Good morning, and welcome to the Prosperity Bancshares' Third Quarter 2024 Earnings Conference Call. All participants will be in listen-only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Charlotte Rasche. Please go ahead.

Thank you. Good morning, ladies and gentlemen, and welcome to Prosperity Bancshares third quarter 2024 earnings conference call. This call is being broadcast live on our website and will be available for replay for the next few weeks. I'm Charlotte Rasche, Executive Vice President and General Counsel of Prosperity Bancshares, and here with me today is David Zalman, Senior Chairman and Chief Executive Officer; H. E. Tim Timanus, Jr. Chairman; Asylbek Osmonov, Chief Financial Officer; Eddie Safady, Vice Chairman; Kevin Hanigan, President and Chief Operating Officer; Randy Hester, Chief Lending Officer; Mays Davenport, Director of Corporate Strategy; and Bob Dowdell, Executive Vice President. David Zalman will lead off with a review of the highlights for the recent quarter. He will be followed by Asylbek Osmonov, who will review some of our recent financial statistics and Tim Timanus, who will discuss our lending activities, including asset quality. Finally, we will open the call for questions. Before we begin, let me make the usual disclaimers. Certain of the matters discussed in this presentation may constitute forward-looking statements for purposes of the federal securities laws and as such, may involve known and unknown risks, uncertainties and other factors which may cause the actual results or performance of Prosperity Bancshares to be materially different from future results or performance expressed or implied by such forward-looking statements. Additional information concerning factors that could cause actual results to be materially different than those in the forward-looking statements can be found in Prosperity Bancshares filings with the Securities and Exchange Commission including Forms 10-Q and 10-K and other reports and statements we have filed. All forward-looking statements are expressly qualified in their entirety by these cautionary statements. Now, let me turn the call over to David Zalman.

Thank you, Charlotte. I would like to welcome and thank everyone listening to our third quarter 2024 conference call. I'm pleased to announce that the Board of Directors approved increasing the fourth quarter 2024 dividend to $0.58 per share from the $0.56 per share that was paid in the prior four quarters. The increase reflects the continued confidence the Board has in our company and our markets. The compound annual growth rate in dividends declared from 2003 to 2024 was 11%. We continue to share our success with our shareholders through the payment of dividends and opportunistic stock repurchases, while also continuing to grow our capital. Our tangible capital increased $218 million from September 30, 2023 to September 30, 2024. This is the amount Prosperity retained after paying $212 million in dividends and repurchasing $75 million of our common stock during this period, reflecting Prosperity's stable earnings. Further, Prosperity's tangible book value per share has a compound annual growth rate of 11% for the last 21 years, or since 2003. Prosperity reported net income of $127 million for the quarter ended September 30, 2024, compared with $112 million for the same period in 2023. The net income per diluted common share was $1.34 for the quarter ended September 30, 2024, compared with $1.20 for the same period in 2023, an 11.7% increase. Prosperity earnings were primarily impacted by a higher net interest margin. The net interest margin on a tax-equivalent basis was 2.95% for the three months ended September 30, 2024, compared to 2.72% for the same period, September 30, 2023. As mentioned in previous calls, our net interest margin should continue to improve to more normal levels as our assets reprice. Prosperity continues to exhibit solid operating metrics with annualized returns on tangible equity of 13.5% and return on assets of 1.28% for the third quarter of 2024. Loans were $22.3 billion at September 30, 2024, an increase of $948 million, or 4.4%, compared with $21.4 billion at September 30, 2023. Linked quarter loans increased $60 million. Excluding the loans acquired in the Lone Star merger and new production by the acquired lending operations since April 1, 2024, loans at September 30, 2024 decreased by $161 million, compared with September 30, 2023. The reduction in loans is not unusual for Prosperity as we are still working through loans acquired from the First Capital Bank. If the terms and conditions of any acquired loan do not meet certain standards, we exit the asset. Over the years, this process has resulted in lower non-performing and charged-off loans, and makes us a stronger bank that can withstand various banking cycles. Our shareholders have come to expect this. Our deposits were $28 billion at September 30, 2024, an increase of $774 million, or 2.8%, compared with $27.3 billion at September 30, 2023. Linked quarter deposits increased $154 million from $27.9 billion at June 30, 2024. Excluding deposits assumed in the Lone Star merger at September 30, 2024, deposits decreased by $361 million compared with September 30, 2023, and increased by $206 million compared with June 30, 2024. We're encouraged that the deposits are stabilizing and that core deposits have grown slightly compared with the previous quarter after the effects of the bank failures in 2023. Importantly, Prosperity has not purchased any broker deposits during this turbulent time. Our non-performing assets total $89.9 million or 25 basis points of quarterly average interest-earning assets at September 30, 2024, compared with $69.5 million or 20 basis points of quarterly average interest-earning assets at September 30, 2023 and $89.6 million or 25 basis points of quarterly average interest-earning assets at June 30, 2024, with a significant portion of the balance for each period attributable to the acquired loans. The allowance for credit losses on loans and off-balance sheet credit exposure was $392 million at September 30, 2024, compared with $89.9 million in non-performing assets as of September 30, 2024. Our net charge-offs were $12 million for the nine months ended September 30, 2024, compared with $18.9 million for the nine months ended September 30, 2023. We continue to have conversations with other bankers considering strategic opportunities. We believe that higher technology and staffing costs, funding costs, loan competition, succession planning concerns, and increased regulatory burden all point to continued consolidation. We remain ready to move forward in the event a transaction materializes and will be beneficial to our company's long-term future and will increase shareholder value. An estimated 1,000 to 1,300 people move to Texas every day based on the U.S. Census Bureau. In 2023, 473,000 people moved to Texas, which equates to approximately 40,000 per month or 1,300 per day. The Texas and Oklahoma economies continue to benefit from companies relocating from states with higher taxes and more regulation. This combined with people moving to the states requires additional housing and infrastructure, a driver for loans and increased business opportunities. We believe our bank is located in two of the best states we can be for future growth and continued prosperity. Thanks again for your support of our company. Let me turn over our discussion to Asylbek Osmonov, our Chief Financial Officer, to discuss the specific financial results we achieved.

Thank you, Mr. Zalman. Good morning, everyone. Net interest income before provision for credit losses for the three months ended September 30, 2024, was $261.7 million. An increase of $2.9 million compared to $258.8 million for the quarter ended June 30, 2024, and an increase of $22.2 million compared to $239.5 million for the same period in 2023. Fair value loan income for the third quarter 2024 was $4.8 million compared to $7.2 million for the second quarter 2024. Excluding fair value loan income, the core net interest income for the three months ended September 30, 2024, increased $5.3 million compared to the quarter ended June 30, 2024. The net interest margin on a tax-equivalent basis was 2.95% for the three months ended September 30, 2024, compared to 2.94% for the quarter ended June 30, 2024, and 2.72% for the same period in 2023. Excluding purchase accounting adjustments, the net interest margin for the three months ended September 30, 2024, was 2.89% compared to 2.86% for the quarter ended June 30, 2024, and 2.68% for the same period in 2023. Non-interest income was $41.1 million for the three months ended September 30, 2024, compared to $46 million for the quarter ended June 30, 2024, and $38.7 million for the same period in 2023. Higher non-interest income during the second quarter 2024 was due to a net gain of $10.7 million resulting from the gain on Visa stock conversion, partially offset by the loss on the sale of investment securities. Non-interest expense for the three months ended September 30, 2024 was $140.3 million, compared to $152.8 million for the quarter ended June 30, 2024 and $135.7 million for the same period in 2023. Higher non-interest expense during the second quarter 2024 was primarily due to merger-related expenses of $4.4 million and FDIC special assessment of $3.6 million. For the fourth quarter 2024, we expect non-interest expense to be in the range of $141 million to $143 million. The efficiency ratio was 46.9% for the three months ended September 30, 2024, compared to 51.8% for the quarter ended June 30, 2024, and 48.7% for the same period in 2023. The bond portfolio metrics at September 30, 2024 have a modified duration of four, and projected annual cash flows of approximately $2 billion. And with that, let me turn over the presentation to Tim Timanus for some details on loan and asset quality.

Thank you, Asylbek. Our non-performing assets at the quarter ended September 30, 2024, totaled $89,923,000 or 40 basis points of loans and other real estate compared to $89,570,000 or 40 basis points at June 30, 2024. Since September 30, 2024, $2,200,000 in non-performing assets have been removed or put under contract for sale. The September 30, 2024, non-performing asset total was made up of $83,989,000 in loans, $177,000 in repossessed assets and $5,757,000 in other real estate. Net charge-offs for the three months ended September 30, 2024 were $5,455,000 compared to net charge-offs of $4,368,000 for the quarter ended June 30, 2024. This is a $1,087,000 increase on a linked quarter basis. There was no addition to the allowance for credit losses during the quarter ended September 30, 2024 compared to a $9,066,000 addition during the quarter ended June 30, 2024 that resulted from the Lone Star State Bank of West Texas acquisition. No dollars were taken into income from the allowance during the quarter ended September 30, 2024. The average monthly new loan production for the quarter ended September 30, 2024 was $259 million compared to $278 million for the quarter ended June 30, 2024. Loans outstanding at September 30, 2024 were approximately $22.381 billion compared to $22.321 billion at June 30, 2024. September 30, 2024 loan total is made up of 40% fixed-rate loans, 31% floating-rate loans and 29% variable rate loans. I will now turn it over to Charlotte Rasche.

Thank you, Tim. At this time, we are prepared to answer your questions. Our call operator will assist us with questions.

We will now begin the question-and-answer session. Our first question today is from Manan Gosalia with Morgan Stanley. Please go ahead.

Hi, good morning.

Good morning.

Good morning.

You noted that net interest margin should continue to improve to more normal levels as assets reprice. I was wondering how you feel about the net interest margin guidepost that you had previously given?

Again, I think we're sticking with what we said. We should exit our net interest margin at 3% at year-end. Again, there are a lot of factors that go into that; that's if rates stay exactly where they are. If rates go down, of course, we'll have to lower our money market accounts by 25 basis points to exit at 3%, but we still plan on exiting the year at a 3% net interest margin. And then, for 12 months ending in 2025, our model is showing that we'll average 3.27% for the year, which means it can be lower in the beginning of the year and higher at the end of the year. And then, in '26, our model is still projecting 3.65%. I'll put a caveat on that; that looks a little strong to me, but just what the model is showing right now. And again, those are taking into consideration that the interest rates at the end of the year prime is 7.5%, and in '25, that will finish the prime at 6.5%, and in '26, the prime at 6%. So, that's the difference that's going into those.

Got it. So, in terms of the rate environment, what is the best rate environment for you to achieve that net interest margin of 3.5% or 3.4% in the medium term? What are the puts and takes if the short-end rates decline another 150 basis points from here, or if they don't decline as much, where does that put you in terms of that medium-term net interest margin?

Historically, it doesn't change much over a 12-month period whether interest rates increase by 200 basis points or decrease by the same amount. If interest rates remain the same, we would likely see a slightly higher net interest margin. If they rise, our net interest margin would also be a bit higher, and if they drop, it would be slightly lower. Overall, changes in interest rates don't have a significant impact unless they drop more than 200 basis points, which could start to affect us more.

Got it. So, I guess, relative to the forward curve if rates were up or down 50 basis points, it sounds like you can still get some nice net interest margin expansion from here?

Our models are showing that everything we've been saying throughout the year is still going forward for the end of this year and also going forward for '25 and '26 and even '27. So, what we're looking forward to still looks very good for us.

Great, thank you.

The next question is from Catherine Mealor with KBW. Please go ahead.

Thank you. Good morning. To follow up on deposit costs, considering your low deposit base compared to others, should we expect to see a reduction in deposit costs in the coming quarters? You mentioned possibly lowering money market rates by 20 basis points if there's another cut this quarter. Any insights on what you've observed so far? Will deposit costs generally decline, or will they remain stable, with most net interest margin improvement coming from adjusting the asset mix?

If interest rates remain where they are, we anticipate some repricing on the CDs. We could have achieved significant growth in deposits if we had introduced a product offering a 5.5% interest rate on a CD, potentially raising $500 million to $1 billion, but we chose not to pursue that. Our CD ratio is currently about 16% of our total deposits, but we could have increased that if we wished. However, our primary focus is on the net interest margin. For context, for every 100 basis points decrease, our beta is 22 basis points, and Asylbek can provide additional insights on this matter whenever he prefers.

For the interest bearing deposits and 13 based on total deposits. Just to add the color to what we're saying right now, so, when we had 50 basis cut initially in September, we didn't cut our general rate, but what we did, we cut their special rate we provide to our customers. We cut the rates on those. And as you remember, we introduced those special CDs and we cut the rates on those special CDs. And from the maturity-wise on CDs, if you look at the total CDs, 75% of those CDs will mature within six months and 91% going to mature within a year. So, the duration of those CDs is short. As they reprice, we should get a benefit on the cost of deposit, cost of funding side, and we do expect cost of deposits to go down next quarter.

It should go down; our net margins improve with the repricing of the $2 billion that rolls off of our bonds and the repricing on our loans. All of that should be a real positive to make our net interest margin go where we want it to go.

And I think overall our exit deposit cost at the end of September was already lower than average in Q3. So, trajectory-wise we're going down. So, that's what we continue to see as CDs reprice.

Probably one caveat I would say is if interest rates keep coming down by 50 basis points, that affects us. It takes us a little bit more time to adjust. I think coming down at 25 basis points we're fine, but if they come down by bigger increments, it takes us a little longer to adjust, I think.

Okay. That makes sense. And then, you saw nice growth in the warehouse as you guided to last quarter. Any outlook to what we should see out on that business for the back half of the year?

Sure. You're right. We ended up the quarter on a high note at $1.229 billion. I think we averaged $1.115 billion for the quarter. So, both of those were a little higher than we were forecasting. Just as a data point, we closed last night at $1.243 billion, so it's remained pretty strong. The average for this quarter through last night is $1.201 billion. I would say it's likely, and again, rates play a factor in this whole equation. It's likely those numbers come down for seasonal weakness in November and December. And if I had to put a number on it, I'm going to say we would average for the quarter probably $1.050 billion to maybe a $1.1 billion. So, it's going to come off from the highs we're at today. But frankly, we've enjoyed these highs for a little longer than I anticipated.

Yes, for sure. Okay, great. Thank you.

Yes. And just as a follow-up on that, we have recently added one new customer to the warehouse. That's the first time in a while we have been letting some customers go. I think we've let seven or eight customers go over the course of the last year. This is now going back the other way. We added a customer and we have had some increases to a couple of other customers. So, net-net, I think, we've added $140 million worth of new commitments so far this month.

Great, thank you.

The next question is from Ebrahim Poonawala with Bank of America. Please go ahead.

Good morning.

Good morning.

Good morning.

I just wanted to follow-up on the net interest margin guidance and outlook that David you mentioned. I think the 3.27 average for full-year implies exiting next year by 3.4-something around between 3.4 and 3.5. And you mentioned some prime rate assumptions. Does that assume another 50, 100 basis points of rate cuts over the next 12 months to get to that 3.27-ish average for full-year '25?

For 2025, the prime rate we have ending at 6.5% and with average 3.27, I don't have what the exit is going to be, but it should be higher than the 3.27. Do you have that, Asylbek? I don't have it in front of me.

I don't have it, but I think it's going to be a little bit.

Your numbers are probably pretty close to what you're saying.

And if I heard you correctly, the only the biggest risk to that view is if we get rapid rate cuts, slow rate cuts, and a steeper curve, all of that should be neutral to positive to that kind of a model outcome?

I think so. That's right.

That's helpful. And just separately, I think you mentioned about M&A, like, yes, there needs to be more M&A, but it's been tough. Obviously, elections may have implications, but if we don't have a big change in the regulatory backdrop coming out of elections. Do you still see it as conceivable that Prosperity could do a deal or two in the next six to 12 months?

I agree. I want to clarify that we're not actively seeking deals. However, if a strong opportunity presents itself that can provide us with good benefits and align with our goals, we will consider it. Our main priority right now is to focus on growing our bank and improving our net interest margin to achieve a more normalized level. Historically, we've experienced significant growth; when I joined the bank, we were at $40 million with about 15 employees, and by the time we went public in 1998, we reached around $300 million. Over the years, we've grown both organically and through mergers and acquisitions. Organically, our deposit growth ranged from 2% to 4% per year, while our loan growth was between 6% and 8%. It's worth noting that this growth can sometimes be challenging for analysts to observe due to loan fluctuations. Overall, the combination of M&A and organic growth has resulted in double-digit growth over the years, expanding from a $300 million bank at our IPO in '98 to nearly $40 billion today. The idea that we are not growing is simply not accurate. We are committed to our growth and will remain focused on our net interest margin. This quarter, growth has been more challenging due to a lack of loan growth, and we have refrained from acquiring deposits merely to increase costs. It's essential to understand that the Fed's intent behind raising rates this much was to slow down the economy, which is the situation we find ourselves in now. I apologize for the lengthy response, but I wanted to provide further context.

That's helpful, and that's good perspective, David. Just one on the name, given the name focus, I think Asylbek mentioned 40% fixed rate, 29% variable rate. I think you mentioned $2 billion in securities cash flows over the next year. What's that equivalent number for loans and what's the pickup given the current yield curve of what's maturing and what you're picking up when these things are repricing?

So, you're right, on security we have $2 billion. Let's assume that right now our yield is around 2% and we're going to reprice it at $4.75. That's a pickup of $2.75. That's going to be going toward positive on our net interest income. On the loan side, I think we have about $5 billion cash flow annually. So, on the fixed one, that was at 40% or $5 billion, about $2.3 billion. I think the fixed rate was less than 5%, so they're going to get repriced at 7.5% on the loans. And about 30% variable, that's still lower than our loans we're putting up right now, so there's going to be a pickup there. And floating is floating, so we're not going to get any benefit on that. So, those are items that kind of push-pull that would get us to the net interest income that we're quoting that will continue to increase combination of the securities and fixed loan and variable loans.

That's helpful. Thanks for taking my questions.

The next question is from Matt Oney with Stevens. Please go ahead.

Yes, thanks for taking the question. I guess kind of along the lines of the last comment from Asylbek, I want to ask more about the borrowings. I think there's almost $3.9 billion of borrowings at the quarter-end through that bank term funding program. Just looking for more color on what we should expect there over the next few quarters, especially in the absence of any loan growth?

Yes, on that one, I think we lost Q1 and Q2, and some of Q3 were building our cash position, that kind of more regulatory requirement we had. But I think we feel in the position that we're getting there. So, right now, I think we'll be paying down on some of the borrowings. And I know we're a little making the spread, but even if we pay down some of them, it'll be NII neutral, but it will be NIM positive. And if we expect another cut, definitely, we'll be paying down more on the borrowing. So, essentially, now with the cash flow from the bond portfolio should be going toward the paying down borrowing.

We did pay down $400 or $500 million.

$3.9 billion to $3.4 billion.

That should help our net interest margin as well.

Yes, it is going toward positive debt. So, we are all working toward paying down on borrowing a little.

Okay. I appreciate that. And then, I guess, within the margin commentary we discussed in the call, kind of exiting the year in 2025, what are you assuming as far as the borrowing position by late 2025?

I did not have that in the model.

Yes, I believe we're reducing our borrowing, as we are moving towards a stronger financial position.

Is it paying down more, I guess what you're asking is it paying down more than the $500 million?

Yes, I think it's paying down more than the $500 million.

Let's make sure we don't know that for sure. That's a big number. So, that's what we are looking towards.

And maybe just to clarify as far as the overnight liquidity position, the big bill we saw at the quarter-end over $2 billion, do you expect to maintain that for most of next year or could we see some of that overnight liquidity, could that come down a little bit from where it was at September 30th?

We were ready for all that down. That's what we used to pay down the $500 million in the borrowing.

Yes, I think the range we gave of the billion and a half to 2 billion, so that's going to fluctuate. So, we're comfortable at $1.5 billion and we're comfortable at $2 billion. So, based on situationally, we'll be somewhere in that range.

Okay, that's helpful. Thank you, guys.

The next question is from Peter Winter with D.A. Davidson. Please go ahead.

Thanks. I wanted to ask about the loan portfolio. If you could just provide maybe an update on the loan outlook and pipelines, and where you think that inning, do you think you are in terms of the First Capital runoff?

I can take that one, but I might need some help regarding First Capital. The runoff from First Capital has reached $420 million so far, and I believe we are close to finishing that process. There will be some minor amounts remaining, but nothing like the $420 million we've already experienced. This has certainly hindered our growth, Peter. Looking ahead to the end of the year, I expect growth to be in the low single digits until after the election, and possibly with some further rate cuts. This low growth may extend into the first quarter of next year. After that, if we have a pro-business environment and lower rates, I believe we can return to the mid-single-digit growth range. This is partly due to the fact that we don’t expect much runoff from the Lone Star dealer, which aligns with our strategy, unlike First Capital where the $420 million runoff was significant for a bank of that size. I think we will see positive growth starting next year. The delay I mentioned for Q4 and Q1 of next year is because if some of this growth is coming from real estate, we need to get deals approved and the necessary equity in place before we begin funding. That's why I anticipate a lag of up to six months before we see improvements beyond the low single-digit range.

I truly believe that the election will significantly impact the situation. If we can achieve a favorable regulatory environment and see a decrease in interest rates, that could positively influence our loans as well. However, I think much of the borrowing this year has been influenced by customers feeling uncertain about the future. Their hesitance, coupled with higher interest rates, has created a cautious atmosphere. If we can address these two issues, it will benefit us moving forward.

And just so I could follow up, Kevin, when you say low single-digit, are you talking quarter-to-quarter? Like, is your thinking loans held for investment are going to start to grow slightly going into the fourth quarter now?

That's annualized numbers, Peter, in the next two quarters.

Okay, got it. And then, David, if I could say something.

While we would get back into the mid-single-digit range, I would never think of us as a double-digit, kind of 10% to 12%, 15% kind of annualized loan growth company, unless the economy just was booming and taking off at levels like we haven't seen. We'll be a solid GDP to GDP-plus kind of grower.

Got it. Thanks. And then, David, just a big picture question on M&A, I mean, obviously, the focus, and you've had a great track record with M&A creating shareholder value when doing deals, but the question is, is there a preference to small fill-in deals versus maybe looking at a larger deal and a willingness to go into a contiguous market that might move the earnings needle more?

I wouldn't say that it depends on the size of the deal. I don't know that has anything to do with the decision. The real decision is, is it a good bank that really enhances our position and makes us a stronger bank, and can we have accretion, whether that's a $2 billion bank in Texas or a $20 billion bank somewhere else that really inspires it. It really depends on the people; the people are willing to stay with us, the quality of the assets. I will say this; on a bigger deal we can't take the risk of buying a bank that has more asset issues. We have to be more careful on that than we do a bank that maybe is $2 billion, not that you don't have to worry about that. But I think it really all depends down to the deal that we're looking at. I mean, the deal that we're looking at really depends on the people and where it's located? How it helps us? And so there's a lot of different things that go into the equation, but I don't know that it really boils down to either a $2 billion deal or a $20 billion deal really.

Okay. Thanks, David.

This concludes our question-and-answer session. I would like to turn the conference back over to Charlotte Rasche for any closing remarks.

Thank you. Thank you, ladies and gentlemen for taking the time to participate in our call today. We appreciate your support of our company, and we will continue to work on building shareholder value.

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