market due to trading restrictions in its internal trading policy. During the term of a 10b5-1 plan, purchases of common stock are automatic to the extent the conditions of the 10b5-1 plan’s trading instructions are met. Shares repurchased in this program will be held in treasury for reissue for various corporate purposes, including employee stock option plans. As of November 3, 2016, a total of 9,240,629 shares had been repurchased under all programs at a cost of $271,096,000. The Company is not obligated to repurchase shares under its stock repurchase program or to enter into additional Rule 10b5-1 plans. The timing, actual number and value of shares purchased will depend on many factors, including the Company’s cash flow and the liquidity and price performance of its shares of common stock.

Note 10 — Commitments and Contingent Liabilities and Other Tax Matters

The Company is involved in various legal proceedings that are in various stages of litigation. The Company has determined, based on discussions with its counsel, that any material loss in such actions, individually or in the aggregate, is remote or the damages sought, even if fully recovered, would not be considered material to the consolidated financial position or results of operations of the Company. However, many of these matters are in various stages of proceedings and further developments could cause management to revise its assessment of these matters.

Note 11 — Capital Ratios

Banks and bank holding companies are subject to various regulatory capital requirements administered by state and federal banking agencies. Capital adequacy guidelines and, additionally for banks, prompt corrective action regulations, involve quantitative measures of assets, liabilities, and certain off-balance sheet items calculated under regulatory accounting practices. Capital amount and classifications are also subject to qualitative judgements by regulators about components, risk-weighting and other factors.

In July 2013, the Federal Deposit Insurance Corporation (“FDIC”) and other regulatory bodies established a new, comprehensive capital framework for U.S. banking organizations, consisting of minimum requirements that increase both the quantity and quality of capital required to be held by banking organizations. The final rules are a result of the implementation of the BASEL III capital reforms and various Dodd-Frank Act related capital provisions. Consistent with the Basel international framework, the rules include a minimum ratio of Common Equity Tier 1 (“CET1”) to risk-weighted assets of 4.5% and a CET1 capital conservation buffer of 2.5% of risk-weighted assets. The capital conservation buffer began being phased-in on January 1, 2016 at .625% and will increase each year until January 1, 2019, when the Company will be required to have a 2.5% capital conservation buffer, effectively resulting in a minimum ratio of CET1 capital to risk-weighted assets of at least 7% upon full implementation. The rules also raised the minimum ratio of Tier 1 capital to risk-weighted assets from 4% to 6% and include a minimum leverage ratio of 4% for all banking organizations. Regarding the quality of capital, the rules emphasize CET1 capital and implements strict eligibility criteria for regulatory capital instruments. The rules also improve the methodology for calculating risk-weighted assets to enhance risk sensitivity. The rules are subject to a four-year phase-in period for mandatory compliance and the Company began phasing in the rules on January 1, 2015.

the requirement to include most components of accumulated other comprehensive income (loss) in the calculation of CET1 capital. CET1 is reduced by goodwill and other intangible assets, net of associated deferred tax liabilities and subject to transition provisions. Tier 1 capital includes CET1 capital and additional Tier 1 capital. Additional Tier 1 capital of the Company includes the Capital Securities issued by the Trusts (see Note 8 above) up to a maximum of 25% of Tier 1 capital on an aggregate basis. Any amount that exceeds the 25% threshold qualifies as Tier 2 capital. As of September 30, 2016, the total of $161,416,000 of the Capital Securities outstanding qualified as Tier 1 capital. The Company actively monitors the regulatory capital ratios to ensure that the Company’s bank subsidiaries are well-capitalized under the regulatory framework.

The CET1, Tier 1 and Total capital ratios are calculated by dividing the respective capital amounts by risk-weighted assets. Risk-weighted assets are calculated based on regulatory requirements and include total assets, excluding goodwill and other intangible assets, allocated by risk-weight category, and certain off-balance-sheet items, among other things. The leverage ratio is calculated by dividing Tier 1 capital by adjusted quarterly average total assets, which exclude goodwill and other intangible assets, among other things.

The aforementioned capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of CET1 capital-to-risk-weighted assets above the minimum but below the conservation buffer will face constraints on dividends, equity repurchases and compensation based on the amount of the shortfall.

As of September 30, 2016, capital levels at the Company exceed all capital adequacy requirements under the Basel III Capital Rules as currently applicable to the Company, including the capital conservation buffer. Based on the ratios presented above, capital levels as of September 30, 2016 at the Company exceed the minimum levels necessary to be considered “well-capitalized.”

The Company and its subsidiary banks are subject to the regulatory capital requirements administered by the Federal Reserve, and, for the subsidiary banks, the FDIC. Regulatory authorities can initiate certain mandatory actions if the Company or any of the subsidiary banks fail to meet the minimum capital requirements, which could have a direct material effect on our financial statements. Management believes, as of September 30, 2016, that the Company and each of its subsidiary banks meet all capital adequacy requirements to which they are subject.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with the Company’s consolidated financial statements, and notes thereto, for the year ended December 31, 2015, included in the Company’s 2015 Form 10-K. Operating results for the three and nine months ended September 30, 2016 are not necessarily indicative of the results for the year ending December 31, 2016, or any future period.

Special Cautionary Notice Regarding Forward Looking Information

Certain matters discussed in this report, excluding historical information, include forward-looking statements, within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended, and are subject to the safe harbor created by these sections. Although the Company believes such forward-looking statements are based on reasonable assumptions, no assurance can be given that every objective will be reached. The words “estimate,” “expect,” “intend,” “believe” and “project,” as well as other words or expressions of a similar meaning are intended to identify forward-looking statements. Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date of this report. Such statements are based on current expectations, are inherently uncertain, are subject to risks and should be viewed with caution. Actual results and experience may differ materially from the forward-looking statements as a result of many factors.

Risk factors that could cause actual results to differ materially from any results that are projected, forecasted, estimated or budgeted by the Company in forward-looking statements include, among others, the following possibilities:

Local, regional, national and international economic business conditions and the impact they may have on the Company, the Company’s customers, and such customers’ ability to transact profitable business with the Company, including the ability of its borrowers to repay their loans according to their terms or a change in the value of the related collateral.

Volatility and disruption in national and international financial markets.

Government intervention in the U.S. financial system.

The Company relies, in part, on external financing to fund the Company’s operations from the FHLB, the Fed and other sources, and the unavailability of such funding sources in the future could adversely impact the Company’s growth strategy, prospects and performance.

Changes in consumer spending, borrowings and savings habits.

Changes in interest rates and market prices, which could reduce the Company’s net interest margins, asset valuations and expense expectations, including, without limitation, the repeal of federal prohibitions on the payment of interest on demand deposits.

Changes in the capital markets utilized by the Company and its subsidiaries, including changes in the interest rate environment that may reduce margins.

Changes in state and/or federal laws and regulations to which the Company and its subsidiaries, as well as their customers, competitors and potential competitors, are subject, including, without limitation, the impact of the Consumer Financial Protection Bureau (“CFPB”) as a regulator of financial institutions, changes in the accounting, tax and regulatory treatment of trust preferred securities, as well as changes in banking, tax, securities, insurance, employment, environmental and immigration laws and regulations and the risk of litigation that may follow.

Changes in the Company’s liquidity position.

Changes in U.S.-Mexico trade, including, without limitation, reductions in border crossings and commerce resulting from the Homeland Security Programs called “US-VISIT,” which is derived from Section 110 of the Illegal Immigration Reform and Immigrant Responsibility Act of 1996.

The reduction of deposits from nonresident alien individuals due to IRS rules requiring U.S. financial institutions to report to the IRS deposit interest payments made to nonresident alien individuals.

The loss of senior management or operating personnel.

Increased competition from both within and outside the banking industry.

The timing, impact and other uncertainties of the Company’s potential future acquisitions, including the Company’s ability to identify suitable potential future acquisition candidates, the success or failure in the

integration of their operations and the Company’s ability to maintain its current branch network and to enter new markets successfully and capitalize on growth opportunities.

Changes in the Company’s ability to pay dividends on its Common Stock.

Changes in estimates of future reserve requirements based upon periodic review thereof under relevant regulatory and accounting requirements.

Additions to the Company’s loan loss allowance as a result of changes in local, national or international conditions that adversely affect the Company’s customers, including, without limitation, lower real estate values, lower oil prices or environmental liability risks associated with foreclosed properties.

Greater than expected costs or difficulties related to the development and integration of new products and lines of business, including the restrictions of arbitration clauses by the CFPB related to the CFPB study on the use of such clauses.

Increased labor costs and effects related to health care reform and other laws, regulations and legal developments impacting labor costs.

Impairment of carrying value of goodwill could negatively impact the Company’s earnings and capital.

Changes in the soundness of other financial institutions with which the Company interacts.

Political instability in the United States or Mexico.

Technological changes or system failure or breaches of the Company’s network security as well as other cyber security risks could subject us to increased operating costs, litigation and other liabilities.

Acts of war or terrorism.

Natural disasters.

Reduced earnings resulting from the write-down of the carrying value of securities held in the Company’s securities available-for-sale portfolio following a determination that the securities are other-than-temporarily impaired.

The effect of changes in accounting policies and practices as may be adopted by the regulatory agencies, as well as the Public Company Accounting Oversight Board, the Financial Accounting Standards Board and other accounting standards setters.

The costs and effects of regulatory developments, including the resolution of legal proceedings or regulatory or other governmental inquiries and the results of regulatory examinations or reviews and the ability to obtain required regulatory approvals.

The effect of final rules amending Regulation E that prohibit financial institutions from charging consumer fees for paying overdrafts on ATM and one-time debit card transactions, unless the consumer consents or opts-in to the overdraft service for those types of transactions, as well as the effect of any other regulatory or legal developments that limit overdraft services.

The reduction of income and possible increase in required capital levels related to the adoption of legislation, including, without limitation, the Dodd-Frank Regulatory Reform Act and the implementing rules and regulations, including the Federal Reserve’s rule that establishes debit card interchange fee standards and prohibits network exclusivity arrangements and routing restrictions that is negatively affecting interchange revenue from debit card transactions as well as revenue from consumer services.

The increase in required capital levels related to the implementation of capital and liquidity rules of the federal banking agencies that address or are impacted by the Basel III capital and liquidity standards.

The enhanced due diligence burden imposed on banks related to the banks’ inability to rely on credit ratings under Dodd-Frank which may result in a limitation on the types of securities certain banks will be able to purchase as a result of the due diligence burden.

The Company’s success at managing the risks involved in the foregoing items, or a failure or circumvention of the Company’s internal controls and risk management, policies and procedures.

Forward-looking statements speak only as of the date on which such statements are made. It is not possible to foresee or identify all such factors. The Company makes no commitment to update any forward-looking statement, or to disclose any facts, events or circumstances after the date hereof that may affect the accuracy of any forward-looking statement, unless required by law.

Overview

The Company, which is headquartered in Laredo, Texas, with 204 facilities and 309 ATMs, provides banking services for commercial, consumer and international customers of South, Central and Southeast Texas and the State of Oklahoma. The Company is one of the largest independent commercial bank holding companies headquartered in Texas. The Company, through its bank subsidiaries, is in the business of gathering funds from various sources and investing those funds in order to earn a return. The Company, either directly or through a bank subsidiary, owns one insurance agency, a liquidating subsidiary, a broker/dealer and a fifty percent interest in an investment banking unit that owns a broker/dealer. The Company’s primary earnings come from the spread between the interest earned on interest-bearing assets and the interest paid on interest-bearing liabilities. In addition, the Company generates income from fees on products offered to commercial, consumer and international customers. The sales team of each of the Company’s bank subsidiaries aim to match the right mix of products and services to each customer to best serve the customer’s needs. That process entails spending time with customers to assess those needs and servicing the sales arising from those discussions on a long term basis. The bank subsidiaries have various compensation plans, including incentive based compensation, for fairly compensating employees. The bank subsidiaries also have a robust process in place to review sales that support the incentive based compensation plan to monitor the quality of the sales and identify any significant irregularities, a process that has been in place for many years.

The Company is very active in facilitating trade along the United States border with Mexico. The Company does a large amount of business with customers domiciled in Mexico. Deposits from persons and entities domiciled in Mexico comprise a large and stable portion of the deposit base of the Company’s bank subsidiaries. The Company also serves the growing Hispanic population through the Company’s facilities located throughout South, Central and Southeast Texas and the State of Oklahoma.

Expense control is an essential element in the Company’s long-term profitability. As a result, the Company monitors the efficiency ratio, which is a measure of non-interest expense to net interest income plus non-interest income closely. As the Company adjusts to regulatory changes related to the Dodd-Frank Act, the Company’s efficiency ratio may suffer because the additional regulatory compliance costs are expected to increase non-interest expense. The Company monitors this ratio over time to assess the Company’s efficiency relative to its peers. The Company uses this measure as one factor in determining if the Company is accomplishing its long-term goals of providing superior returns to the Company’s shareholders.

Results of Operations

Summary

Consolidated Statements of Condition Information


					Percent Increase
	September 30, 2016		December 31, 2015		(Decrease)
	(Dollars in Thousands)
Assets	$	11,937,413	$	11,772,869	1.4	%
Net loans		5,886,662		5,883,926	—
Deposits		8,546,315		8,536,253	0.1
Other borrowed funds		627,000		505,750	24.0
Junior subordinated deferrable interest debentures		161,416		161,416	—
Shareholders’ equity		1,747,284		1,665,503	4.9

Consolidated Statements of Income Information


	Three Months Ended						Nine Months Ended
	September 30,				Percent		September 30,				Percent
	(Dollars in Thousands)				Increase		(Dollars in Thousands)				Increase
	2016		2015		(Decrease)		2016		2015		(Decrease)
Interest income	$	96,624	$	100,724	(4.1)	%	$	291,577	$	298,834	(2.4)	%
Interest expense		11,175		11,133	0.4			33,016		33,587	(1.7)
Net interest income		85,449		89,591	(4.6)			258,561		265,247	(2.5)
Provision for probable loan losses		(1,347)		8,832	(115.3)			14,884		18,976	(21.6)
Non-interest income		40,530		43,022	(5.8)			118,072		120,000	(1.6)
Non-interest expense		76,667		74,898	2.4			216,569		210,792	2.7
Net income		35,787		32,019	11.8	%		98,459		101,756	(3.2)

Per common share:
Basic	$	.54	$	.48	12.5	%	$	1.49	$	1.53	(2.6)	%
Diluted		.54		.48	12.5			1.49		1.53	(2.6)

Net Income

Net income for the three months ended September 30, 2016 increased by 11.8% compared to the same period of 2015. The increase can be primarily attributable to a credit to the provision for possible loan loss expense of $875,000 after tax, compared to an expense of $5.74 million, after tax, for the same period of 2015. The credit to the provision can be attributed to a large recovery on a loan charged off in prior years that positively impacted the overall balance in the allowance for probable loan losses. Net income for the nine months ended September 30, 2016 decreased by 3.2% when compared to the same period in 2015.

Net Interest Income


	Three Months Ended						Nine Months Ended
	September 30,				Percent		September 30,				Percent
	(Dollars in Thousands)				Increase		(Dollars in Thousands)				Increase
	2016		2015		(Decrease)		2016		2015		(Decrease)
Interest Income:
Loans, including fees	$	74,388	$	77,176	(3.6)	%	$	223,245	$	222,546	0.3	%
Investment securities:
Taxable		19,630		20,620	(4.8)			60,346		67,760	(10.9)
Tax-exempt		2,561		2,901	(11.7)			7,835		8,423	(7.0)
Other interest income		45		27	66.7			151		105	43.8

Total interest income		96,624		100,724	(4.1)			291,577		298,834	(2.4)

Interest expense:
Savings deposits		1,173		891	31.6			3,333		2,669	24.9
Time deposits		2,551		2,807	(9.1)			7,519		8,514	(11.7)
Securities sold under Repurchase agreements		5,480		6,041	(9.3)			16,591		18,097	(8.3)
Other borrowings		812		375	116.5			2,196		1,219	80.1
Junior subordinated interest deferrable debentures		1,159		1,019	13.7			3,377		3,088	9.4

Total interest expense		11,175		11,133	0.4			33,016		33,587	(1.7)

Net interest income	$	85,449	$	89,591	(4.6)	%	$	258,561	$	265,247	(2.5)	%

Net interest income is the spread between income on interest earning assets, such as loans and securities, and the interest expense on liabilities used to fund those assets, such as deposits, repurchase agreements and funds borrowed. As part of its strategy to manage interest rate risk, the Company strives to manage both assets and liabilities so that interest sensitivities match. One method of calculating interest rate sensitivity is through gap analysis. A gap is the difference between the amount of interest rate sensitive assets and interest rate sensitive liabilities that re-price or mature in a given time period. Positive gaps occur when interest rate sensitive assets exceed interest rate sensitive liabilities, and negative gaps occur when interest rate sensitive liabilities exceed interest rate sensitive assets. A positive gap position in a period of rising interest rates should have a positive effect on net interest income as assets will re-price faster than liabilities. Conversely, net interest income should contract somewhat in a period of falling interest rates. Management can quickly change the Company’s interest rate position at any given point in time as market conditions dictate. Additionally, interest rate changes do not affect all categories of assets and liabilities equally or at the same time. Analytical techniques employed by the Company to supplement gap analysis include simulation analysis to quantify interest rate risk exposure. The gap analysis prepared by management is reviewed by the Investment Committee of the Company twice a year (see table on page 42 for the September 30, 2016 gap analysis). Management currently believes that the Company is properly positioned for interest rate changes; however if management determines at any time that the Company is not properly positioned, it will strive to adjust the interest rate sensitive assets and liabilities in order to manage the effect of interest rate changes.

Non-Interest Income



	Three Months Ended						Nine Months Ended
	September 30,				Percent		September 30,				Percent
	(Dollars in Thousands)				Increase		(Dollars in Thousands)				Increase
	2016		2015		(Decrease)		2016		2015		(Decrease)

Service charges on deposit accounts	$	19,035	$	20,627	(7.7)	%	$	54,999	$	59,669	(7.8)	%
Other service charges, commissions and fees
Banking		13,722		11,028	24.4			35,056		34,556	1.4
Non-banking		1,803		2,091	(13.8)			4,794		5,057	(5.2)
Investment securities transactions, net		(1,345)		—	—			(1,705)		(428)	298.4
Other investments, net		4,082		4,400	(7.2)			14,699		12,117	21.3
Other income		3,233		4,876	(33.7)			10,229		9,029	13.3
Total non-interest income	$	40,530	$	43,022	(5.8)	%	$	118,072	$	120,000	(1.6)	%

Total non-interest income decreased 1.6 % for the nine months ended September 30, 2016 and decreased by 5.8% for the three months ended September 30, 2016 compared to the same periods of 2015. Non-interest income for the nine months ended September 30, 2016 was positively impacted by the sale of two investments by the merchant banking entities in which the Company holds an equity interest, resulting in income of approximately $2.4 million included in other investments in the table above. The decrease in service charges on deposit accounts can be attributed to a decrease in the volume of overdraft charges on deposit accounts for the periods indicated in 2016 compared to 2015.

Non-Interest Expense


	Three Months Ended						Nine Months Ended
	September 30,				Percent		September 30,				Percent
	(Dollars in Thousands)				Increase		(Dollars in Thousands)				Increase
	2016		2015		(Decrease)		2016		2015		(Decrease)

Employee compensation and benefits	$	33,908	$	31,962	6.1	%	$	95,846	$	93,364	2.7	%
Occupancy		6,153		7,143	(13.9)			18,225		20,003	(8.9)
Depreciation of bank premises and equipment		6,175		6,240	(1.0)			18,563		18,798	(1.3)
Professional fees		3,661		3,448	6.2			10,400		10,715	(2.9)
Deposit insurance assessments		1,332		1,511	(11.8)			4,333		4,441	(2.4)
Net expense, other real estate owned		2,320		1,678	38.3			4,575		4,074	12.3
Amortization of identified intangible assets		32		161	(80.1)			96		441	(78.2)
Advertising		1,921		1,857	3.4			6,345		5,887	7.8
Early termination fee—securities sold under repurchase agreements		1,799		3,510	(48.7)			1,799		3,510	(48.7)
Software and software maintenance		3,687		2,740	34.6			10,721		7,869	36.2
Impairment charges (Total other-than-temporary impairment charges, $353 net of $263, $(26), net of $223, $876 net of $ 595 and $150, net of $850, included in other comprehensive income)		90		249	(63.9)			281		700	(59.9)
Other		15,589		14,399	8.3			45,385		40,990	10.7

Total non-interest expense	$	76,667	$	74,898	2.4		$	216,569	$	210,792	2.7	%

Non-interest expense increased 2.4% for the three months ended September 30, 2016 and 2.7% for the nine months ended September 30, 2016 compared to the same periods of 2015. The increase in non-interest expense in 2016 can be attributed to increased technological costs related to certain network infrastructure modifications.

Financial Condition

Allowance for Probable Loan Losses

The allowance for probable loan losses decreased 4.5% to $63,970,000 at September 30, 2016 from $66,988,000 at December 31, 2015. The provision for probable loan losses charged to expense decreased 21.6% to $14,884,000 for the nine months ended September 30, 2016 compared to $18,976,000 for the nine months ended September 30, 2015. The decrease in the provision for probable loan losses charged to expense can be attributed to a large recovery on a loan charged off in prior years of approximately $6 million. The recovery positively impacted the balance in the allowance for probable loan losses and resulted in a decreased allowance expense. The allowance for probable loan losses was 1.09% and 1.13% of total loans at September 30, 2016 and December 31, 2015, respectively.

Investment Securities

Residential mortgage-backed securities are securities primarily issued by Freddie Mac, Fannie Mae, Ginnie Mae, and other non-governmental entities. Investments in residential mortgage-backed securities issued by Ginnie Mae are fully guaranteed by the U.S. Government. Investments in residential mortgage-backed securities issued by Freddie Mac and Fannie Mae are not fully guaranteed by the U.S. Government, however, the Company believes that the quality of the bonds is similar to other AAA rated bonds with limited credit risk, particularly given the placement of Fannie Mae and Freddie Mac into conservatorship by the federal government in early September 2008 and because securities issued by others that are collateralized by residential mortgage-backed securities issued by Fannie Mae or Freddie Mac are rated consistently as AAA rated securities.

Loans

Net loans decreased by 1.0% to $5,822,692,000 at September 30, 2016, from $5,883,926,000 at December 31, 2015.

Deposits

Deposits increased by 0.1% to $8,546,315,000 at September 30, 2016, from $8,536,253,000 at December 31, 2015. Although deposits at September 30, 2016 increased minimally from December 31, 2015, the Company has experienced growth in deposits over the last few years. The Company is still experiencing a substantial amount of competition for deposits at higher than market rates. As a result, the Company has attempted to maintain certain deposit relationships but has allowed certain deposits to leave as the result of aggressive pricing.

Foreign Operations

On September 30, 2016, the Company had $11,937,413,000 of consolidated assets, of which approximately $170,108,000, or 1.4%, was related to loans outstanding to borrowers domiciled in foreign countries, compared to $179,013,000, or 1.52%, at December 31, 2015. Of the $170,108,000, 84.1% is directly or indirectly secured by U.S. assets, certificates of deposits and real estate; 15.1% is secured by foreign real estate or other assets; and 0.8% is unsecured.

Critical Accounting Policies

The Company has established various accounting policies that govern the application of accounting principles in the preparation of the Company’s consolidated financial statements. The significant accounting policies are described in the notes to the consolidated financial statements. Certain accounting policies involve significant subjective judgments and assumptions by management that have a material impact on the carrying value of certain assets and liabilities; management considers such accounting policies to be critical accounting policies.

The Company considers its allowance for probable loan losses as a policy critical to the sound operations of the bank subsidiaries. The allowance for probable loan losses primarily consists of the aggregate loan loss allowances of the bank subsidiaries. The allowances are established through charges to operations in the form of provisions for probable loan losses. Loan losses or recoveries are charged or credited directly to the allowances. The allowance for probable loan losses of each bank subsidiary is maintained at a level considered appropriate by management, based on estimated probable losses in the loan portfolio. The allowance is derived from the following elements: (i) allowances established on specific impaired loans, which are based on a review of the individual characteristics of each loan, including the customer’s ability to repay the loan, the underlying collateral values, and the industry in which the customer operates; (ii) allowances based on actual historical loss experience for similar types of loans in the Company’s loan portfolio; and (iii) allowances based on general economic conditions, changes in the mix of loans, Company resources, border risk and credit quality indicators, among other things. See also discussion regarding the allowance for probable loan losses and provision for probable loan losses included in the results of operations and “Provision and Allowance for Probable Loan Losses” included in Notes 1 and 4 of the notes to Consolidated Financial Statements in the Company’s latest Annual Report on Form 10-K for further information regarding the Company’s provision and allowance for probable loan losses policy.

Liquidity and Capital Resources

The maintenance of adequate liquidity provides the Company’s bank subsidiaries with the ability to meet potential depositor withdrawals, provide for customer credit needs, maintain adequate statutory reserve levels and take full advantage of high-yield investment opportunities as they arise. Liquidity is afforded by access to financial markets and by holding appropriate amounts of liquid assets. The Company’s bank subsidiaries derive their liquidity largely from deposits of individuals and business entities. Deposits from persons and entities domiciled in Mexico comprise a stable portion of the deposit base of the Company’s bank subsidiaries. Other important funding sources for the Company’s bank subsidiaries during 2016 and 2015 were borrowings from the FHLB, securities sold under repurchase

agreements and large certificates of deposit, requiring management to closely monitor its asset/liability mix in terms of both rate sensitivity and maturity distribution. The borrowings from FHLB are primarily short-term in nature and are renewed at maturity. The Company’s bank subsidiaries have had a long-standing relationship with the FHLB and keep open unused lines of credit in order to fund liquidity needs. In the event that the FHLB bank indebtedness is not renewed, the repayment of the outstanding indebtedness would more than likely be repaid through proceeds generated from the sales of unpledged available for sale securities. The Company maintains a sizable, high quality investment portfolio to provide significant liquidity. These securities can be sold or sold under agreements to repurchase, to provide immediate liquidity. As in the past, the Company will continue to monitor the volatility and cost of funds in an attempt to match maturities of rate-sensitive assets and liabilities and respond accordingly to anticipated fluctuations in interest rates over reasonable periods of time.

The Company maintains an adequate level of capital as a margin of safety for its depositors and shareholders. At September 30, 2016, shareholders’ equity was $1,747,284,000 compared to $1,665,503,000 at December 31, 2015. The increase in shareholders’ equity can be primarily attributed to the retention of earnings offset by the payment of cash dividends to common shareholders and an increase in comprehensive income.

In July 2013, the FDIC and other regulatory bodies established a new, comprehensive capital framework for U.S. banking organizations, consisting of minimum requirements that increase both the quantity and quality of capital held by banking organizations. The final rules are a result of the implementation of the BASEL III capital reforms and various Dodd-Frank Act related capital provisions. Consistent with the Basel international framework, the rules include a minimum ratio of Common Equity Tier 1 (“CET1”) to risk-weighted assets of 4.5% and a CET1 capital conservation buffer of 2.5% of risk-weighted assets. The capital conservation buffer began being phased-in on January 1, 2016 at .625% and will increase each year until January 1, 2019, when the Company will be required to have a 2.5% capital conservation buffer, effectively resulting in a minimum ratio of CET1 capital to risk-weighted assets of at least 7% upon full implementation. The rules also raised the minimum ratio of Tier 1 capital to risk-weighted assets from 4% to 6% and include a minimum leverage ratio of 4% for all banking organizations. Regarding the quality of capital, the rules emphasize CET1 capital and implement strict eligibility criteria for regulatory capital instruments. The rules also improve the methodology for calculating risk-weighted assets to enhance risk sensitivity. The rules are subject to a four-year phase-in period for mandatory compliance and the Company began phasing in the rules on January 1, 2015.

The Company had a CET1 to risk-weighted assets ratio of 16.76% on September 30, 2016 and 16.81% on December 31, 2015. The Company had a Tier1 capital-to-average-total-asset (leverage) ratio of 13.61% and 13.15%, risk-weighted Tier 1 capital ratio of 18.55% and 18.69% and risk-weighted total capital ratio of 19.35% and 19.54% at September 30, 2016 and December 31, 2015, respectively. The Company’s CET1 capital consists of common stock and related surplus, net of treasury stock, and retained earnings. The Company and its subsidiary banks elected to opt-out of the requirement to include most components of accumulated other comprehensive income (loss) in the calculation of CET1 capital. CET1 is reduced by goodwill and other intangible assets, net of associated deferred tax liabilities and subject to transition provisions. Tier 1 capital includes CET1 capital and additional Tier 1 capital. Additional Tier 1 capital of the Company includes the Capital Securities issued by the Trusts (see Note 8 of the Notes to the Consolidated Financial Statements) up to a maximum of 25% of Tier 1 capital on an aggregate basis. Any amount that exceeds the 25% threshold qualifies as Tier 2 capital. As of September 30, 2016, the total of $161,416,000 of the Capital Securities outstanding qualified as Tier 1 capital. The Company actively monitors the regulatory capital ratios to ensure that the Company’s bank subsidiaries are well-capitalized under the regulatory framework.

things. The leverage ratio is calculated by dividing Tier 1 capital by adjusted quarterly average total assets, which exclude goodwill and other intangible assets, among other things.

As in the past, the Company will continue to monitor the volatility and cost of funds in an attempt to match maturities of rate-sensitive assets and liabilities, and respond accordingly to anticipate fluctuations in interest rates by adjusting the balance between sources and uses of funds as deemed appropriate. The net-interest rate sensitivity as of September 30, 2016 is illustrated in the table entitled “Interest Rate Sensitivity.” This information reflects the balances of assets and liabilities for which rates are subject to change. A mix of assets and liabilities that are roughly equal in volume and re-pricing characteristics represents a matched interest rate sensitivity position. Any excess of assets or liabilities results in an interest rate sensitivity gap.

The Company undertakes an interest rate sensitivity analysis to monitor the potential risk on future earnings resulting from the impact of possible future changes in interest rates on currently existing net asset or net liability positions. However, this type of analysis is as of a point-in-time position, when in fact that position can quickly change as market conditions, customer needs, and management strategies change. Thus, interest rate changes do not affect all categories of asset and liabilities equally or at the same time. As indicated in the table, the Company is liability sensitive during the early time periods and asset sensitive in the longer periods. The Company’s Asset and Liability Committee semi-annually reviews the consolidated position along with simulation and duration models, and makes adjustments as needed to control the Company’s interest rate risk position. The Company uses modeling of future events as a primary tool for monitoring interest rate risk.

Interest Rate Sensitivity

(Dollars in Thousands)


	Rate/Maturity
			Over 3		Over 1
	3 Months		Months to		Year to 5		Over 5
September 30, 2016	or Less		1 Year		Years		Years		Total
	(Dollars in Thousands)
Rate sensitive assets
Investment securities	$	293,636	$	856,034	$	3,014,987	$	265,313	$	4,429,970
Loans, net of non-accruals		4,448,132		204,207		367,692		831,564		5,851,595

Total earning assets	$	4,741,768	$	1,060,241	$	3,382,679	$	1,096,877	$	10,281,565

Cumulative earning assets	$	4,741,768	$	5,802,009	$	9,184,688	$	10,281,565

Rate sensitive liabilities

Time deposits	$	943,021	$	1,060,739	$	250,677	$	98	$	2,254,535
Other interest bearing deposits		3,082,637		—		—		—		3,082,637
Securities sold under repurchase agreements		220,736		112,163		400,000		—		732,899
Other borrowed funds		627,000		—		—		—		627,000
Junior subordinated deferrable interest debentures		161,416		—		—		—		161,416

Total interest bearing liabilities	$	5,034,810	$	1,172,902	$	650,677	$	98	$	6,858,487

Cumulative sensitive liabilities	$	5,034,810	$	6,207,712	$	6,858,389	$	6,858,487

Repricing gap	$	(293,042)	$	(112,661)	$	2,732,002	$	1,096,779	$	3,423,078
Cumulative repricing gap		(293,042)		(405,703)		2,326,299		3,423,078
Ratio of interest-sensitive assets to liabilities		0.94		0.90		5.20		11,192.62		1.50
Ratio of cumulative, interest-sensitive assets to liabilities		0.94		0.93		1.34		1.50

Item 3. Quantitative and Qualitative Disclosures about Market Risk

During the first nine months of 2016, there were no material changes in market risk exposures that affected the quantitative and qualitative disclosures regarding market risk presented under the caption “Liquidity and Capital Resources” located on pages 19 through 25 of the Company’s 2015 Annual Report as filed as an exhibit to the Company’s Form 10-K for the year ended December 31, 2015.

Item 4. Controls and Procedures

Disclosure Controls and Procedures

The Company maintains disclosure controls and procedures designed to ensure that information required to be disclosed in reports filed under the Securities Exchange Act of 1934, as amended, is recorded, processed, summarized and reported within specified time periods. As of the end of the period covered by this Quarterly Report on Form 10-Q, the Company’s principal executive officer and principal financial officer evaluated, with the participation of the Company’s management, the effectiveness of the Company’s disclosure controls and procedures (as defined in Exchange Act rules 13a-15(e) and 15d-15(e)). Based on the evaluation, which disclosed no material weaknesses, the Company’s principal executive officer and principal financial officer concluded that the Company’s disclosure controls and procedures were effective as of the end of the period covered by this report.

Internal Control Over Financial Reporting

There were no changes in the Company’s internal control over financial reporting that occurred during the Company’s most recent fiscal quarter that have materially affected or are reasonably likely to materially affect the Company’s internal control over financial reporting.

PART II - OTHER INFORMATION

Item 1. Legal Proceedings

The Company is involved in various legal proceedings that are in various stages of litigation. The Company has determined, based on discussions with its counsel that any material loss in any current legal proceedings, individually or in the aggregate, is remote or the damages sought, even if fully recovered, would not be considered material to the consolidated financial position or results of operations of the Company. However, many of these matters are in various stages of proceedings and further developments could cause management to revise its assessment of these matters.

1A. Risk Factors

There were no material changes in the risk factors as previously disclosed in Item 1A to Part I of the Company’s Annual Report on Form 10-K for the fiscal year ended December 31, 2015.

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

From time to time, the Company’s Board of Directors has authorized stock repurchase plans. In April 2009, the Board of Directors established a formal stock repurchase program that authorized the repurchase of up to $40 million of common stock within the following twelve months, and on March 15, 2016, the Board of Directors extended the repurchase program and again authorized the repurchase of up to $40 million of common stock during the 12 month period commencing on April 9, 2016, which repurchase cap the Board is inclined to increase over time. Stock repurchases may be made from time to time, on the open market or through private transactions. During the third quarter, the Company’s Board of Directors adopted a Rule 10b5-1 plan and intends to adopt additional Rule 10b5-1 trading plans that will allow the Company to purchase its shares of common stock during certain trading blackout periods when the Company ordinarily would not be in the market due to trading restrictions in its internal trading policy. During the terms of a 10b5-1 plan, purchases of common stock are automatic to the extent the conditions of the plan’s trading instructions are met. Shares repurchased in this program will be held in treasury for reissue for various corporate purposes, including employee stock option plans. As of November 3, 2016, a total of 9,240,629 shares had been repurchased under all repurchase programs at a cost of $271,096,000. The Company is not obligated to repurchase shares under its stock purchase program or to enter into additional Rule 10b5-1 plans. The timing, actual number and value of shares purchased will depend on many factors, including the Company’s cash flow and the liquidity and price performance of its shares of common stock.

Except for repurchases in connection with the administration of an employee benefit plan in the ordinary course of business and consistent with past practices, common stock repurchases are only conducted under publicly announced repurchase programs approved by the Board of Directors. The following table includes information about common stock share repurchases for the quarter ended September 30, 2016.


				Total Number of
				Shares
				Purchased as	Approximate
		Average		Part of a	Dollar Value of
	Total Number	Price Paid		Publicly-	Shares Available
	of Shares	Per		Announced	for
	Purchased	Share		Program	Repurchase(1)
July 1 – July 31, 2016	—	$	—	—	$	40,000,000
August 1 – August 31, 2016	—		—	—		40,000,000
September 1 – September 30, 2016	—		—	—		40,000,000
Total	—	$	—	—

(1)

The repurchase program was extended on March 15, 2016 and allows for the repurchase of up to an additional $40,000,000 of treasury stock through April 9, 2017.

Item 6. Exhibits

The following exhibits are filed as a part of this Report:

31(a) —Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

31(b) —Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act of 2002

32(a) —Certification of Chief Executive Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

32(b) —Certification of Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

101++ — Interactive Data File

++ Attached as Exhibit 101 to this report are the following documents formatted in XBRL (Extensible Business Reporting Language): (i) the Condensed Consolidated Statement of Earnings for the three and nine months ended September 30, 2016 and 2015; (ii) the Condensed Consolidated Balance Sheet as of September 30, 2016 and December 31, 2015; and (iii) the Condensed Consolidated Statement of Cash Flows for the nine months ended September 30, 2016 and June 30, 2015.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


		INTERNATIONAL BANCSHARES CORPORATION


Date:	November 7, 2016	/s/ Dennis E. Nixon
		Dennis E. Nixon
		President


Date:	November 7, 2016	/s/ Imelda Navarro
		Imelda Navarro
		Treasurer