Earnings Call Transcript - TCBI Q3 2021

Operator, Operator

Ladies and gentlemen, hello, and welcome to the TCBI Q3 2021 Earnings Release Call. My name is Sarah, and I will be coordinating the call today. I will now hand over to Jamie Britton, Director of Investor Relations and Corporate Finance, to begin. Jamie, please go ahead when you are ready.

Jamie Britton, Director of Investor Relations and Corporate Finance

Good afternoon, and thank you for joining us for TCBI's Third Quarter 2021 Earnings Conference Call. I'm Jamie Britton, Director of Investor Relations. Before we begin, please be aware this call will include forward-looking statements that are based on our current expectations of future results or events. Forward-looking statements are subject to both known and unknown risks and uncertainties that could cause actual results to differ materially from these statements. Our forward-looking statements are as of the date of this call and we do not assume any obligation to update or revise them. Statements made on this call should be considered together with the cautionary statements and other information contained in today's earnings release, our most recent annual report on Form 10-K and subsequent filings with the SEC. We will refer to slides during today's presentation, which can be found along with the press release in the Investor Relations section of our website at texascapitalbank.com. Our speakers for the call today are Rob Holmes, President and CEO; and Julie Anderson, CFO. At the conclusion of our prepared remarks, our operator will facilitate a Q&A session. And now I'll turn the call over to Rob for opening remarks. Rob?

Rob Holmes, President and CEO

Thank you, Jamie. This is Rob Holmes. Thank you for joining us today to discuss what we believe was an important quarter in the evolution of our firm. With me, as Jamie said, is Julie Anderson. She's going to walk us through the quarter's detailed financial performance. But first, I would like to highlight an important milestone we achieved in the quarter. On September 1st, we shared a transformative vision for our company, one that will allow us to realize the many distinct opportunities before us, deliver a truly differentiated offering to our clients across our expanded platform and build a full service broad financial services firm that can seamlessly serve our clients through their life cycles and is centered to one of the largest and fastest growing economies in the country, Texas. On the call, we provided considerable detail on the strategy while being very transparent about the sustained investment of both time and resources we believe will be required to achieve our long term goals. Immediately following the call, we started meeting with various constituents to learn each of their specific perspectives. First, we discussed all facets of the plan in detail again at an extended company-wide town hall. Then we traveled to discuss with various types of shareholders in person, attended an industry conference and heard from many more in one-on-one meetings. The duration of the build was met with some frustration, which I certainly understand but came as no surprise to anyone of us. Importantly, the strategy also created excitement. We were greatly encouraged, not only by the support to create shareholder value by building something differentiated in the space but also by the recognition that it will take time, talent, investment and fortitude to do so. Some were even encouraged by the notion that true long-term value creation is indeed difficult. We invested the better part of three weeks to provide clarity, address concerns and importantly, also learn where we could improve the communication of the strategy. I will not go into all the details of those constructive discussions now, but I would like to address some of the high-level concerns and questions. Do loans really not matter? Of course they do. But, and I cannot stress this enough, we will no longer let loan growth alone drive our strategy. We will have a broad offering with greater value add, which will allow us to become more relevant to our clients and appeal to more prospects. To achieve our plan, the loan portfolio will absolutely grow. However, it will be an outcome of covering our markets in a smart and disciplined way versus a result of our historical strategy which was to grow the loan portfolio for growth's sake alone, not adhering to a specific go-to-market strategy by sector. Next. Are you sure now is the right time for an investment bank? Absolutely. Our clients need and use these products and services. They are simply provided by our competitors. Today, we provide a portion of the value stream to them or we leverage the trust we have built to refer them to a partnering firm for execution. We currently incur the cost of client acquisition, and in almost all cases, the investment of capital in the form of loans, precisely for the opportunity to provide these types of value-added solutions. Going forward, we want to become more relevant to our clients. We would like to control the quality of the execution from end to end and we want to capture the full value of our relationships. Importantly, the products and services we are going to provide do not reduce our risk profile. And finally, is this all you can achieve, a 1.1% ROA in 2025? The answer is, of course not. We believe the platform we are building is capable of much more. And when complete, we'll be able to deliver favorable returns through economic and market cycles. The financial targets set forth for 2025 represent an important milestone in the journey and one we're highly focused on achieving. We have competitive advantages others do not have. We are in the best markets in the country. We have had a commercial-focused background since our inception, and we have a seasoned executive leadership team now in place excited to build something differentiated. We are building an operating model aligned to our vision and grounded in our values, which requires organizing around the client journey, capitalizing on adjacencies to offer expanded products and services and establishing a culture of consistent communication, accountability and execution. We have a clear strategic direction to expand our coverage in our core C&I markets, strictly evaluate opportunities for growth and deliver higher quality, more sustainable earnings. Financial resilience is a core tenant, which could be an important strategic advantage allowing us to serve our clients and our communities through all cycles. This type of model does not deliver average results, which is why we will continue to invest in the capabilities outlined in our strategic update. The volatility in earnings, which our current model produced the past three quarters, further evidences the need for sustained, disciplined investment. We are committed to earning each of our constituents through execution. And I can assure you we will explore every opportunity to responsibly accelerate our delivery and scrutinize every quarter for opportunities to prudently manage expense and self-fund as many of our investments as possible. We are building Texas Capital Bank the right way, which leads me to the quarter's results and what I see as encouraging steps in the right direction. The benefits of a better capitalized balance sheet are now in place. There should be no more noise from issuances or redemptions. The loan portfolio continues to perform well and we are confident our new risk management practices, analytics and adherence will maintain solid credit quality on a relative basis going forward. With the correspondent lending wind down largely complete, we believe the businesses we either have or are well in the process of building are the right ones with the right risk appetite and when executed the right way will be very well received by our clients and prospects across our markets. With the addition of Anna Alvarado, our new Chief Legal Officer and Corporate Secretary, our executive leadership team continues to evolve and improve upon what I believe already favorably compares to that of any of our broader peers. Finally, the quarter underscores the importance of increasing the contribution from higher value, more stable revenue sources, increasing our focus on treasury, wealth management and investment banking will deliver significant value. The hard work of executing and delivering is still ahead of us. But we have tangible momentum and a solid foundation created over the past six months from which to build. I want to thank you for your continued interest in our firm and the feedback that you have provided. Acknowledging the importance of providing the proper visibility to our progress, we are acutely focused on determining the right external metrics and guideposts to assess our performance and when to share them. It is important to note that internally, everything we do is intentional. Our routines, cadences and focus are all done in a deliberate manner to drive specific outcomes. Our efforts and spending across the enterprise are now measured and will be improved upon perpetually. As I've mentioned, credibility is important so we will be thoughtful in our approach. With that, I'll turn it over to Julie to discuss the quarter's financials.

Julie Anderson, CFO

Thanks, Rob. Our third quarter results further substantiate our strategy is the right one and will improve our quality of earnings in the future. A core theme of our strategy is our ability to be banker-led and technology-enabled. So included in noninterest expense for the quarter is a $12 million write-off, and it's a direct outcome of the way we're now approaching technology, rationalizing the existing test stack, understanding what we have and aligning it to the businesses. We've re-underwritten all the capital at amount and whether or not the asset is going to be used as originally intended for the life cycle that was expected, and some of it was not because of our new approach, which includes ongoing development and enhancement. It was a comprehensive process between finance, our new CIO and his team, as well as the lines of business. We feel good that the balance sheet is clean now and don't expect other such write-offs in the future. Moving on, total revenue continued to be pressured and was down from the second quarter with the transition of correspondent lending and a lower level of loan fees. A few noteworthy items for the quarter I'll highlight. Loan fees, excluding PPP, decreased from second quarter levels. And as usual, we've included additional detail, which will be helpful in understanding the context and fluctuations in core loan yields as a result of the fee. These will fluctuate from quarter to quarter consistent with client and business activity. PPP fees were down in Q3 with slightly less than $5 million fees remaining to be earned. Average liquidity was down over $2.5 billion, reflective of our reduction in index deposits in the first half of the year. A focus on optimizing rates towards appropriate market levels continues but the largest move occurred in the second quarter. There will be fluctuations in the level of liquidity with growth in core LHI as well as seasonal movement in the mortgage finance portfolio. We remain comfortable with the current investment portfolio level and will continue to focus primarily on replacing runoff to maintain the current balance. No meaningful net increase in those balances is expected. Moving now to credit on Slide 8. After two consecutive quarters of negative provision, we recorded a nominal provision of $5 million in the third quarter, resulting from our view of the economic outlook remaining consistent with the second quarter coupled with net growth in LHI net of mortgage finance. As a reminder, three factors impact provision levels, our economic outlook, loan growth and loan mix. Our allowance for credit losses on loans, excluding mortgage finance, is 1.46%, consistent with last quarter. The ACL currently represents 2.5 times non-accrual loans. Overall credit trends continue to be stable and improving with another quarter of nominal net charge-offs and flat non-accrual levels. Total criticized loans were down this quarter and included payoffs at par and upgrades to pass, primarily in commercial real estate, specifically in hotel and senior housing. We continue to be cautious and conservative in our evaluation of future economic conditions, and we continually refresh that view. Average LHI, excluding mortgage finance, grew on a linked quarter basis. After netting out the reduction for PPP forgiveness, we had $210 million in net growth in loans, excluding mortgage finance. Growth in C&I was approximately $600 million, excluding the PPP paydown, and was offset by paydowns in CRE of $400 million, which included about $100 million of criticized loans. Our core loan yields dropped a bit during the quarter as pressure continues with our focus on client selection. Loan spreads continue to be fairly stable as compared to spreads last year at this time as we've improved our overall funding costs. Additionally, we saw mortgage finance volumes strengthen at the end of the second quarter and that continued into the third quarter. We're focused on relationships and using the levers available to us that we've discussed previously to continue to improve our market share. That can and can translate into lower yields but we believe the pace of the decline is stabilizing at this point. As a reminder, the fourth quarter and first quarter are typically seasonally weaker for warehouse balances. Moving now to deposits on Slide 10. We experienced some growth in noninterest-bearing deposits and a full quarter benefit from the $4 billion reduction in index deposits. We experienced modest improvement in overall funding costs. A focus on growth and core operating deposits continues and that takes time. Banking the full wallet of the right clients will improve our overall funding profile longer term and is key to our strategy. Moving now to Slides 11 and 12. Our net interest income was down from the second quarter, primarily related to lower loan fees. NIM was up slightly resulting from the deliberate reductions taken in the first half of the year with some of the higher-priced index deposits. We won't focus on trying to predict fluctuations in NIM but rather remind everyone of the different components. Warehouse yields have continued to decline, as I mentioned, but seem to be stabilizing now. All pricing decisions take into consideration each relationship’s full profitability with a focus on maximizing overall returns. Core LHI yields, net of fee fluctuations, have been fairly stable but will continue to see pressure as the mix changes. Banking the right clients with improved products and services will positively impact overall profitability and returns as it translates into an improved funding mix, but that does take time. The third quarter noninterest income decrease was consistent with the transition of correspondent lending. While certainly not significant yet, we continue to see positive trends in treasury related fees and wealth management fees. Top lines in both are encouraging as we continue to see success in our more disciplined calling efforts and continue to add talent in both areas. Net of the $12 million technology charge, noninterest expense was down $9 million from the second quarter and is reflective of the reduction in correspondent lending expenses. In the fourth quarter, we would expect $1 million to $1.5 million in remaining CL expenses and basically no CL expenses going into 2022. We continue to have success in hiring bankers as well as other targeted hires. As we disclosed on September 1st, the pace of those investments will not be linear. And while we're focused on self-funding a portion of it with a reduction in CL as well, overall corporate initiatives focused on ensuring the right allocation of resources, we won't be shortsighted in our decisions about spending. Everything that we're doing is aligned to our strategy and we'll continue to communicate the results of our efforts, including more detail as we move further into the time horizon of our longer-term plan. Now we'll turn it over to the operator for Q&A.

Operator, Operator

Our first question will come from Brady Gailey with KBW.

Brady Gailey, Analyst

My first question, I wanted to start just on the capital base. If you look at common equity Tier 1, that ratio was up again this quarter by about 20 basis points. It's now 10.7%. And if you look at the balance sheet, kind of a snapshot as of today, it looks like you do have a lot of excess capital, and the buyback would potentially make sense. But I know you guys have a big plan in front of you and maybe looking forward, you may think you don't have excess capital. So maybe just comment on your capital base, not necessarily how it looks today, but do you think you have excess capital now or do you think so the capital base is adequate for the plan that you guys rolled out on September 1st?

Rob Holmes, President and CEO

Brady, I would just point you to the long-term goals of what we said we keep CET1 at on the September 1st call of 10% or greater. And if we do what we say we're going to do. I said at the outset of this call that it will require loan growth to be successful and we need this capital to execute our strategic plan. And we're not interested in the short-term returns of a buyback because we'll have greater returns by achieving the plan in which we'll need the capital.

Brady Gailey, Analyst

And then moving on to the warehouse. It's nice to see continued strength there, and warehouse is up a little bit linked quarter. Rob, longer term, how do you think about the size of that mortgage warehouse business? I think as of the third quarter, it's about 22% of average earning assets. Is that kind of where you'd like to see it longer term or what's your thoughts on that longer term?

Rob Holmes, President and CEO

So what I would say is, let me just touch on the short term real quick, because we talked about the six levers, I think, at the end of the first quarter that we had to pull. We've done a combination of those to where we actually were losing share kind of at the beginning of the second quarter. At the end of the second quarter, we started gaining share and we've continued to gain share since then. So our strategies to battle that have actually worked and come to fruition. So I'm really excited about the warehouse itself and moving forward and our ability to execute. And as Julie said, I think the compression in yields is about done. So I foresee a really constructive path forward there. As it relates to the overall portfolio and the warehouse as a percentage of earnings or balance sheet, or assets, or whatever, I'm not going to project the future. I would like you to be less than it is today, obviously. But I just want to state clearly that we're bullish on that business. So should it be a smaller part of assets for composition of earnings? Absolutely. We said that, that's our goal. That's what the strategy does but not at the expense of the warehouse itself.

Brady Gailey, Analyst

And then lastly for me, I was a little surprised that the reserve ratio stayed flat linked quarter at 1.6%. I mean, it seems like a elevated level. I mean, if you look at criticized assets, they fell almost 20% linked quarter and now you're back with a positive provisions. So maybe just talk about the reserve, the likelihood of that releasing lower over time? And do you think you could still see a negative provision or is the provision normalizing higher from here?

Rob Holmes, President and CEO

I would say that we have a pretty conservative outlook going forward and that's the reflection here. I think I've told before others on these calls, Tim and I start from a pretty conservative position and go from there. So I don't know what our view of the future is compared to peers and others. But I would say that's a conservative view and it's reflected in the level of reserves.

Operator, Operator

The next question comes from the line of Brett Rabatin with Hovde Group.

Brett Rabatin, Analyst

I wanted to, I guess, first start with the expense base and just talk maybe about the third quarter. And I know, Julie, that it's going to be lumpy in terms of what you invest in and how that shows up quarterly. But could you maybe just talk about the strategic plan relative to the third quarter and the double-digit expense growth that you kind of laid out when you did that strategic plan. Does that still seem the case in terms of the expense growth? And maybe can you give us any color on if that's going to be more in people from here or if you think that's going to be more in systems and infrastructure? Any help on that would be appreciated.

Rob Holmes, President and CEO

So Brett, let me quickly address that before passing it over to Julie. Regarding the third quarter, keep in mind that we unveiled our strategic plan on September 1st, which was mid-quarter. We've made significant improvements to the firm, including the capital raise in the first quarter, new talent acquisitions, and the implementation of management routines and processes. However, the true execution of our strategy is currently underway. Therefore, you won't see much of the expense growth associated with the strategy in the third quarter; that will come later. I believe there was some misunderstanding, and I take responsibility for not communicating this clearly. We had suggested that we could front-load all these expenses and resolve them quickly, but that's not the reality. That's why we are indicating that the expenses will be irregular rather than consistent. For instance, I won't be able to hire much of the talent I want in the fourth quarter; most of those hires will likely happen in the first quarter. We'll have more new hires in the first quarter than in the fourth, despite ongoing recruitment efforts now. Additionally, there are many technology initiatives we need to undertake, but they won't progress linearly from quarter to quarter. We'll carry out a project, pause for a quarter, and then resume as we develop our work plan and address further needs. So, think of the strategic launch from September 1st. We have a clean balance sheet with provisions and tech write-offs in place. Our balance sheet is solid, and we have the necessary capital to implement our strategy. We're in a strong position now, and most of the strategic-related expenses will occur going forward, aside from some talent we've already hired.

Julie Anderson, CFO

Brett, I just want to add that there’s no change from what we discussed on September 1st. The base of 600 remains the same. Regarding our expectation of low double-digit growth in 2022, there has been no update since September 1st, if that provides any clarity.

Brett Rabatin, Analyst

Rob, in your prepared comments, you mentioned some concerns you would address with investors following the strategic update. I've heard that while it seems like you're dedicated to improving the company, your background in a larger bank raises some worries. Specifically, there's a concern that the expense structure typical of a JPMorgan or larger bank could somehow be replicated at Texas Capital, which wouldn't be feasible given its size. Could you address the issue of big bank expenses and how your experience aligns with your plans for Texas Capital?

Rob Holmes, President and CEO

I don't quite understand that. JPMorgan and Texas Capital are entirely different entities. I've managed a large business at JPMorgan, so I know how to handle expenses. I would encourage you to speak with our team members who work with us daily in our SBMs and QBRs. We are implementing significant changes here. Since my arrival, we have launched several expense initiatives that were previously non-existent, and we are adhering to multiple new disciplines that we weren't following before. I would say we are now much more focused on expenses than we were on January 24th of this year, and I believe others would recognize and agree with this. Therefore, there's no valid comparison between the expense structures of my previous employer and this one, and we are very focused on managing it with disciplined routines.

Julie Anderson, CFO

The only thing that I might add to that is, I think there's always a lot of focus and talk about the expense side and maybe people aren't as focused on the revenue side and the potential there. And so I think that what you're going to see is that the investments that we're making and the expenses as everyone wants to characterize them, they are going to more directly translate into improved revenue streams and you're going to see that over time.

Rob Holmes, President and CEO

Brett, I'm going to keep going a little bit. I've got a little mind stream here. Remember we said we're going to add to the tangible book every single year. So what we're saying is there's going to be a slight negative operating leverage possibly if we're successful at executing the plan by investing in the right technology product, services and talent. So the expense growth is a net positive as long as we do it smartly, so I'm highly confident that we will and that we are. But we're not going to just add expenses for the sake of growth.

Julie Anderson, CFO

Yes, absolutely.

Operator, Operator

The next question will come from the line of Brock Vandervliet.

Brock Vandervliet, Analyst

I wanted to follow up on Brady's question about the warehouse. The most common inquiry I receive is whether you rely on MBA or another forecast, and the expectation for the mortgage industry is a significant decline next year due to your success. The warehouse business is substantial enough that it might mirror the market conditions, and this comes amid the expense pressures you've mentioned as you're hiring in other areas. What measures do you have in place to potentially shield the warehouse business from some of the pressures that may arise next year?

Rob Holmes, President and CEO

Well, I'll just refer you back to some of the levers we talked about before. We can bring participations back on balance sheet. We're banking larger clients by using syndication to put participations off balance sheet, so some are coming off, some are going on. It depends on which client and the need to do which one of those alternatives. We have a pipeline of new prospects that we are onboarding literally today, several this quarter. We have additional products and services that we suspended during COVID that we're offering again without increasing risk in the warehouse. We have some funding incentives, which is working fine. And importantly, something that we're doing today is very, very different than we did in the past, frankly, is we're banking those same companies holistically. So we're going to offer treasury services with them, we'll do investment banking with them, we'll do other things than just lending. So I think all those things will help. And we look to turn the mortgage warehouse into a huge positive by doing more and expanding the walk with those clients than we have in the past when we were primarily a one-product shop.

Brock Vandervliet, Analyst

And similarly, I think one thing we all grapple with is much of the guidance is around total earnings and total earnings is related to the size of the balance sheet. Is there anything more you could share in terms of how we should think about balance sheet sizing over the course of this process?

Rob Holmes, President and CEO

The only point I would like to make is that if you refer to our plan presented on September 1st, I believe we provided more strategic details than most financial institutions. However, we cannot implement that plan without a growing balance sheet moving forward. We understand and accept that, but I prefer not to forecast balance sheet growth. It really depends on the makeup of our clients' portfolios, the sectors they represent, and the industries involved over time. As you know, some industries tend to borrow significantly while others do not. The success of our coverage across different segments will impact balance sheet growth because various borrowers have distinct borrowing behaviors. For example, the tech sector borrows less but requires substantial treasury management, while exploration and production sectors tend to borrow more. Once I have a clearer picture of our success by segment, I can provide insight into the size of our balance sheet. However, it's important to note that our model operates from the ground up. We have a segmented, bottom-up approach that informed our plan, but accurately predicting balance sheet growth over time is quite challenging for me.

Operator, Operator

The next question comes from the line of Michael Rose with Raymond James.

Michael Rose, Analyst

I thought I'd take a stab at just loan growth. I know it's a byproduct, but if we look ex PPP, it was up about 5.5% annualized this quarter. We've heard a bunch of banks including another large Texas Bank this morning talk more about green shoots and company starting to borrow a little bit here. Just given the number of producers that you're going to hire, is there any reason to think that loan growth wouldn't continue to accelerate from here just conceptually? Would just love kind of the puts and takes, broad strokes.

Rob Holmes, President and CEO

There are many factors that contribute to the overall portfolio. The PPP loans were paid down, and we experienced significant paydowns in real estate, which is the intended outcome. We issue construction loans for projects over a two-and-a-half-year timeframe, focusing on high-end developments in the right asset classes with carefully selected clients. As the loans are repaid, we issue new ones, and this cycle continues. These paydowns are quite positive, and we are pleased with them. Additionally, our commercial real estate portfolio saw paydowns that also strengthen our balance sheet. So, we are very pleased with the loan paydowns and mortgage outputs we discussed. However, loans have grown significantly, and I anticipate continued loan growth as we implement our strategy. There has also been a slight increase in utilization, albeit modest. While we are still not back to 2019 levels, we have improved from the lows of the COVID period. The noticeable loan growth is primarily driven by new clients, and I expect this trend to persist.

Michael Rose, Analyst

Maybe asked another way, what were the commitments this quarter, how much did you add commitments as well? Because obviously, line utilization is still weak.

Rob Holmes, President and CEO

I don't think we've given commitments before, have we?

Julie Anderson, CFO

No. They'll be in the 10-Q that gets filed in a couple of days. And I do think that they don’t have…

Michael Rose, Analyst

And maybe just as a follow-up question, looks like the asset sensitivity nearly doubled this quarter. You're now looking at a 6% increase or so per 100 basis points. Would you expect that to increase over time just given the actions that you're taking? And as it relates to the strategic plan, if we were to get a couple of rate hikes, which I assume, I believe they're not included in the timeline. But if we were to get a couple of rate hikes, I assume that would accelerate it. So just any sort of commentary or color would be helpful.

Julie Anderson, CFO

So Michael, I think that we are positioned well if rates move up. I think you saw us reduce earlier in the year, the end of last year, earlier this year, reduce some of the sensitivity with the actions that we took with we have more floors in place. We also increased the securities book, that has stopped. And then I think you did see, like you said, you saw sensitivity pick up some this quarter. And that's really, if you look at what we've done with the deposits, we've remixed our deposits. So some of the higher beta deposits are a smaller percentage. So that increased our sensitivity. So we would benefit from the first 100 basis points, we don't benefit as much as we would the second 100 basis points, simply because we do have floors in place on a lot of the loans. And so they've certainly served their purpose and helped us but that will dampen the first 100 basis points a little bit. But yes, we're poised well for that. And actually, in the September 1st numbers that we gave, we used the forward curve at the time.

Michael Rose, Analyst

So maybe just asked another way, is there more remixing to do on the deposit side that would drive that percentage higher in coming quarters?

Julie Anderson, CFO

I believe that most of the remixing has already been completed due to the actions we took in the second quarter. We are continuing to work on optimizing our overall strategy, particularly focusing on treasury operating deposits, which will significantly help with the remixing over time, although it will require some patience.

Operator, Operator

The next question comes from the line of Brad Milsaps with Piper Sandler.

Brad Milsaps, Analyst

Julie, just to follow up on Michael's question. I'd be curious what deposit betas you're assuming in your most updated interest rate sensitivity analysis that you disclosed in the deck?

Julie Anderson, CFO

We haven't provided any updated beta information since the September 1st presentation, and I believe it was around 60%.

Brad Milsaps, Analyst

And Rob, I know you have brought on many people for the treasury team. I'm curious about Texas Capital's current $15 billion in DDA compared to the $18 million in fees it generates each year, considering that TCBI lacks significant consumer business. Does that seem like the appropriate figure, or can you discuss the potential to enhance revenue from the existing deposit base? Or is it the case that some of those funds are less productive, making it necessary for the treasury team to establish new relationships to improve the fee structure at Texas Capital?

Rob Holmes, President and CEO

I believe we can significantly increase our wallet share with our existing clients through the TS offering we are developing, the talent we are recruiting, and our new strategy. Therefore, we do not necessarily need to acquire new clients to achieve this improvement. However, we plan to pursue both avenues. I have mentioned before that we need to enhance our relevance with our current clients as well as attract new ones. I'm equally enthusiastic about both possibilities, but it's important to note that we currently have a limited wallet share of treasury services within our existing client base, which is an issue we're focusing on addressing.

Brad Milsaps, Analyst

And just one last question about deposits. Julie, is there any possibility of reducing the rates? Some categories have actually increased a bit compared to the previous quarter. At this point, are those rates locked in contractually, or should we expect any potential decrease in the next quarter?

Rob Holmes, President and CEO

So again, I think the big shift we've already seen happen over time as we improve the overall mix with more operating deposits, you will see that come down. But again, it's over a longer period of time. The most meaningful shift happened in the second quarter and the third quarter. What I will say, though is, to give you a little color is, I would suggest that today, there is more frequent visible rigor around deposit pricing on a proactive basis by client, by segment, by appropriateness with oversight from treasury services and treasury of the bank than ever before. So I think there's a new umbrella of discipline that will reflect much better performance for deposit pricing.

Operator, Operator

The next question will come from the line of Jennifer Demba with Truist Securities.

Jennifer Demba, Analyst

First question is on the technology systems we did. Can you just talk about the takeaway from that process?

Julie Anderson, CFO

I believe the main points were that we conducted a thorough analysis. It was a detailed review of all the technology assets recorded on the balance sheet. This was a collaborative effort with the finance team, Don and his group, alongside the lines of business as we assessed how those assets relate to the various business divisions. A significant aspect of our current approach to technology is its focus on ongoing developments. We discussed this extensively on the September 1st call, where Rob highlighted that we now have developers working on projects in-house. This represents a shift from the past, where most initiatives were long-term projects with costs amortized over several years. Now, we focus on real-time improvements, particularly in client-facing areas. Essentially, we had anticipated certain assets that were necessary, but our new approach and the work being done did not support those expectations.

Rob Holmes, President and CEO

The shift in our focus is leading to a decline moving forward, particularly in the client-facing area rather than the back-end operations.

Jennifer Demba, Analyst

My second question is about loan growth, Rob. I understand this question might be a bit frustrating for you. Another frequently asked question we receive is whether this company can grow faster than its peers in Texas and nationally, considering the favorable market in Texas. Can you share your thoughts on loan growth while maintaining a conservative approach?

Rob Holmes, President and CEO

It's done for us, maybe at all, Jennifer. I appreciate you saying that. I understand everyone wants numbers and concrete figures. Recently, I learned that some competitors are using loan teasers, teaser rates, and teaser structures, which they convert into term loans over time. I have no interest in that just for the sake of loan growth. We could do things like that, which could add billions of dollars to our balance sheet in minutes, but that is not our focus. It will take us a while to develop, as we are concentrating on real high-quality growth, banking excellent companies for the long term. They start in business banking, advance to middle market, and improve into corporate banking while we maintain the relationship. I'm not looking for loan teasers to boost loan growth. However, we do expect that once we are fully established, our franchise will attract high-quality clients in Texas at a rate faster than our peers, which is what we are working towards.

Operator, Operator

The next question comes from the line of Bill Dezellem with Tieton Capital.

Bill Dezellem, Analyst

A couple of questions. First of all, I want to circle back to the capitalized software that was written off and just a little bit more clarity. So are you saying that that software will continue to be in use and it's just your expensing method is now different, so you're expensing rather than capitalizing? Or is there an insightful perspective on the no longer going down a certain path with the software because you're going to a different direction that would help us all understand more about the strategy?

Rob Holmes, President and CEO

I want to highlight that we have established a comprehensive plan for our technology spending, which details every dollar allocated to tech. Many companies believe they understand their spending, but we have a clear connection from the line of business leaders through technology to users, allowing us to track adoption and all related aspects. We have streamlined our tech stack, ensuring that every dollar spent on technology is justified. We have become more informed about the technology we choose to invest in or not. Additionally, we have transitioned from a project management approach to more hands-on coding and engineering. The core banking tech stack will remain in place, as will much of the business stack. We aim to enhance client-facing user interfaces, creating a unified experience rather than operating in isolation as we have before. Our goals are to be intuitive, elegant, simple, cost-effective, and efficient. This marks a significant shift from our previous approach and represents the value that Don has contributed. It’s a transformation of several existing platforms.

Julie Anderson, CFO

For the most part, yes.

Rob Holmes, President and CEO

So think about some of the tech assets. We had too many tech assets. We're stopping now. It's over. We're retiring them. Some were using differently and that's the result of the write-off.

Julie Anderson, CFO

Yes, we are currently transforming a tool that we hadn't planned to upgrade or change for the next few years. This means that our past plans for the next three years are no longer relevant. We are making these changes now to provide a better experience for both our employees and clients.

Bill Dezellem, Analyst

And then one additional question. Are you sensing at this point that your net interest income has now reached bottom?

Julie Anderson, CFO

So there are puts and takes on that. So one of the things that you have to remember and we mentioned this in the commentary is the seasonality with mortgage finance. So fourth quarter and first quarter are typically seasonally a little weaker in that space. As Rob already mentioned, we continue to take market share there but there is some seasonal impact that you would have to think about for the next couple of quarters.

Bill Dezellem, Analyst

So you are expecting the normal seasonality in mortgage warehouse and for that reason, you may still see a little slippage in net interest income. But if we were to exclude that seasonality, are you feeling like you are kind of at that bottom point?

Julie Anderson, CFO

I think that's fair. Again, I think you saw from the third quarter; there's definitely some ins and outs on the core side where we continue, which is exactly what we expect to have a high level of paydowns in the CRE space, but there is good traction on the C&I space.

Operator, Operator

The next question comes from the line of Matt Olney with Stephens.

Matt Olney, Analyst

Going back to the mix of earning assets, we are seeing a little firmness in the yield curve. I'm curious what the appetite is to add to the investment securities portfolio at this point.

Rob Holmes, President and CEO

I think right now, what we're doing is we're adding to maturities to keep the same amount invested but we're not racing to increase the amount whatsoever. We're on the sideline at this point. But it’s something that we talked about literally every week, if not day. We have a very, very disciplined approach as to when and what we will move into and what percentage and in what period of time. So there's nothing being done hap-hazardously. I don't think it sounds flippant whatsoever, but we are just replacing maturities at this point.

Matt Olney, Analyst

And then on the September 1st update call, you discussed achieving, I think, with positive operating leverage late in 2022. I just want to make sure this is still within your expectations.

Rob Holmes, President and CEO

That's the goal. There's no reason to think that we won't succeed. We are on track with our plan so far. We've just started, but we have made many changes that have provided us with a solid foundation over the past six months. I am aware of our hiring pipeline, our technology pipeline, and our products and service roadmap. While we are not fully there yet, we are making good progress. I hope this continues. However, it's important to note that hiring is not just about filling positions. We will be very selective in our choices. There will be a waiting period as we work towards certain milestones, such as obtaining our broker-dealer license, which we expect in December. Therefore, we won't be hiring for that business in September. We will maintain a specific order and discipline in our process. Currently, the goal is to return to normalization during the timeframe you mentioned.

Matt Olney, Analyst

And then, I guess, maybe more in the short term, Julie, we've talked about a number of things. The operating expense guidance you provided, you mentioned the correspondent, some of the remaining headwinds there that should be flushed out, you mentioned the seasonality of the warehouse that we should be thinking about. Anything else more near term we should be thinking about as we build out our forecast over the next few quarters?

Julie Anderson, CFO

No, I don't think so. I think you've covered it all.

Matt Olney, Analyst

And then the last thing was mortgage warehouse yields, I think you said those came down in the third quarter, but sounds like there were some signals that was firming up maybe at the end of the quarter or in recent weeks. And I've just been assuming that an asset class would experience incremental pressure on yields the next few quarters. What else can you share that will provide us some more confidence that yields are starting to firm in that asset class?

Rob Holmes, President and CEO

Well, we just saw the compression slow over time.

Julie Anderson, CFO

Yes, I think the pace of the decline is stabilizing. So could we see it drop a little bit in the fourth quarter? Yes, maybe. But I think the pace of the decline that you've seen the last couple of quarters, you should not see going forward.

Rob Holmes, President and CEO

Some of that is done by design too. We haven't seen a program. So some of that is us.

Operator, Operator

The next question will come from the line of Jon Arfstrom with RBC.

Jon Arfstrom, Analyst

Just a few quick ones. Rob, how does the interest in joining Texas Capital compared to what it was pre-September disclosure of your updated strategic plan? And what kind of objections or pushback do you get from people that are looking to join the company?

Rob Holmes, President and CEO

That's a great question. So I would just say a couple of things. I don't know if it's different or changed dramatically. So what happened Jon when we first got here is I joined and humbly, I got some phone calls, hey, can I come with you? I brought Tim and Nancy day one. And then they joined, they know people, they hire people, Don came, others came and they have people that they want to with them, great talent. So you get this cascading of leadership, bringing in their own talent, which goes down through the organization. And then we started a junior program. So now we're coming up the organization. But I think broadly in the middle, at the senior banker level, they came and joined pre the strategy based on the people and the credibility that we're already here in terms of payment for that year and credibility for go forward, if you will. I do think we're attracting a different type of person. So if you want to go preside over a portfolio or not really build anything, this isn't the place to be. The people that we're attracting are high energy, they're very commercial, they're team-oriented, they want to do this with a group that they like. They're excited about being part of building a bank with a focused, stated strategy with an operating committee that has clarity and confidence. And there's not a lot of others out there. But I would say that we were behind in our hiring plans before the strategy was announced. So there's no real pickup. I will say we're being discerning and we're making better progress in some areas than others. So that's kind of our own doing.

Jon Arfstrom, Analyst

And your end comment makes a lot of sense as well. Everybody in this call lives in that world, so that makes sense as well in terms of hiring. Just quickly on energy, what are your thoughts on energy lending and exposure going forward for the company?

Rob Holmes, President and CEO

So we have strict adherences to the amount of energy exposure that we'll have at any one time and those are stated in the deck, I believe, and we will abide by those. But we have a very prudent box applied to a very discerning client selection process that goes through balance sheet committee. Remember in our energy segment, I was responsible for all the non-investment grade, energy, E&P, et cetera, at JPMorgan. I know the industry. Tim certainly understands it. Curtis Anderson, our Chief Credit Officer here is new to that role since we had our problems. Our new Head of Banking is, our credit officer that covers that segment is new. We have pretty much an entirely new lineup versus the team that was faced off against that segment when we had our problems. And as Tim Storms is known for saying, I don't mind making a mistake, but what I don't want to do is lose track of exposure. So we are very focused on exposure adherence and client selection and total exposure to clients and thresholds. So I feel really, really good about where we are with that book and we're excited to bank those companies. And we are focused on ESG. We do have a process for onboarding companies and they have to have a program and be following them, and we do explore that in diligence and better.

Jon Arfstrom, Analyst

That's it for me. I'll just say on growth. I know you don't like the question, but my sense is it should be Texas economic growth plus some healthy market share gains and that will be how you're judged. Hopefully, you think that's fair. But my sense is that's where it's going to shake out, but that's just my commentary.

Operator, Operator

The next question comes from the line of Anthony Elian with JPMorgan.

Anthony Elian, Analyst

I want to dig deeper into loan growth. Julie, you mentioned in the prepared remarks, you saw about $600 million of sequential growth in C&I ex-PPP. Just from a percentage growth point of view, this looks like another strongest core C&I growth rates among banks that have reported thus far. Any particular subsegments within C&I that drove this or anything different you're doing on pricing or structure?

Julie Anderson, CFO

No, that was broad-based growth across several areas. So no particular area to highlight.

Anthony Elian, Analyst

And then my follow-up, you mentioned in the slides that you've had success in onboarding client-facing professionals. Rob, maybe for you. I know it's very early, but can you comment on just what you're seeing so far from the people that you have hired and have been onboarded?

Rob Holmes, President and CEO

I would like to mention a couple of points. In response to Julie's answer, I want to emphasize that a significant portion of our loan growth is coming from new clients. Additionally, we're actively recruiting not just new bankers but also our existing talent. It's crucial for everyone to realize that we have retained excellent talent here, and we're eager to keep it. The new hires, as with anyone who joins a new firm, have displayed enthusiasm, energy, and a strong client focus. They have expressed appreciation for the clarity in our strategy and the unified messaging from our leadership team down to the operating committee. We have seen a noticeable increase in activity over the last six months, whether due to external factors like the virus or our company culture, we are certainly more active today than we were several months ago.

Anthony Elian, Analyst

I have a follow-up question, Rob, regarding your earlier comment about experiencing new loan growth from new clients. Are these clients reaching out to you, or are you actively seeking them out? Are they coming from other regional banks or the larger money centers?

Rob Holmes, President and CEO

I would say it's broad-based. I would humbly say, no, they're not calling us. The best clients in the market are highly competed for and we are winning out their share and I would say that, that's super exciting to me because you know as well as I know the life cycle of new client acquisition is long. Even if they want to make a move, they have to have a reason to do. Is the revolver maturing? Are they doing an acquisition? Is our new CFO on-boarding treasury service? You got to identify the wallet, acquire the wallet, onboard it. That happens over a period of time and then you only ramp like 80% of what you thought you were going to get. So all this stuff takes time. So the new client acquisition happening when it is and at the pace that it did is very encouraging.

Operator, Operator

This concludes our question-and-answer session. So I'll pass it back to the President and CEO, Rob Holmes, for the closing remarks.

Rob Holmes, President and CEO

I just want to thank everybody again. I appreciate the questions. Julie does, too. We like talking about it. We're excited about it. We want to be transparent. By the way, I like loan growth. I just want to emphasize the right loan growth with the right clients. So I just want to make sure everybody understands that. I do want to do it in a very disciplined, smart way like you'd want us to do it. So thank you all very much. Look forward to talking to you again soon.

Operator, Operator

Thank you for your participation in TCBI's Q3 2021 Earnings Conference Call. Please direct requests for follow-up questions to Jamie Britton at jamie.britton@texascapitalbank.com. You may now disconnect.