LegacyTexas Financial Group, Inc. - FORM 10-Q

Attached files

file	filename
EX-31.1 - EXHIBIT 31.1 - LegacyTexas Financial Group, Inc.	exhibit31120170630.htm
EX-32.0 - EXHIBIT 32.0 - LegacyTexas Financial Group, Inc.	exhibit32020170630.htm
EX-31.2 - EXHIBIT 31.2 - LegacyTexas Financial Group, Inc.	exhibit31220170630.htm
EX-3.2 - EXHIBIT 3.2 - LegacyTexas Financial Group, Inc.	exhibit3220170630.htm

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

(Mark One)



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

For the quarterly period ended June 30, 2017



o		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 001-34737

LEGACYTEXAS FINANCIAL GROUP, INC.

(Exact name of registrant as specified in its charter)



Maryland				27-2176993
(State or other jurisdiction of incorporation or organization)				(I.R.S. Employer Identification No.)

5851 Legacy Circle, Plano, Texas				75024
(Address of Principal Executive Offices)				(Zip Code)

Registrant’s telephone number, including area code: (972) 578-5000

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 x No o

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

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act. (Check one):



Large accelerated filer x		Accelerated filer o
Non-accelerated filer o		Smaller reporting company o
(Do not check if a smaller reporting company)		Emerging growth company o

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o

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

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



Class: Common Stock		Shares Outstanding as of July 24, 2017:
		48,009,379

LEGACYTEXAS FINANCIAL GROUP, INC.

FORM 10-Q

June 30, 2017

INDEX



PART I -- FINANCIAL INFORMATION	3
Item 1. Financial Statements:	3
Consolidated Balance Sheets at June 30, 2017 (unaudited) and December 31, 2016	3
Unaudited Consolidated Statements of Income for the three and six months ended June 30, 2017 and 2016	4
Unaudited Consolidated Statements of Comprehensive Income for the three and six months ended June 30, 2017 and 2016	5
Unaudited Consolidated Statements of Changes in Shareholders’ Equity for the six months ended June 30, 2017 and 2016	6
Unaudited Consolidated Statements of Cash Flows for the six months ended June 30, 2017 and 2016	7
Condensed Notes to Unaudited Consolidated Interim Financial Statements	9

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations	35

Item 3. Quantitative and Qualitative Disclosures about Market Risk	56

Item 4. Controls and Procedures	59

PART II—OTHER INFORMATION	60

Item 1. Legal Proceedings	60

Item 1.A. Risk Factors	60

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds	60

Item 3. Defaults Upon Senior Securities	60

Item 4. Mine Safety Disclosures	60

Item 5. Other Information	60

Item 6. Exhibits	61

SIGNATURE PAGE	63

EXHIBIT INDEX	64

PART 1 - FINANCIAL INFORMATION Item 1. Financial Statements

LEGACYTEXAS FINANCIAL GROUP, INC.

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share and per share data)



	June 30, 2017			December 31, 2016
ASSETS	(unaudited)
Cash and due from financial institutions	$	61,989		$	59,823
Short-term interest-bearing deposits in other financial institutions	256,251			229,389
Total cash and cash equivalents	318,240			289,212
Securities available for sale, at fair value	397,957			354,515
Securities held to maturity (fair value: June 30, 2017 — $194,862 December 31, 2016— $212,981)	191,578			210,387
Loans held for sale, at fair value	19,374			21,279
Loans held for investment:
Loans held for investment (net of allowance for loan losses of $75,091 at June 30, 2017 and $64,576 at December 31, 2016)	6,338,617			5,998,596
Loans held for investment - Warehouse Purchase Program	1,256,742			1,055,341
Total loans held for investment	7,595,359			7,053,937
Federal Home Loan Bank ("FHLB") stock and other restricted securities, at cost	56,618			43,266
Bank-owned life insurance	57,078			56,477
Premises and equipment, net	71,068			74,226
Goodwill	178,559			178,559
Other assets	84,544			80,397
Total assets	$	8,970,375		$	8,362,255
LIABILITIES AND SHAREHOLDERS’ EQUITY
Deposits
Non-interest-bearing demand	$	1,522,856		$	1,383,951
Interest-bearing demand	893,544			903,314
Savings and money market	2,685,627			2,710,307
Time	1,460,479			1,367,904
Total deposits	6,562,506			6,365,476
FHLB advances	1,151,682			833,682
Repurchase agreements	73,433			86,691
Subordinated debt	134,277			134,032
Accrued expenses and other liabilities	123,194			57,009
Total liabilities	8,045,092			7,476,890
Commitments and contingent liabilities (See Note 9)
Shareholders’ equity
Preferred stock, $.01 par value; 10,000,000 shares authorized; 0 shares issued — June 30, 2017 and December 31, 2016	—			—
Common stock, $.01 par value; 90,000,000 shares authorized; 48,009,379 shares issued — June 30, 2017 and 47,876,198 shares issued December 31, 2016	480			479
Additional paid-in capital	595,730			589,408
Retained earnings	342,384			310,641
Accumulated other comprehensive income (loss), net	(1,125		)	(2,713		)
Unearned Employee Stock Ownership Plan (ESOP) shares; 1,218,570 shares at June 30, 2017 and 1,245,046 shares at December 31, 2016	(12,186		)	(12,450		)
Total shareholders’ equity	925,283			885,365
Total liabilities and shareholders’ equity	$	8,970,375		$	8,362,255
See accompanying notes to consolidated financial statements.

LEGACYTEXAS FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENTS OF INCOME

(unaudited)

(Dollars in thousands, except per share data)



	Three Months Ended June 30,					Six Months Ended June 30,
	2017			2016		2017			2016
Interest and dividend income
Loans, including fees	$	83,917		$	73,376	$	167,020		$	142,182
Taxable securities	2,725			2,359		5,287			4,671
Nontaxable securities	739			759		1,494			1,533
Interest-bearing deposits in other financial institutions	955			392		1,687			722
FHLB and Federal Reserve Bank stock and other	411			450		795			836
	88,747			77,336		176,283			149,944
Interest expense
Deposits	8,359			4,422		15,469			8,544
FHLB advances	2,427			2,103		4,059			3,776
Repurchase agreements and other borrowings	2,241			1,457		4,487			2,919
	13,027			7,982		24,015			15,239
Net interest income	75,720			69,354		152,268			134,705
Provision for credit losses	6,255			6,800		28,556			15,600
Net interest income after provision for credit losses	69,465			62,554		123,712			119,105
Non-interest income
Service charges and other fees	9,896			8,927		18,327			17,108
Net gain on sale of mortgage loans held for sale	2,156			2,250		3,784			3,830
Bank-owned life insurance income	440			441		862			867
Net gain (loss) on securities transactions	—			65		(19		)	65
Gain on sale and disposition of assets	157			1,186		1,556			5,258
Other	(324		)	853		(55		)	1,249
	12,325			13,722		24,455			28,377
Non-interest expense
Salaries and employee benefits	23,391			22,867		47,835			45,204
Advertising	1,179			1,035		1,996			2,071
Occupancy and equipment	3,656			3,779		7,310			7,470
Outside professional services	1,203			1,227		2,359			2,043
Regulatory assessments	1,271			1,330		2,256			2,463
Data processing	3,877			3,664		7,772			6,994
Office operations	2,404			2,541		4,680			5,009
Other	2,608			3,170		5,133			5,901
	39,589			39,613		79,341			77,155
Income before income tax expense	42,201			36,663		68,826			70,327
Income tax expense	14,266			13,446		22,701			25,028
Net income	$	27,935		$	23,217	$	46,125		$	45,299

Earnings per share:
Basic	$	0.60		$	0.50	$	0.99		$	0.98
Diluted	$	0.59		$	0.50	$	0.98		$	0.97
Dividends declared per share	$	0.15		$	0.14	$	0.30		$	0.28

See accompanying notes to consolidated financial statements.

LEGACYTEXAS FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(unaudited)

(Dollars in thousands)



	Three Months Ended						Six Months Ended
	June 30,						June 30,
	2017			2016			2017			2016
Net income	$	27,935		$	23,217		$	46,125		$	45,299
Change in unrealized gains on securities available for sale	1,427			1,725			2,426			4,764
Reclassification of amount realized through securities transactions	—			(65		)	19			(65		)
Tax effect	(501		)	(583		)	(857		)	(1,648		)
Other comprehensive income, net of tax	926			1,077			1,588			3,051
Comprehensive income	$	28,861		$	24,294		$	47,713		$	48,350
See accompanying notes to consolidated financial statements.

LEGACYTEXAS FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY

(unaudited)

(Dollars in thousands, except share and per share data)



For the six months ended June 30, 2016	Common Stock		Additional Paid-In Capital		Retained Earnings			Accumulated Other Comprehensive Income, Net			Unearned ESOP Shares			Total Shareholders’ Equity
Balance at January 1, 2016	$	476	$	576,753	$	240,496		$	(133	)	$	(13,516	)	$	804,076
Net income	—		—		45,299			—			—			45,299
Other comprehensive income, net of tax	—		—		—			3,051			—			3,051
Dividends declared ($0.28 per share)	—		—		(13,341		)	—			—			(13,341		)
ESOP shares earned, (71,447 shares)	—		982		—			—			586			1,568
Share-based compensation expense	—		2,223		—			—			—			2,223
Activity in employee stock plans, (24,614 shares)	—		428		—			—			—			428
Balance at June 30, 2016	$	476	$	580,386	$	272,454		$	2,918		$	(12,930	)	$	843,304
For the six months ended June 30, 2017
Balance at January 1, 2017	$	479	$	589,408	$	310,641		$	(2,713	)	$	(12,450	)	$	885,365
Net income	—		—		46,125			—			—			46,125
Other comprehensive income, net of tax	—		—		—			1,588			—			1,588
Dividends declared ($0.30 per share)	—		—		(14,382		)	—			—			(14,382		)
ESOP shares earned (26,476 shares)	—		781		—			—			264			1,045
Share-based compensation expense	—		3,405		—			—			—			3,405
Activity in employee stock plans (133,181 shares)	1		2,136		—			—			—			2,137
Balance at June 30, 2017	$	480	$	595,730	$	342,384		$	(1,125	)	$	(12,186	)	$	925,283

See accompanying notes to consolidated financial statements.

LEGACYTEXAS FINANCIAL GROUP, INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(unaudited)

(Dollars in thousands)



	Six Months Ended June 30,
	2017			2016
Cash flows from operating activities
Net income	$	46,125		$	45,299
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for credit losses	28,556			15,600
Depreciation and amortization	3,603			3,506
Deferred tax benefit	(3,973		)	(5,063		)
Premium amortization and accretion of securities, net	2,177			2,082
Accretion related to acquired loans	(1,817		)	(2,532		)
Net (gain) loss on securities transactions	19			(65		)
ESOP compensation expense	1,045			1,568
Share-based compensation expense	3,405			2,223
Excess tax benefit on vesting of stock awards	1,177			—
Net gain on loans held for sale	(3,784		)	(3,830		)
Loans originated or purchased for sale	(96,238		)	(100,690		)
Proceeds from sale of loans held for sale	101,927			106,303
FHLB stock dividends	(227		)	(238		)
Bank-owned life insurance income	(862		)	(867		)
(Gain) on sale and disposition of repossessed assets, premises and equipment	(1,373		)	(3,937		)
Disposition of insurance subsidiary goodwill upon sale of subsidiary operations	—			2,217
Net change in deferred loan fees/costs	(6,700		)	(4,259		)
Net change in accrued interest receivable	187			(2,448		)
Net change in other assets	1,110			(4,974		)
Net change in other liabilities	65,589			25,107
Net cash provided by operating activities	139,946			75,002
Cash flows from investing activities
Available-for-sale securities:
Maturities, prepayments and calls	1,185,797			228,710
Purchases	(1,228,519		)	(246,485		)
Proceeds from sale of AFS securities	—			7,700
Held-to-maturity securities:
Maturities, prepayments and calls	18,338			21,177
Purchases	—			(5,774		)
Originations of Warehouse Purchase Program loans	(10,232,407		)	(8,729,890		)
Proceeds from pay-offs of Warehouse Purchase Program loans	10,031,006			8,793,219
Net change in loans held for investment, excluding Warehouse Purchase Program loans	(365,656		)	(635,097		)
Redemption (purchase) of FHLB and Federal Reserve Bank stock and other	(13,125		)	1,066
Purchases of premises and equipment	(1,278		)	(2,278		)
Proceeds from sale of assets	5,399			13,470
Net cash (used in) investing activities	(600,445		)	(554,182		)

CONSOLIDATED STATEMENTS OF CASH FLOWS (Continued) (Dollars in thousands)

	Six Months Ended June 30,
	2017			2016
Cash flows from financing activities
Net change in deposits	197,030			395,971
Proceeds from FHLB advances	325,000			650,000
Repayments on FHLB advances	(7,000		)	(756,567		)
Proceeds from borrowings	—			24,894
Repayments of borrowings	(13,258		)	(15,220		)
Payment of dividends	(14,382		)	(13,341		)
Activity in employee stock plans	2,137			428
Net cash provided by financing activities	489,527			286,165
Net change in cash and cash equivalents	29,028			(193,015		)
Beginning cash and cash equivalents	289,212			615,639
Ending cash and cash equivalents	$	318,240		$	422,624
Supplemental noncash disclosures:
Transfers from loans to other real estate owned	$	4,046		$	10,590
See accompanying notes to consolidated financial statements.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 1 - Basis of Financial Statement Presentation

The accompanying consolidated interim financial statements of LegacyTexas Financial Group, Inc. (the “Company”) have been prepared in accordance with U.S. generally accepted accounting principles ("US GAAP") and with the rules and regulations of the Securities and Exchange Commission for interim financial reporting. Accordingly, they do not include all of the information and footnotes required for complete financial statements. In the opinion of management, all normal and recurring adjustments which are considered necessary to fairly present the results for the interim periods presented have been included. Certain items in prior periods were reclassified to conform to the current presentation. These statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2016 (“2016 Form 10-K”). Interim results are not necessarily indicative of results for a full year.

In preparing the financial statements, management is required to make estimates and assumptions that affect the recorded amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses for the period. Actual results could differ from those estimates. For further information with respect to significant accounting policies followed by the Company in preparation of its consolidated financial statements, refer to the 2016 Form 10-K.

The accompanying Unaudited Consolidated Interim Financial Statements include the accounts of the Company, whose business primarily consists of the operations of its wholly owned subsidiary, LegacyTexas Bank (the “Bank”). All significant intercompany transactions and balances are eliminated in consolidation.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 2 - Earnings Per Common Share

Basic earnings per common share is computed by dividing net income (which has been adjusted for distributed and undistributed earnings to participating securities) by the weighted-average number of common shares outstanding for the period, reduced for average unallocated ESOP shares and average unvested restricted stock awards. Unvested restricted stock awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method described in Accounting Standards Codification ("ASC") 260-10-45-60B. Diluted earnings per common share reflects the potential dilution that could occur if securities or other contracts to issue common stock (such as stock awards and options) were exercised or converted to common stock, or resulted in the issuance of common stock that then shared in the Company’s earnings. Diluted earnings per common share is computed by dividing net income by the weighted-average number of common shares outstanding for the period increased for the dilutive effect of unexercised stock options and unvested restricted stock awards. The dilutive effect of the unexercised stock options and unvested restricted stock awards is calculated under the treasury stock method utilizing the average market value of the Company’s stock for the period. A reconciliation of the numerator and denominator of the basic and diluted earnings per common share computation for the three and six months ended June 30, 2017 and 2016 is as follows:



	Three Months Ended June 30,						Six Months Ended June 30,
	2017			2016			2017			2016
Basic earnings per share:
Numerator:
Net income	$	27,935		$	23,217		$	46,125		$	45,299
Distributed and undistributed earnings to participating securities	(98		)	(103		)	(181		)	(232		)
Income available to common shareholders	$	27,837		$	23,114		$	45,944		$	45,067
Denominator:
Weighted average common shares outstanding	47,986,979			47,658,896			47,942,269			47,652,361
Less: Average unallocated ESOP shares	(1,227,250		)	(1,317,433		)	(1,233,831		)	(1,335,294		)
Average unvested restricted stock awards	(163,262		)	(205,464		)	(182,981		)	(236,942		)
Average shares for basic earnings per share	46,596,467			46,135,999			46,525,457			46,080,125
Basic earnings per common share	$	0.60		$	0.50		$	0.99		$	0.98
Diluted earnings per share:
Numerator:
Income available to common shareholders	$	27,837		$	23,114		$	45,944		$	45,067
Denominator:
Average shares for basic earnings per share	46,596,467			46,135,999			46,525,457			46,080,125
Dilutive effect of share-based compensation plan	409,087			216,142			459,578			163,745
Average shares for diluted earnings per share	47,005,554			46,352,141			46,985,035			46,243,870
Diluted earnings per common share	$	0.59		$	0.50		$	0.98		$	0.97
Share awards excluded in the computation of diluted earnings per share because the exercise price was greater than the common stock average market price and were therefore antidilutive	511,375			830,600			523,758			946,166

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 3 - Securities

The amortized cost, related gross unrealized gains and losses recognized in accumulated other comprehensive income (loss), and the fair value of securities available for sale ("AFS") were as follows:



June 30, 2017	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Agency residential mortgage-backed securities ¹	$	209,224	$	531	$	1,379	$	208,376
Agency commercial mortgage-backed securities ¹	9,391		—		22		9,369
Agency residential collateralized mortgage obligations ¹	141,650		158		1,195		140,613
US government and agency securities	1,867		110		—		1,977
Municipal bonds	37,557		341		276		37,622
Total securities	$	399,689	$	1,140	$	2,872	$	397,957
December 31, 2016
Agency residential mortgage-backed securities ¹	$	220,744	$	635	$	2,828	$	218,551
Agency commercial mortgage-backed securities ¹	9,422		—		75		9,347
Agency residential collateralized mortgage obligations ¹	87,959		22		1,452		86,529
US government and agency securities	2,150		101		—		2,251
Municipal bonds	38,417		47		627		37,837
Total securities	$	358,692	$	805	$	4,982	$	354,515


¹	Mortgage-backed securities and collateralized mortgage obligations are issued and/or guaranteed by U.S. government agencies or U.S. government-sponsored enterprises.

The amortized cost (carrying amount), unrealized gains and losses, and fair value of securities held to maturity ("HTM") were as follows:



June 30, 2017	Amortized Cost		Gross Unrealized Gains		Gross Unrealized Losses		Fair Value
Agency residential mortgage-backed securities ¹	$	66,033	$	962	$	435	$	66,560
Agency commercial mortgage-backed securities ¹	27,731		939		49		28,621
Agency residential collateralized mortgage obligations ¹	33,688		533		41		34,180
Municipal bonds	64,126		1,626		251		65,501
Total securities	$	191,578	$	4,060	$	776	$	194,862
December 31, 2016
Agency residential mortgage-backed securities ¹	$	74,881	$	1,147	$	817	$	75,211
Agency commercial mortgage-backed securities ¹	28,023		836		166		28,693
Agency residential collateralized mortgage obligations ¹	40,707		697		33		41,371
Municipal bonds	66,776		1,635		705		67,706
Total securities	$	210,387	$	4,315	$	1,721	$	212,981


¹	Mortgage-backed securities and collateralized mortgage obligations are issued and/or guaranteed by U.S. government agencies or U.S. government-sponsored enterprises.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

The amortized cost (carrying amount) and fair value of held to maturity debt securities and the fair value of available for sale debt securities at June 30, 2017 by contractual maturity are set forth in the table below. Securities with contractual payments not due at a single maturity date, including mortgage-backed securities and collateralized mortgage obligations, are shown separately.



	HTM				AFS
	Amortized Cost		Fair Value		Fair Value
Due in one year or less	$	1,791	$	1,806	$	2,807
Due after one to five years	8,760		9,068		12,885
Due after five to ten years	46,423		47,565		16,688
Due after ten years	7,152		7,062		7,219
Agency residential mortgage-backed securities	66,033		66,560		208,376
Agency commercial mortgage-backed securities	27,731		28,621		9,369
Agency residential collateralized mortgage obligations	33,688		34,180		140,613
Total	$	191,578	$	194,862	$	397,957

Securities with a carrying value of $264,968 and $224,674 at June 30, 2017 and December 31, 2016, respectively, were pledged to secure public deposits, repurchase agreements and for other purposes required or permitted by law.

Sales activity of securities during the three and six months ended June 30, 2017 or 2016 was as follows. All securities sold were classified as available for sale.



	Three Months Ended June 30,				Six Months Ended June 30,
	2017		2016		2017		2016
Proceeds	$	—	$	7,700	$	—	$	7,700
Gross gains	—		72		—		72
Gross losses	—		7		—		7
Tax expense of securities gains/losses	—		23		—		23

Securities with unrealized losses at June 30, 2017 and December 31, 2016, aggregated by investment category and length of time that individual securities have been in a continuous unrealized loss position, were as follows:



AFS	Less than 12 Months				12 Months or More				Total
June 30, 2017	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
Agency residential mortgage-backed securities ¹	$	151,493	$	1,299	$	6,457	$	80	$	157,950	$	1,379
Agency commercial mortgage-backed securities ¹	9,370		22		—		—		9,370		22
Agency residential collateralized mortgage obligations ¹	105,592		1,154		2,477		41		108,069		1,195
Municipal bonds	7,578		96		4,243		180		11,821		276
Total temporarily impaired	$	274,033	$	2,571	$	13,177	$	301	$	287,210	$	2,872
December 31, 2016
Agency residential mortgage-backed securities ¹	$	167,503	$	2,770	$	7,516	$	58	$	175,019	$	2,828
Agency commercial mortgage-backed securities¹	9,347		75		—		—		9,347		75
Agency residential collateralized mortgage obligations ¹	72,822		1,420		2,649		32		75,471		1,452
Municipal bonds	26,911		512		3,412		115		30,323		627
Total temporarily impaired	$	276,583	$	4,777	$	13,577	$	205	$	290,160	$	4,982

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CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)



HTM	Less than 12 Months				12 Months or More				Total
June 30, 2017	Fair Value		Unrealized Loss		Fair Value		Unrealized Loss		Fair Value		Unrealized Loss
Agency residential mortgage-backed securities ¹	$	34,676	$	435	$	—	$	—	$	34,676	$	435
Agency commercial mortgage-backed securities¹	3,552		49		—		—		3,552		49
Agency residential collateralized mortgage obligations ¹	2,661		16		1,279		25		3,940		41
Municipal bonds	13,549		208		1,322		43		14,871		251
Total temporarily impaired	$	54,438	$	708	$	2,601	$	68	$	57,039	$	776
December 31, 2016
Agency residential mortgage-backed securities ¹	$	41,375	$	817	$	—	$	—	$	41,375	$	817
Agency commercial mortgage-backed securities¹	7,273		166		—		—		7,273		166
Agency residential collateralized mortgage obligations ¹	6,322		11		1,451		22		7,773		33
Municipal bonds	19,362		658		1,045		47		20,407		705
Total temporarily impaired	$	74,332	$	1,652	$	2,496	$	69	$	76,828	$	1,721


¹	Mortgage-backed securities and collateralized mortgage obligations are issued and/or guaranteed by U.S. government agencies or U.S. government-sponsored enterprises.

Other-than-Temporary Impairment

In determining other-than-temporary impairment for debt securities, management considers many factors, including: (1) the length of time and the extent to which the fair value has been less than amortized cost; (2) the financial condition and near-term prospects of the issuer; (3) whether the market decline was affected by macroeconomic conditions; and (4) whether the Company has the intent and ability to retain its investment in the issuer for a period of time sufficient to allow for any anticipated recovery in fair value.

As of June 30, 2017, 193 securities had unrealized losses, 24 of which had been in an unrealized loss position for over 12 months at June 30, 2017. The Company does not believe these unrealized losses are other-than-temporary and, at June 30, 2017, believes that full recovery of the amortized cost basis is more likely than not. All principal and interest payments are being received on time and in full.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 4 - Loans

Loans consist of the following:



	June 30, 2017			December 31, 2016
Loans held for sale, at fair value	$	19,374		$	21,279

Loans held for investment:
Commercial real estate	$	2,817,443		$	2,670,455
Commercial and industrial	2,119,678			1,971,160
Construction and land	270,050			294,894
Consumer real estate	1,154,353			1,074,923
Other consumer	47,735			53,991
Gross loans held for investment, excluding Warehouse Purchase Program	6,409,259			6,065,423
Net of:
Deferred costs (fees) and discounts, net	4,449			(2,251		)
Allowance for loan losses	(75,091		)	(64,576		)
Net loans held for investment, excluding Warehouse Purchase Program	6,338,617			5,998,596
Warehouse Purchase Program	1,256,742			1,055,341
Total loans held for investment	$	7,595,359		$	7,053,937

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Activity in the allowance for loan losses for the three and six months ended June 30, 2017 and 2016, segregated by portfolio segment and evaluation for impairment, is set forth below. The below activity does not include Warehouse Purchase Program loans, which are collectively evaluated for impairment and are purchased under several contractual requirements, providing safeguards to the Company. To date, the Company has not experienced a loss on these loans and no allowance for loan losses has been allocated to them. At June 30, 2017 and 2016, the allowance for loan impairment related to purchased credit impaired ("PCI") loans totaled $232 and $148, respectively.



For the three months ended June 30, 2017	Commercial Real Estate			Commercial and Industrial			Construction and Land			Consumer Real Estate			Other Consumer			Total
Allowance for loan losses:
Beginning balance	$	19,358		$	40,886		$	4,559		$	4,385		$	1,468		$	70,656
Charge-offs	—			(1,556		)	—			(17		)	(587		)	(2,160		)
Recoveries	—			206			75			12			102			395
Provision expense (benefit)	764			5,625			(578		)	133			256			6,200
Ending balance	$	20,122		$	45,161		$	4,056		$	4,513		$	1,239		$	75,091
For the six months ended June 30, 2017
Allowance for loan losses:
Beginning balance	$	18,303		$	35,464		$	5,075		$	4,484		$	1,250		$	64,576
Charge-offs	(16		)	(18,086		)	(418		)	(52		)	(834		)	(19,406		)
Recoveries	205			246			75			24			471			1,021
Provision expense (benefit)	1,630			27,537			(676		)	57			352			28,900
Ending balance	$	20,122		$	45,161		$	4,056		$	4,513		$	1,239		$	75,091
Allowance ending balance:
Individually evaluated for impairment	$	51		$	14,428		$	—		$	132		$	44		$	14,655
Collectively evaluated for impairment	20,071			30,733			4,056			4,381			1,195			60,436
Loans:
Individually evaluated for impairment	4,201			87,599			—			2,556			55			94,411
Collectively evaluated for impairment	2,807,729			2,031,883			270,050			1,150,911			47,467			6,308,040
PCI loans	5,513			196			—			886			213			6,808
Ending balance	$	2,817,443		$	2,119,678		$	270,050		$	1,154,353		$	47,735		$	6,409,259

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CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)



For the three months ended June 30, 2016	Commercial Real Estate		Commercial and Industrial			Construction and Land		Consumer Real Estate			Other Consumer			Total
Allowance for loan losses:
Beginning balance	$	15,274	$	31,431		$	3,430	$	4,252		$	1,097		$	55,484
Charge-offs	—		(82		)	—		(70		)	(193		)	(345		)
Recoveries	3		178			—		9			65			255
Provision expense	889		4,852			520		398			141			6,800
Ending balance	$	16,166	$	36,379		$	3,950	$	4,589		$	1,110		$	62,194
For the six months ended June 30, 2016
Allowance for loan losses:
Beginning balance	$	14,123	$	24,975		$	3,013	$	3,992		$	990		$	47,093
Charge-offs	—		(465		)	—		(70		)	(391		)	(926		)
Recoveries	9		214			—		52			152			427
Provision expense	2,034		11,655			937		615			359			15,600
Ending balance	$	16,166	$	36,379		$	3,950	$	4,589		$	1,110		$	62,194
Allowance ending balance:
Individually evaluated for impairment	$	355	$	8,250		$	—	$	109		$	55		$	8,769
Collectively evaluated for impairment	15,811		28,129			3,950		4,480			1,055			53,425
Loans:
Individually evaluated for impairment	1,341		31,370			27		4,924			90			37,752
Collectively evaluated for impairment	2,512,377		1,750,814			281,909		1,041,004			61,060			5,647,164
PCI loans	6,713		279			—		866			273			8,131
Ending balance	$	2,520,431	$	1,782,463		$	281,936	$	1,046,794		$	61,423		$	5,693,047

The allowance for loan losses and related provision expense are susceptible to change if the credit quality of our loan portfolio changes, which is evidenced by many factors, including but not limited to charge-offs and non-performing loan trends. Generally, consumer real estate lending has a lower credit risk profile compared to other consumer lending (such as automobile loans). Commercial real estate and commercial and industrial lending, however, can have higher risk profiles than consumer loans due to these loans being larger in amount and non-homogeneous in structure and term. Changes in economic conditions, the mix and size of the loan portfolio and individual borrower conditions can dramatically impact our level of allowance for loan losses in relatively short periods of time.

The allowance for loan losses is maintained to cover incurred losses that are estimated in accordance with US GAAP. It is our estimate of credit losses inherent in our loan portfolio at each balance sheet date. Our methodology for analyzing the allowance for loan losses consists of general and specific components. For the general component, we stratify the loan portfolio into homogeneous groups of loans that possess similar loss potential characteristics and apply a loss ratio to these groups of loans to estimate the credit losses in the loan portfolio. We use both historical loss ratios and qualitative loss factors assigned to major loan collateral types to establish general component loss allocations, inclusive of estimated loss emergence periods. Qualitative loss factors are based on management's judgment of company, market, industry or business specific data and external economic indicators, which are not yet reflected in the historical loss ratios, and that could impact the Company's specific loan portfolios. The Allowance for Loan Loss Committee sets and adjusts qualitative loss factors by regularly reviewing changes in underlying loan composition and the seasonality of specific portfolios. The Allowance for Loan Loss Committee also considers credit quality and trends relating to delinquency, non-performing and adversely rated loans within the Company's loan portfolio when evaluating qualitative loss factors. Additionally, the Allowance for Loan Loss Committee adjusts qualitative factors to account for the potential impact of external economic factors, including the unemployment rate, vacancy and capitalization rates and other pertinent economic data specific to our primary market area and lending portfolios.

For the specific component, the allowance for loan losses includes loans where management has concerns about the borrower's ability to repay and on individually analyzed loans found to be impaired. Management evaluates current information and events regarding a borrower's ability to repay its obligations and considers a loan to be impaired when the ultimate collectability of amounts due, according to the contractual terms of the loan agreement, is in doubt. If an impaired loan is collateral-dependent,

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CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

the fair value of the collateral, less the estimated cost to sell, is used to determine the amount of impairment. If an impaired loan is not collateral-dependent, estimated discounted cash flows are used to determine the amount of impairment, if any. For impaired loans, the amount of the impairment can be adjusted, based on current data, until such time as the actual basis is established by acquisition of the collateral or until the basis is collected. Impairment losses are reflected in the allowance for loan losses through a charge to the provision for credit losses. Subsequent recoveries are credited to the allowance for loan losses. Cash receipts for accruing loans are applied to principal and interest under the contractual terms of the loan agreement. Cash receipts on impaired loans for which the accrual of interest has been discontinued are applied first to principal.

Large groups of smaller-balance homogeneous loans are collectively evaluated for impairment. As a result, the Company does not separately identify consumer real estate loans less than $417 or individual consumer non-real estate secured loans for impairment disclosures. The Company considers these loans to be homogeneous in nature due to the smaller dollar amount and the similar underwriting criteria.

Changes in the allowance for off-balance sheet credit losses on lending-related commitments and guarantees on credit card debt, included in "accrued expenses and other liabilities" on the consolidated balance sheets, are summarized in the following table. Please see Note 9 - Commitments and Contingent Liabilities for more information.



	Three Months ended June 30, 2017		Six Months ended June 30, 2017
Balance at beginning of period	$	1,174	$	1,573
Charge-offs on lending-related commitments	—		—
Provision for credit losses on lending-related commitments	55		(344		)
Balance at end of period	$	1,229	$	1,229

Impaired loans at June 30, 2017 and December 31, 2016, were as follows¹:



June 30, 2017	Unpaid Contractual Principal Balance		Recorded Investment With No Allowance		Recorded Investment With Allowance		Total Recorded Investment		Related Allowance
Commercial real estate	$	4,386	$	4,201	$	—	$	4,201	$	—
Commercial and industrial	90,194		47,938		39,661		87,599		14,390
Consumer real estate	3,054		2,458		98		2,556		11
Other consumer	89		24		31		55		22
Total	$	97,723	$	54,621	$	39,790	$	94,411	$	14,423
December 31, 2016
Commercial real estate	$	5,388	$	4,429	$	766	$	5,195	$	272
Commercial and industrial	87,756		73,377		13,287		86,664		4,519
Construction and land	11,384		11,385		—		11,385		—
Consumer real estate	3,766		3,290		10		3,300		10
Other consumer	107		33		42		75		30
Total	$	108,401	$	92,514	$	14,105	$	106,619	$	4,831


¹	No Warehouse Purchase Program loans were impaired at June 30, 2017 or December 31, 2016. Loans reported do not include PCI loans.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Income on impaired loans for the three and six months ended June 30, 2017 and 2016, was as follows¹:



June 30, 2017	Current Quarter Average Recorded Investment		Year-to-Date Average Recorded Investment		Current Quarter Interest Income Recognized		Year-to-Date Interest Income Recognized
Commercial real estate	$	4,269	$	4,658	$	2	$	4
Commercial and industrial	91,039		88,852		—		—
Construction and land	77		4,222		—		—
Consumer real estate	2,708		2,888		3		6
Other consumer	741		454		1		2
Total	$	98,834	$	101,074	$	6	$	12
June 30, 2016
Commercial real estate	$	1,376	$	5,836	$	2	$	4
Commercial and industrial	30,351		25,076		—		1
Construction and land	29		31		—		—
Consumer real estate	6,040		5,834		4		8
Other consumer	98		105		1		2
Total	$	37,894	$	36,882	$	7	$	15


¹	Loans reported do not include PCI loans.

Past due status is based on the contractual terms of the loan. Loans that are past due 30 days are considered delinquent. Interest income on loans is discontinued at the time the loan is 90 days delinquent unless the loan is well-secured and in process of collection. Non-mortgage consumer loans are typically charged off no later than 120 days past due. In all cases, loans are placed on nonaccrual status or charged-off at an earlier date if collection of principal or interest is considered doubtful. Nonaccrual loans include both smaller balance homogeneous loans that are collectively evaluated for impairment and larger individually classified impaired loans.

All interest accrued but not received for loans placed on nonaccrual status is reversed against interest income. Subsequent receipts on non-accrual loans are recorded as a reduction of principal, and interest income is recorded only after principal recovery is reasonably assured. Loans are returned to accrual status when all the principal and interest amounts contractually due are brought current and future payments are reasonably assured.

No loans past due over 90 days were still accruing interest at June 30, 2017. At December 31, 2016, $141 of loans past due over 90 days were still accruing interest, which consisted entirely of PCI loans. At June 30, 2017, no PCI loans were considered non-performing loans. No Warehouse Purchase Program loans were non-performing at June 30, 2017 or December 31, 2016. Non-performing (nonaccrual) loans were as follows:



	June 30, 2017		December 31, 2016
Commercial real estate	$	4,201	$	5,195
Commercial and industrial	87,599		86,664
Construction and land	—		11,385
Consumer real estate	7,265		7,987
Other consumer	131		158
Total	$	99,196	$	111,389

A loan that has been modified is considered a troubled debt restructuring (“TDR”) when two conditions are met: 1) the borrower is experiencing financial difficulty and 2) concessions are made for the borrower's benefit that would not otherwise be considered for a borrower or transaction with similar credit risk characteristics. Modifications to loan terms may include a modification of the contractual interest rate to a below-market rate (even if the modified rate is higher than the original rate), forgiveness of accrued interest, forgiveness of a portion of principal, an extended repayment period or a deed in lieu of foreclosure or other transfer of assets other than cash to fully or partially satisfy a debt. The Company's policy is to place all TDRs on nonaccrual for a minimum period of six months. Loans qualify for return to accrual status once they have

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

demonstrated performance with the restructured terms of the loan agreement for a minimum of six months and the collection of principal and interest under the revised terms is deemed probable. All TDRs are considered to be impaired loans.

The outstanding balances of TDRs are shown below:



	June 30, 2017		December 31, 2016
Nonaccrual TDRs⁽¹⁾	$	24,417	$	11,701
Performing TDRs ⁽²⁾	438		454
Total	$	24,855	$	12,155
Specific reserves on TDRs	$	9,244	$	1,686
Outstanding commitments to lend additional funds to borrowers with TDR loans	—		—


¹	Nonaccrual TDR loans are included in the nonaccrual loan totals.


²	Performing TDR loans are loans that have been performing under the restructured terms for at least six months and the Company is accruing interest on these loans.

The following tables provide the recorded balances of loans modified as a TDR during the three and six months ended June 30, 2017 and 2016.



	Three Months ended June 30, 2017								Six Months ended June 30, 2017
	Principal Deferrals ⁽¹⁾		Combination of Rate Reduction and Principal Deferral		Other		Total		Principal Deferrals ⁽¹⁾		Combination of Rate Reduction and Principal Deferral		Other			Total
Commercial and industrial	$	—	$	—	$	—	$	—	$	—	$	—	$	14,447	⁽²⁾	$	14,447
	Three Months ended June 30, 2016								Six Months ended June 30, 2016
Commercial and industrial	$	—	$	—	$	—	$	—	$	6	$	—	$	7,138	⁽²⁾	$	7,144
Consumer real estate	—		—		—		—		67		81		—			148
Total	$	—	$	—	$	—	$	—	$	73	$	81	$	7,138		$	7,292


¹	Principal deferrals include Chapter 7 bankruptcy loans for which the court has discharged the borrower's obligation and the borrower has not reaffirmed the debt. Such loans are placed on non-accrual status.


²	Reserve-based energy relationships where the primary modifications consisted of suspension of required borrowing base payments.

Loans modified as a TDR during the three and six months ended June 30, 2017 and 2016, which experienced a subsequent payment default in the preceding twelve months are shown below. A payment default is defined as a loan that was 90 days or more past due.



	Three Months Ended June 30,				Six Months Ended June 30,
	2017		2016		2017		2016
Consumer real estate	$	—	$	—	$	—	$	35

Loans acquired with evidence of credit quality deterioration at acquisition, for which it was probable that the Company would not be able to collect all contractual amounts due, were accounted for as PCI loans. The carrying amount of PCI loans included in the consolidated balance sheets and the related outstanding balances at June 30, 2017 and December 31, 2016 are set forth in the table below. The outstanding balance represents the total amount owed, including accrued but unpaid interest, and any amounts previously charged off.



	June 30, 2017		December 31, 2016
Carrying amount ¹	$	6,576	$	6,793
Outstanding balance	7,348		7,597


¹	The carrying amounts are reported net of allowance for loan losses of $232 and $180 as of June 30, 2017 and December 31, 2016.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Changes in the accretable yield for PCI loans for the three and six months ended June 30, 2017 and 2016 are as follows:



	Three Months Ended June 30,						Six Months Ended June 30,
	2017			2016			2017			2016
Beginning balance	$	2,527		$	3,056		$	2,515		$	3,356
Reclassifications (to) from nonaccretable	142			(493		)	340			(256		)
Disposals	(9		)	(14		)	(9		)	(282		)
Accretion	(180		)	(273		)	(366		)	(542		)
Balance at end of period	$	2,480		$	2,276		$	2,480		$	2,276

Below is an analysis of the age of recorded investment in loans that were past due at June 30, 2017 and December 31, 2016. No Warehouse Purchase Program loans were delinquent at June 30, 2017 or December 31, 2016 and therefore are not included in the following table.



June 30, 2017	30-59 Days Past Due		60-89 Days Past Due		90 Days and Greater Past Due		Total Loans Past Due		Current Loans ¹		Total Loans
Commercial real estate	$	6,749	$	—	$	53	$	6,802	$	2,810,641	$	2,817,443
Commercial and industrial	3,606		136		8,122		11,864		2,107,814		2,119,678
Construction and land	—		—		—		—		270,050		270,050
Consumer real estate	300		2,064		969		3,333		1,151,020		1,154,353
Other consumer	302		38		—		340		47,395		47,735
Total	$	10,957	$	2,238	$	9,144	$	22,339	$	6,386,920	$	6,409,259
December 31, 2016
Commercial real estate	$	1,829	$	72	$	766	$	2,667	$	2,667,788	$	2,670,455
Commercial and industrial	20,910		495		46		21,451		1,949,709		1,971,160
Construction and land	19,517		283		—		19,800		275,094		294,894
Consumer real estate	10,487		1,916		1,199		13,602		1,061,321		1,074,923
Other consumer	1,523		31		6		1,560		52,431		53,991
Total	$	54,266	$	2,797	$	2,017	$	59,080	$	6,006,343	$	6,065,423


¹	Includes acquired PCI loans with a total carrying value of $6,808 and $6,729 at June 30, 2017 and December 31, 2016, respectively.

For loans collateralized by real property and commercial and industrial loans, credit exposure is monitored by internally assigned grades used for classification of loans. A loan is considered “special mention” when management has determined that there is a potential weakness that deserves management's close attention. Loans rated as "special mention" are not adversely classified according to regulatory classifications and do not expose the Company to sufficient risk to warrant adverse classification. A loan is considered “substandard” if it is inadequately protected by the current net worth and paying capacity of the obligor or the collateral pledged, if any. “Substandard” loans include those characterized by the “distinct possibility” that the insured institution will sustain “some loss” if the deficiencies are not corrected, and the loan may or may not meet the criteria for impairment. Loans classified as “doubtful” have all of the weaknesses of those classified as “substandard” with the added characteristic that the weaknesses present make “collection or liquidation in full,” on the basis of currently existing facts, conditions and values, “highly questionable and improbable.” All other loans that do not fall into the above mentioned categories are considered “pass” loans. Updates to internally assigned grades are made monthly and/or upon significant developments.

For other consumer loans (non-real estate), credit exposure is monitored by payment history of the loans. Non-performing other consumer loans are on nonaccrual status and are generally greater than 90 days past due.

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CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

The recorded investment in loans by credit quality indicators at June 30, 2017 and December 31, 2016, was as follows.

Real Estate and Commercial and Industrial Credit Exposure

Credit Risk Profile by Internally Assigned Grade



June 30, 2017	Commercial Real Estate		Commercial and Industrial		Construction and Land		Consumer Real Estate
Grade: ¹
Pass	$	2,777,822	$	1,945,230	$	269,968	$	1,143,401
Special Mention	28,598		78,379		—		1,491
Substandard	11,023		96,053		82		7,794
Doubtful	—		16		—		1,667
Total	$	2,817,443	$	2,119,678	$	270,050	$	1,154,353
December 31, 2016
Grade: ¹
Pass	$	2,648,842	$	1,712,171	$	283,423	$	1,062,549
Special Mention	7,972		155,110		—		2,083
Substandard	12,875		103,815		11,471		8,252
Doubtful	766		64		—		2,039
Total	$	2,670,455	$	1,971,160	$	294,894	$	1,074,923


¹	PCI loans are included in the substandard or doubtful categories. These categories are consistent with the "substandard" and "doubtful" categories as defined by regulatory authorities.

Warehouse Purchase Program Credit Exposure

All Warehouse Purchase Program loans were graded pass as of June 30, 2017 and December 31, 2016.

Other Consumer Credit Exposure

Credit Risk Profile Based on Payment Activity



	June 30, 2017		December 31, 2016
Performing	$	47,604	$	53,833
Non-performing	131		158
Total	$	47,735	$	53,991

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 5 - Fair Value

ASC 820, “Fair Value Measurements and Disclosures”, establishes a fair value hierarchy which requires an entity to maximize the use of observable inputs and minimize the use of unobservable inputs when measuring fair value. The standard describes three levels of inputs that may be used to measure fair value:

Level 1: Quoted prices (unadjusted) for identical assets or liabilities in active markets that the entity has the ability to access as of the measurement date.

Level 2: Significant other observable inputs other than Level 1 prices 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.

Level 3: Prices or valuation techniques that require inputs that are both significant and unobservable in the market. These instruments are valued using the best information available, some of which is internally developed, and reflects a reporting entity’s own assumptions about the risk premiums that market participants would generally require and the assumptions they would use.

Assets and Liabilities Measured on a Recurring Basis

Assets and liabilities measured at fair value on a recurring basis are summarized below.



	Fair Value Measurements Using Level 2
	June 30, 2017			December 31, 2016
Assets:
Agency residential mortgage-backed securities	$	208,376		$	218,551
Agency commercial mortgage-backed securities	9,369			9,347
Agency residential collateralized mortgage obligations	140,613			86,529
US government and agency securities	1,977			2,251
Municipal bonds	37,622			37,837
Total securities available for sale	$	397,957		$	354,515

Loans held for sale	$	19,374	¹	$	21,279
Derivative financial instruments:
Interest rate lock commitments	582			379
Forward mortgage-backed securities trades	132			36
Loan customer counterparty	—			—
Financial institution counterparty	1,255			1,369
Liabilities:
Derivative financial instruments:
Interest rate lock commitments	3			—
Forward mortgage-backed securities trades	7			80
Loan customer counterparty	1,255			1,369
Financial institution counterparty	—			—


¹	At June 30, 2017, loans held for sale had an aggregate outstanding principal balance of $18,765. There were no mortgage loans held for sale that were 90 days or greater past due or on non-accrual at June 30, 2017.

The following methodologies were used to measure the fair value of financial assets and liabilities valued on a recurring basis:

Securities available for sale - The fair values of securities available for sale are determined by matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities' relationship to other benchmark quoted securities (Level 2 inputs).

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Residential mortgage loans held for sale - Mortgage loans held for sale, which are sold on a servicing released basis, are valued using a market approach by utilizing either: (i) the fair value of securities backed by similar mortgage loans, adjusted for certain factors to approximate the fair value of a whole mortgage loan, including the value attributable to mortgage servicing and credit risk, (ii) current commitments to purchase loans or (iii) recent observable market trades for similar loans, adjusted to credit risk and other individual loan characteristics. As these prices are derived from market observable inputs, the Company classifies these valuations as Level 2 in the fair value disclosures. Interest income on mortgage loans held for sale is recognized based on the contractual rates and reflected in interest income on loans held for sale in the consolidated income statement. The Company has no continuing involvement in any residential mortgage loans sold.

Derivative instruments:

Interest rate lock commitments ("IRLCs") and forward mortgage-backed securities trades - The Company enters into a variety of derivative instruments as part of its hedging strategy and measures these instruments at fair value on a recurring basis in the balance sheet. The majority of these derivatives are forward mortgage-backed securities and are exchange-traded or traded within highly active dealer markets. In order to determine the fair value of these instruments, the Company utilized the exchange price or dealer market price for the particular derivative contract; therefore these contracts are classified as Level 2. In addition, the Company enters into interest rate lock commitments with prospective borrowers. These commitments are carried at fair value based on the fair value of the underlying mortgage loans which are based on observable market data. The Company adjusts the outstanding IRLCs with prospective borrowers based on an expectation that it will be exercised and the loan will be funded. These commitments are classified as Level 2 in the fair value disclosures, as the valuations are based on market observable inputs.

Loan customer counterparty and financial institution counterparty - The Company also enters into certain interest rate derivative positions that are not designated as hedging instruments. The estimated fair value of these commercial loan interest rate swaps are obtained from a pricing service that provides the swaps' unwind value (Level 2 inputs). Please see Note 6 — Derivative Financial Instruments for more information.

Assets and Liabilities Measured on a Non-Recurring Basis

Assets measured at fair value on a non-recurring basis are summarized below. There were no liabilities measured at fair value on a non-recurring basis at June 30, 2017 or December 31, 2016.



	Fair Value Measurements Using Level 3
	June 30, 2017		December 31, 2016
Assets:
Impaired loans	$	25,367	$	9,274
Foreclosed assets:
Commercial real estate	10,545		10,638
Construction and land	1,532		194
Foreclosed assets- other	1,206		6

Impaired loans that are collateral dependent are measured for impairment using the fair value of the collateral adjusted by additional Level 3 inputs, such as discounts of market value, estimated marketing costs and estimated legal expenses. Impaired loans secured by real estate, receivables or inventory had discounts determined by management on an individual loan basis. Impaired loans that are not collateral dependent are measured for impairment by a discounted cash flow analysis using a net present value calculation that utilizes data from the loan file before and after the modification.

Foreclosed assets are measured at the lower of book or fair value less costs to sell using third party appraisals, listing agreements or sale contracts, which may be adjusted by additional Level 3 inputs, such as discounts of market value, estimated marketing costs and estimated legal expenses. Management may also consider additional adjustments on specific properties due to the age of the appraisal, expected holding period, lack of comparable sales, or if the other real estate owned is a special use property. At June 30, 2017, the Company had $180 in residential mortgage loans in the process of foreclosure.

The Credit Risk Management department evaluates the valuations on impaired loans and foreclosed assets at least quarterly. The valuations on impaired loans are reviewed at least quarterly by the Allowance for Loan Loss Committee and are considered in the calculation of the allowance for loan losses. Unobservable inputs, such as discounts to collateral, are monitored and

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

adjusted if market conditions change.

Fair value of financial instruments not recorded at fair value

The carrying amount and fair value information of financial instruments not recorded at fair value in their entirety on a recurring basis on the Company's consolidated balance sheets at June 30, 2017 and at December 31, 2016, were as follows:



			Fair Value Measurement Using
June 30, 2017	Carrying Amount		Level 1		Level 2		Level 3
Financial assets
Cash and cash equivalents	$	318,240	$	318,240	$	—	$	—
Securities held to maturity	191,578		—		194,862		—
Loans held for investment, net	6,338,617		—		—		6,427,610
Loans held for investment - Warehouse Purchase Program	1,256,742		—		—		1,275,949
FHLB and other restricted securities, at cost	56,618		—		56,618		—
Accrued interest receivable	20,160		20,160		—		—
Financial liabilities
Deposits	$	6,562,506	$	—	$	—	$	6,204,060
FHLB advances	1,151,682		—		—		1,151,757
Repurchase agreements	73,433		—		—		71,438
Subordinated debt	134,277		—		—		124,784
Accrued interest payable	2,664		2,664		—		—
December 31, 2016
Financial assets
Cash and cash equivalents	$	289,212	$	289,212	$	—	$	—
Securities held to maturity	210,387		—		212,981		—
Loans held for investment, net	5,998,596		—		—		6,080,165
Loans held for investment - Warehouse Purchase Program	1,055,341		—		—		1,055,219
FHLB and other restricted securities, at cost	43,266		—		43,266		—
Accrued interest receivable	20,347		20,347		—		—
Financial liabilities
Deposits	$	6,365,476	$	—	$	—	$	5,989,933
FHLB advances	833,682		—		—		830,930
Repurchase agreement	86,691		—		—		84,265
Subordinated debt	134,032		—		—		121,743
Accrued interest payable	2,111		2,111		—		—

The following methods and assumptions were used to estimate the fair values of each class of financial instrument presented:

Cash and cash equivalents - Due to their short term nature, the carrying amount approximates the estimated fair value.

Securities held to maturity - The fair values of these securities is determined by matrix pricing, which is a mathematical technique widely used in the industry to value debt securities without relying exclusively on quoted prices for the specific securities but rather by relying on the securities' relationship to other benchmark quoted securities (Level 2 inputs).

Loans held for investment (including Warehouse Purchase Program loans) - Fair value is based on discounted cash flows using current market offering rates, estimated life, and applicable credit risk.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

FHLB stock and other restricted securities - The fair value on these securities is their cost basis due to restrictions on transferability.

Accrued interest receivable - Due to their short term nature, the carrying amount approximates the estimated fair value.

Deposits - Fair value is calculated using the FHLB advance curve to discount cash flows based on the estimated life of the deposits.

FHLB advances - Fair value is calculated using the FHLB advance curve to discount cash flows based on the contractual repayment schedule.

Repurchase agreement - The fair value is based on discounting the estimated cash flows using the current rate at which similar borrowings would be made with similar terms and remaining maturities.

Subordinated debt - The estimated fair value is based on current market rates on similar debt in the market.

Accrued interest payable - Due to their short term nature, the carrying amount approximates the estimated fair value.

The fair value of off-balance sheet items is based on the current fees or costs that would be charged to enter into or terminate such arrangements and are not considered significant to this presentation.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 6 - Derivative Financial Instruments

The following table provides the outstanding notional balances and fair values of outstanding derivative positions at June 30, 2017 and December 31, 2016.



	June 30, 2017						December 31, 2016
	Outstanding Notional Balance		Asset Derivative Fair Value		Liability Derivative Fair Value		Outstanding Notional Balance		Asset Derivative Fair Value		Liability Derivative Fair Value
IRLCs	$	18,228	$	582	$	3	$	10,952	$	379	$	—
Forward mortgage-backed securities trades	30,493		132		7		18,613		36		80
Commercial loan interest rate swaps and caps:
Loan customer counterparty	$	115,953	$	—	$	1,255	$	112,294	$	—	$	1,369
Financial institution counterparty	115,953		1,255		—		112,294		1,369		—

These financial instruments are not designated as hedging instruments and are used for asset and liability management and commercial customers' financing needs. All derivatives are carried at fair value in either other assets or other liabilities.

IRLCs - The Company enters into IRLCs with prospective residential mortgage borrowers whereby the interest rate on the loan is determined prior to funding and the borrowers have locked into that interest rate. The estimated fair values of IRLCs are based on the fair value of the related mortgage loan which is based on observable market data. The Company adjusts the outstanding IRLCs based on the expectation that it will be exercised and the loan will be funded.

Forward mortgage-backed securities trades - To manage the price risk associated with IRLCs, the Company enters into forward sales of mortgage-backed securities in an amount similar to the portion of the IRLC expected to close, assuming no change in mortgage interest rates. In addition, to manage the interest rate risk associated with mortgage loans held for sale, the Company enters into forward sales of mortgage-backed securities to deliver mortgage loan inventory to investors. The estimated fair values of forward sales of mortgage-backed securities and forward sale commitments are based on quoted market values.

Interest rate swaps and caps - These derivative positions relate to transactions in which we enter into an interest rate swap or cap with a customer, while at the same time entering into an offsetting interest rate swap or cap with another financial institution. An interest rate swap transaction allows our customer to effectively convert a variable rate loan to a fixed rate. In connection with each swap, we agree to pay interest to the customer on a notional amount at a variable interest rate and receive interest from the customer on a similar notional amount at a fixed interest rate. At the same time, we agree to pay another financial institution the same fixed interest rate on the same notional amount and receive the same variable interest rate on the same notional amount. In connection with each interest rate cap, we sell a cap to the customer and agree to pay interest if the underlying index exceeds the strike price defined in the cap agreement. Simultaneously we purchase a cap with matching terms from another financial institution which agrees to pay us if the underlying index exceeds the strike price.

The commercial loan customer counterparty weighted average received and paid interest rates for interest rate swaps outstanding at June 30, 2017 and December 31, 2016 are presented in the following table.



	Weighted-Average Interest Rate
	June 30, 2017				December 31, 2016
	Received		Paid		Received		Paid
Loan customer counterparty	2.53	%	2.29	%	3.12	%	2.36	%

Our credit exposure on interest rate swaps is limited to the net favorable value of all swaps by each counterparty, which was approximately $174 at June 30, 2017 and $118 at December 31, 2016. This credit exposure is partly mitigated as transactions

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

with customers are generally secured by the collateral, if any, securing the underlying transaction being hedged. Our credit exposure, net of collateral pledged, relating to interest rate swaps with upstream financial institution counter-parties was approximately $1,245 at June 30, 2017. A credit support annex is in place and allows the bank to call collateral from upstream financial institution counter-parties. Collateral levels are monitored and adjusted on a regular basis for changes in interest rate swap values. Our cash collateral pledged for interest rate swaps and included in our interest-bearing deposits, which totaled $1,950 at June 30, 2017 and $1,950 at December 31, 2016, is in excess of our credit exposure.

The initial and subsequent changes in the fair value of IRLCs and the forward sales of mortgage-back securities are recorded in net gain on sale of mortgage loans. These gains and losses were not attributable to instrument-specific credit risk. For interest rate swaps and caps, because we act as an intermediary for our customer, changes in the fair value of the underlying derivative contracts substantially offset each other and do not have a material impact on our results of operations. Income (loss) for the three and six months ended June 30, 2017 and 2016 was as follows:



Derivatives not designated as hedging instruments	Three Months Ended June 30,						Six Months Ended June 30,
Derivatives not designated as hedging instruments	2017			2016			2017			2016
IRLC's	$	29		$	86		$	201		$	296
Forward mortgage-backed securities trades	(147		)	(301		)	(259		)	(646		)

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 7 - Share-based Compensation

The 2017 Omnibus Incentive Plan (the "2017 Plan") was approved at the Company's 2017 annual meeting of shareholders, held on May 22, 2017. Prior to approval of the 2017 Plan by shareholders, the Company had in effect the 2012 and 2007 Equity Incentive Plans (the “Prior Plans” and together with the 2017 Plan, the “Plans”). No further awards will be made under the Prior Plans and shares reserved to make new awards under the Prior Plans have been released; provided that shares reserved to fund issued and outstanding awards under the Prior Plans continue to be reserved to provide for those awards. All awards outstanding under the Prior Plans remain outstanding in accordance with their terms. Each outstanding award under the Prior Plans continue to be governed solely by the terms of the documents evidencing such award, and no provision of the 2017 Plan is deemed to affect or otherwise modify the rights or obligations of the holders of such awards with respect to their acquisition of Company shares. The 2017 Plan permits the granting of non-qualified stock options, incentive stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares, performance units and cash awards to participants. Participants under the 2017 Plan include employees and directors (including advisory and emeritus directors) of the Company and its subsidiaries. As of June 30, 2017, no shares had been issued under the 2017 Plan. There are 3,250,000 total shares authorized under the 2017 Plan, with a fungible share rate of 2.5-for-1 for full-value awards (stock-based awards other than stock options and stock appreciation rights.)

The Plans are accounted for under ASC 718, Compensation - Stock Compensation, which requires companies to record compensation cost for share-based payment transactions with employees in return for employment service. Compensation cost is recognized for stock options and restricted stock awards based on the fair value of these awards at the date of grant. A Black-Scholes model is utilized to estimate the fair value of stock options, while the market price of the Company’s common stock at the date of grant is used for restricted stock awards. Compensation cost is recognized over the required service period, generally defined as the vesting period. For awards with time-based vesting, compensation cost is recognized on a straight-line basis over the requisite service period for the entire award. For awards with performance-based vesting conditions, compensation cost is recognized when the achievement of the performance condition is considered probable of achievement. If a performance condition is subsequently determined to be improbable of achievement, compensation cost is reversed.

Compensation cost charged to income for share-based compensation is presented below:



	Three Months Ended June 30,				Six Months Ended June 30,
	2017		2016		2017		2016
Restricted stock	$	857	$	733	$	1,725	$	1,181
Stock options	986		493		1,680		1,042
Income tax benefit	645		429		1,192		778

A summary of activity in the restricted stock portion of the Company's Plans is presented below:



	Time-Vested Shares				Performance-Based Shares
Six Months ended June 30, 2016	Shares		Weighted-Average Grant Date Fair Value per Share ¹		Shares		Weighted-Average Grant Date Fair Value per Share ²
Non-vested at December 31, 2015	246,461		$	20.98	61,800		$	25.02
Vested	(96,665	)	20.86		(20,600	)	25.02
Non-vested at June 30, 2016	149,796		$	20.81	41,200		$	26.33
Six Months ended June 30, 2017
Non-vested at December 31, 2016	200,176		$	23.79	81,400		$	43.06
Granted	19,208		38.92		12,208		39.90
Vested	(85,996	)	21.91		(20,600	)	41.32
Non-vested at June 30, 2017	133,388		$	26.91	73,008		$	38.13


¹	For restricted stock awards with time-based vesting conditions, the grant date fair value is based upon the closing stock price as quoted on the NASDAQ Stock Market on the grant date.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

For restricted stock awards with performance-based vesting conditions, the value of the award is based upon the closing stock price as quoted on the NASDAQ Stock Market on the date of vesting. Until the final value is determined on the vesting date, the Company estimates the fair value based upon the closing stock price as quoted on the NASDAQ Stock Market near the last business day of each month.

As of June 30, 2017, there was $4,445 of total unrecognized compensation expense related to non-vested restricted shares awarded under the Company's Plans. That expense is expected to be recognized over a weighted-average period of 1.6 years. The total fair value of shares vested during the six months ended June 30, 2017 and 2016, was $2,735 and $2,532, respectively.

Under the terms of the 2017 Plan, stock options may not be granted with an exercise price less than the fair market value of the Company’s common stock on the date the option is granted and may not be exercised later than ten years after the grant date. The fair market value is the closing stock price as quoted on the NASDAQ Stock Market on the date of grant.

The fair value of each option award is estimated on the date of grant using a closed form option valuation (Black-Scholes) model that uses the assumptions noted in the table below. The risk-free interest rate is the implied yield available on U.S. Treasury zero-coupon issues with a remaining term equal to the expected term of the stock option in effect at the time of the grant. The expected term of stock options is based on employees' actual vesting behavior and expected volatilities are based on historical volatilities of the Company’s common stock. Expected dividends are the estimated dividend rate over the expected term of the stock options.

The weighted average fair value of stock options granted during the six months ended June 30, 2017 and 2016 was $10.74 and $5.37, respectively. The fair value of options granted was determined using the following weighted-average assumptions as of grant date:



	2017		2016
Expected stock price volatility	31.86	%	31.70	%
Expected dividends	1.61	%	2.60	%
Expected term of stock options (years)	6.2		6.3
Risk-free interest rate	2.18	%	1.60	%

A summary of activity in the stock option portion of the Company's Plans as of is presented below:



Six Months ended June 30, 2016	Shares		Weighted- Average Exercise Price per Share		Weighted- Average Remaining Contractual Term	Aggregate Intrinsic Value
Outstanding at December 31, 2015	1,865,750		$	22.21	8.8	$	6,401
Granted	19,000		21.73
Exercised	(24,614	)	19.97
Forfeited	(59,666	)	24.91
Outstanding at June 30, 2016	1,800,470		22.14		8.8	8,641
Six Months ended June 30, 2017
Outstanding at December 31, 2016	2,008,080		$	23.71	9.5	$	38,850
Granted	502,875		37.11
Exercised	(113,973	)	18.75
Forfeited	(46,825	)	27.68
Outstanding at June 30, 2017	2,350,157		26.74		10.7	26,853
Fully vested and expected to vest	2,322,982		26.64		10.6	26,782
Exercisable at June 30, 2017	898,001		$	21.10	7.4	$	15,297

As of June 30, 2017, there was $10,464 of total unrecognized compensation expense related to non-vested stock options. That expense is expected to be recognized over a weighted-average period of 2.4 years. At June 30, 2017, the Company applied an estimated forfeiture rate of 5% based on historical activity. The intrinsic value for stock options is calculated based on the

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

difference between the exercise price of the underlying awards and the market price of our common stock as of the reporting date. The total intrinsic value of stock options exercised was $2,334 and $127 for the six months ended June 30, 2017 and 2016, respectively.

Effective January 1, 2017, the Company changed the accounting for income taxes upon the vesting of stock options and restricted stock to be in accordance with ASC 718, as modified by Accounting Standards Update ("ASU") 2016-09, Improvements to Employee Share-Based Payment Accounting. Prior to the implementation of ASU 2016-09, the tax effects of income tax deductions in excess of compensation cost (windfalls) were recorded in additional paid-in capital, and the tax effects of compensation cost in excess of income tax deductions (shortfalls) were recorded in additional paid-in capital to the extent of previously recognized windfalls, with the remainder recorded in income tax expense. Under ASU 2016-09, all tax effects of windfalls and shortfalls related to share-based payments are recorded through the income statement.

For the six months ended June 30, 2017, we recognized income tax deductions in excess of compensation cost of $3,363 for share-based payment awards, which resulted in a tax benefit of $1,177 recorded as a reduction of income tax expense. The tax effect of this windfall is treated as a discrete item in this interim reporting period and is not considered in determining the annual estimated effective tax rate. The classification of excess tax benefits on the statement of cash flows will be shown as an operating activity.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 8 - Income Taxes

A summary of the net deferred tax assets as of June 30, 2017 and December 31, 2016, is presented below:



	June 30, 2017			December 31, 2016
Net deferred tax assets	$	31,170		$	29,231
Estimated annual effective tax rate	34		%

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 9 - Commitments and Contingent Liabilities

In the normal course of business, the Company enters into various transactions which, in accordance with US GAAP, are not included in its consolidated balance sheets. The Company enters into these transactions to meet the financing needs of its customers. These transactions include commitments to extend credit and standby letters of credit which involve, to varying degrees, elements of credit and interest rate risk. Credit losses up to the face amount of these instruments could occur, although material losses are not anticipated. The Company's credit policies applied to loan originations are also applied to these commitment requests, including obtaining collateral at the exercise of the commitment.

The contractual amounts of financial instruments with off‑balance sheet risk at June 30, 2017 and December 31, 2016, are summarized below. Please see Part I-Item 2-"Off-Balance Sheet Arrangements, Contractual Obligations and Commitments" of this Form 10-Q for information related to commitment maturities.



	June 30, 2017		December 31, 2016
Unused commitments to extend credit	$	1,849,912	$	1,642,528
Unused capacity on Warehouse Purchase Program loans	625,257		892,659
Standby letters of credit	27,060		29,198
Total unused commitments/capacity	$	2,502,229	$	2,564,385

Unused commitments to extend credit - The Company enters into contractual commitments to extend credit, normally with fixed expiration dates or termination clauses, at specified rates and for specific purposes. Since many commitments expire without being drawn upon, the total contractual amount of commitments does not necessarily represent future cash requirements of the Company. Substantially all of the Company's commitments to extend credit are contingent upon customers maintaining specific credit standards at the time of future loan funding.

Unused capacity on Warehouse Purchase Program loans - In regard to unused capacity on Warehouse Purchase Program loans, the Company has established maximum purchase facility amounts, but reserves the right, at any time, to refuse to buy any mortgage loans offered for sale by each customer, for any reason in the Company's sole and absolute discretion.

Standby letters of credit - Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. The credit risk involved in issuing letters of credit is essentially the same as that involved in extending loan facilities to customers.

In addition to the commitments above, the Company guarantees the credit card debt of certain customers to the merchant bank that issues the credit cards. These guarantees are in place for as long as the guaranteed credit card is open. At June 30, 2017 and December 31, 2016, these credit card guarantees totaled $4,280 and $3,335, respectively. This amount represents the maximum potential amount of future payments under the guarantee, which the Company is responsible for in the event of customer non-payment.

The Company funds an allowance for credit losses on off-balance sheet lending-related commitments and guarantees on credit card debt through a charge to provision for credit losses on the Company's consolidated statement of income. At June 30, 2017 and December 31, 2016, this allowance for credit losses on off-balance sheet lending-related commitments and guarantees on credit card debt, included in "other liabilities" on the Company's consolidated balance sheets, totaled $1,229 and $1,500, respectively.

In addition to the commitments above, the Company had overdraft protection available in the amounts of $85,080 and $85,709 at June 30, 2017 and December 31, 2016, respectively.

The Company, at June 30, 2017 and December 31, 2016, had FHLB letters of credit of $1,018,605 and $946,338, respectively, pledged to secure public deposits, repurchase agreements, and for other purposes required or permitted by law.

At June 30, 2017 and December 31, 2016, the Company had $1,680 and $2,080, respectively, of unfunded commitments recorded in other liabilities in its consolidated balance sheet related to investments in community development-oriented private equity funds used for Community Reinvestment Act purposes.

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LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 10 - Recent Accounting Developments

Effect of Newly Issued But Not Yet Effective Accounting Standards

In May 2014, the Financial Accounting Standards Board (the "FASB") issued ASU 2014-09, Revenue from Contracts with Customers. This ASU states that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. This ASU affects entities that enter into contracts with customers to transfer goods or services or enter into contracts for the transfer of nonfinancial assets, unless those contracts are within the scope of other standards. In August 2015, the FASB issued ASU 2015-14, "Revenue from Contracts with Customers (Topic 606): Deferral of the Effective Date," which deferred the effective date of ASU 2014-09 for public entities to annual reporting periods beginning after December 15, 2017, including interim reporting periods within that reporting period. Our revenue is comprised of net interest income on financial assets and financial liabilities, which is explicitly excluded from the scope of ASU 2014-09, and non-interest income. ASU 2014-09 could require us to change how we recognize certain recurring revenue streams; however, we do not expect these changes to have a significant impact on our financial statements. We continue to evaluate the impact of ASU 2014-09 on components of non-interest income. We expect to adopt the standard in the first quarter of 2018 with a cumulative effect adjustment to opening retained earnings, if such adjustment is deemed to be significant.

In January 2016, the FASB issued ASU 2016-01, Recognition and Measurements of Financial Assets and Financial Liabilities. This ASU requires that all equity investments be measured at fair value with changes in the fair value recognized through net income (other than those accounted for under the equity method of accounting or those that result in consolidation of the investee). This ASU also requires that an entity present separately in other comprehensive income the portion of the total change in the fair value of a liability resulting from a change in the instrument-specific credit risk when the entity has elected to measure the liability at fair value in accordance with the fair value option for financial instruments. In addition, this ASU eliminates the requirement to disclose the fair value of financial instruments measured at amortized cost for entities that are not public business entities and the requirement to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost on the balance sheet for public business entities. For public business entities, this ASU is effective for annual periods beginning after December 15, 2017, and interim periods therein. The adoption of this ASU is not expected to have a significant impact on the Company's financial statements and disclosures.

In February 2016, the FASB issued ASU 2016-02, Leases. This ASU requires lessees to put most leases on their balance sheets but recognize expenses in the income statement in a manner similar to current accounting treatment. This ASU changes the guidance on sale-leaseback transactions, initial direct costs and lease execution costs, and, for lessors, modifies the classification criteria and the accounting for sales-type and direct financing leases. For public business entities, this ASU is effective for annual periods beginning after December 15, 2018, and interim periods therein. Entities are required to use a modified retrospective approach for leases that exist or are entered into after the beginning of the earliest comparative period in the financial statements. The Company is evaluating the impact of this ASU on its financial statements and disclosures.

In June 2016, the FASB issued ASU 2016-13, Measurement of Credit Losses on Financial Instruments. This ASU removes the thresholds that companies apply to measure credit losses on financial instruments measured at amortized cost, such as loans, receivables, and held-to-maturity debt securities. Under current US GAAP, companies generally recognize credit losses when it is probable that the loss has been incurred. This revised guidance will remove all recognition thresholds and will require companies to recognize an allowance for lifetime expected credit losses. Credit losses will be immediately recognized through net income; the amount recognized will be based on the current estimate of contractual cash flows not expected to be collected over the financial asset’s contractual term. ASU 2016-13 also amends the credit loss measurement guidance for available for sale debt securities. For public business entities, this ASU is effective for financial statements issued for fiscal years and for interim periods within those fiscal years beginning after December 15, 2019. The Company is evaluating the impact of this ASU on its financial statements and disclosures.

Table of Contents

LEGACYTEXAS FINANCIAL GROUP, INC.

CONDENSED NOTES TO UNAUDITED CONSOLIDATED INTERIM FINANCIAL STATEMENTS

(Dollars in thousands, except per share data)

Note 11 — Subsequent Events

The Company evaluated events from the date of the consolidated financial statements on June 30, 2017 through the issuance of those consolidated financial statements included in this Quarterly Report on Form 10-Q dated July 25, 2017. No additional events were identified requiring recognition in and/or disclosures in the consolidated financial statements.



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

Special Note Regarding Forward-Looking Statements

This document and other filings by Legacy Texas Financial Group, Inc. (the "Company") with the Securities and Exchange Commission (the “SEC”), as well as press releases or other public or stockholder communications released by the Company, may contain forward-looking statements, including, but not limited to, (i) statements regarding our financial condition, results of operations and business, (ii) statements about our plans, objectives, expectations and intentions and other statements that are not historical facts and (iii) other statements identified by the words or phrases "will likely result," "are expected to," "will continue," "is anticipated," "estimate," "project," "intends" or similar expressions that are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements are based on current beliefs and expectations of the Company’s management and are inherently subject to significant business, economic and competitive uncertainties and contingencies, many of which are beyond the Company’s control. In addition, these forward-looking statements are subject to assumptions with respect to future business strategies and decisions that are subject to change.

The following factors, among others, could cause actual results to differ materially from the anticipated results or other expectations expressed in the forward-looking statements: the expected cost savings, synergies and other financial benefits from acquisition or disposition transactions might not be realized within the expected time frames or at all and costs or difficulties relating to integration matters might be greater than expected; changes in economic conditions; fluctuations in interest rates; the risks of lending and investing activities, including changes in the level and direction of loan delinquencies and write-offs and changes in estimates of the adequacy of the allowance for loan losses; our ability to access cost-effective funding; fluctuations in real estate values and both residential and commercial real estate market conditions; demand for loans and deposits in our market area; fluctuations in the price of oil, natural gas and other commodities; competition; changes in management's business strategies; our ability to successfully integrate any assets, liabilities, customers, systems and management personnel we have acquired or may acquire into our operations and our ability to realize related revenue synergies and cost savings within expected time frames and any goodwill charges related thereto; results of examinations of us by the FRB (as defined below) and our bank subsidiary by the TDOB (as defined below) or other regulatory authorities, including the possibility that any such regulatory authority may, among other things, require us to increase our reserve for loan losses, write-down assets, change our regulatory capital position or affect our ability to borrow funds or maintain or increase deposits, which could adversely affect our liquidity and earnings; legislative or regulatory changes that adversely affect our business including the revenue impact from, and any mitigation actions taken in response, to the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”); changes in regulatory policies and principles, or the interpretation of regulatory capital or other rules; changes in accounting policies and practices, as may be adopted by the financial institution regulatory agencies, the Public Company Accounting Oversight Board or the Financial Accounting Standards Board; and other economic, competitive, governmental, regulatory, and technological factors affecting our operations, pricing, products and services; and the other risks set forth under Risk Factors under Item 1A. of the Company's Form 10-K for the year ended December 31, 2016 ("2016 Form 10-K").

The factors listed above could materially affect our financial performance and could cause our actual results for future periods to differ materially from any opinions or statements expressed with respect to future periods in any current statements.

We do not undertake - and specifically decline any obligation - to publicly release the result of any revisions which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events. When considering forward-looking statements, you should keep in mind these risks and uncertainties. You should not place undue reliance on any forward-looking statement, which speaks only as of the date made. You should refer to our periodic and current reports filed with the SEC for specific risks that could cause actual results to be significantly different from those expressed or implied by any forward-looking statements.

Overview

LegacyTexas Financial Group, Inc. is a Maryland corporation and LegacyTexas Bank is its wholly owned principal operating subsidiary. Unless the context otherwise requires, references in this document to the “Company” refer to LegacyTexas Financial Group, Inc., and references to the “Bank” refer to LegacyTexas Bank. References to “we,” “us,” and “our” mean LegacyTexas Financial Group, Inc. or LegacyTexas Bank, as the context requires.

The Bank is regulated by the Texas Department of Banking (“TDOB”) and the Board of Governors of the Federal Reserve System (“FRB”) with back-up oversight by the Federal Deposit Insurance Corporation ("FDIC"). Additionally, the Bank is a Federal Reserve member bank required to have certain reserves and stock set by the FRB and a member of the Federal Home Loan Bank of Dallas, one of the 12 regional banks in the Federal Home Loan Bank System (“FHLB”). The Company is regulated by the FRB.

Business Strategies

Our principal business consists of attracting retail deposits from the general public and the business community and investing those funds, along with borrowed funds, in commercial real estate loans, secured and unsecured commercial and industrial loans, as well as permanent loans secured by first and second mortgages on one-to-four family residences and consumer loans. Additionally, the Warehouse Purchase Program allows mortgage banking company customers to close one-to four-family real estate loans in their own name and manage its cash flow needs until the loans are sold to investors. We also offer title services and brokerage services for the purchase and sale of non-deposit investment and insurance products through a third party brokerage arrangement. Our operating revenues are derived principally from interest earned on interest-earning assets, including loans and investment securities and service charges and fees on deposits and other account services. Our primary sources of funds are deposits, FHLB advances and other borrowings, and payments received on loans and securities. We offer a variety of deposit accounts that provide a wide range of interest rates and terms, generally including savings, money market, term certificate and demand accounts.

Our principal objective is to be an independent, commercially-oriented, customer-focused financial services company, providing outstanding service and innovative products in our primary market area of North Texas. Our Board of Directors has adopted a strategy designed to maintain growth and profitability, a strong capital position and high asset quality.

Performance Highlights


•	Net income, which totaled $27.9 million for the second quarter of 2017, increased by $4.7 million compared to the second quarter of 2016, which included a $6.4 million increase in net interest income, a $545,000 decrease in the provision for credit losses, a $24,000 decrease in non-interest expense and a $1.4 million decrease in non-interest income compared to the same period in 2016.


•	Assets totaled $8.97 billion at June 30, 2017, which generated basic earnings per share for the second quarter of 2017 of $0.60.


•	Gross loans held for investment at June 30, 2017, excluding Warehouse Purchase Program loans, grew $343.8 million from December 31, 2016, while total deposits grew $197.0 million for the same period.


•	Warehouse Purchase Program loans totaled $1.26 billion at June 30, 2017, an increase of $201.4 million from December 31, 2016.

Critical Accounting Estimates

Certain of our accounting estimates are important to the portrayal of our financial condition, since they require management to make difficult, complex or subjective judgments, some of which may relate to matters that are inherently uncertain. Estimates are susceptible to material changes as a result of changes in facts and circumstances. Facts and circumstances which could affect these judgments include, but are not limited to, changes in interest rates, changes in the performance of the economy and changes in the financial condition of borrowers. Management believes that determining the allowance for loan losses is its most critical accounting estimate. Our accounting policies are discussed in detail in Note 1 of the Notes to Consolidated Financial Statements contained in Item 8 of our 2016 Form 10-K.

Allowance for Loan Loss. The allowance for loan losses and related provision expense are susceptible to change if the credit quality of our loan portfolio changes, which is evidenced by many factors, including but not limited to charge-offs and non-performing loan trends. Generally, consumer real estate lending has a lower risk profile compared to other consumer lending (such as automobile loans). Commercial real estate and commercial and industrial lending, however, can have higher risk profiles than consumer loans due to these loans being larger in amount and more susceptible to fluctuations in industry, market and economic conditions. While management uses available information to recognize losses on loans, changes in economic conditions, the mix and size of the loan portfolio and individual borrower conditions can dramatically impact our

level of allowance for loan losses in relatively short periods of time. Management believes that the allowance for loan losses is maintained at a level that represents coverage of our best estimate of credit losses in the loan portfolio as of June 30, 2017.

Management evaluates current information and events regarding a borrower's ability to repay its obligations and considers a loan to be impaired when the ultimate collectability of amounts due, according to the contractual terms of the loan agreement, is in doubt. If an impaired loan is collateral-dependent, the fair value of the collateral, less the estimated cost to sell, is used to determine the amount of impairment. If an impaired loan is not collateral-dependent, the impairment amount is determined using the negative difference, if any, between the estimated discounted cash flows and the loan amount due. For impaired loans, the amount of the impairment can be adjusted, based on current data, until such time as the actual basis is established by acquisition of the collateral or until the basis is collected. Impairment losses are reflected in the allowance for loan losses through a charge to the provision for credit losses. Subsequent recoveries are credited to the allowance for loan losses. Cash receipts for accruing loans are applied to principal and interest under the contractual terms of the loan agreement. Cash receipts on impaired loans for which the accrual of interest has been discontinued are applied first to principal.

Comparison of Financial Condition at June 30, 2017 and December 31, 2016

General. Total assets increased by $608.1 million, or 7.3%, to $8.97 billion at June 30, 2017 from $8.36 billion at December 31, 2016, primarily due to a $343.8 million, or 5.7%, increase in gross loans held for investment, excluding Warehouse Purchase Program loans, and a $201.4 million, or 19.1%, increase in Warehouse Purchase Program loans.

Loans. Gross loans held for investment increased by $545.2 million, or 7.7%, to $7.67 billion at June 30, 2017 from $7.12 billion at December 31, 2016, while loans held for sale decreased by $1.9 million, or 9.0%, for the same period.



	June 30, 2017		December 31, 2016		Dollar Change			Percent Change
	(Dollars in thousands)
Commercial real estate	$	2,817,443	$	2,670,455	$	146,988		5.5	%
Commercial and industrial	2,119,678		1,971,160		148,518			7.5
Construction and land	270,050		294,894		(24,844		)	(8.4	)
Consumer real estate	1,154,353		1,074,923		79,430			7.4
Other consumer	47,735		53,991		(6,256		)	(11.6	)
Gross loans held for investment, excluding Warehouse Purchase Program loans	6,409,259		6,065,423		343,836			5.7
Warehouse Purchase Program loans	1,256,742		1,055,341		201,401			19.1
Gross loans held for investment	7,666,001		7,120,764		545,237			7.7
Loans held for sale	19,374		21,279		(1,905		)	(9.0	)
Gross loans	$	7,685,375	$	7,142,043	$	543,332		7.6	%

Gross loans held for investment at June 30, 2017, excluding Warehouse Purchase Program loans, grew $343.8 million, or 5.7%, from December 31, 2016, which included growth in the commercial real estate, commercial and industrial and consumer real estate loan portfolios and was partially offset by declines in the construction and land and other consumer loan portfolios. Commercial real estate and commercial and industrial loans at June 30, 2017 increased by $147.0 million and $148.5 million, respectively, from December 31, 2016. Consumer real estate loans at June 30, 2017 increased by $79.4 million, while construction and land and other consumer loans decreased by $24.8 million and $6.3 million, respectively, from December 31, 2016.

Reserve-based energy loans, which are reported as commercial and industrial loans, totaled $515.5 million at June 30, 2017, down $11.7 million from $527.2 million at December 31, 2016. Substantially all of the reserve-based energy loans are secured by deeds of trust on properties containing proven oil and natural gas reserves. Due to the sensitivity of the energy portfolio to downward movements in oil prices, the Bank has seen migration in the portfolio into criticized classifications. See "Allowance for Loan Losses" for more information.

At June 30, 2017, our reserve-based energy portfolio (reported above at $515.5 million) was secured by collateral that consisted of 51% crude oil reserves and 49% natural gas reserves. We encourage, and in some cases even require, borrowers to utilize commodity hedges, in order to stabilize cash flows during volatile commodity price environments. Hedges are used to guard against falling prices, and the goal is that the duration of the hedge will last long enough for prices to come back from any significant decline. Hedges will typically include minimum and maximum allowed percentage of production, a minimum and maximum allowed term, and a minimum price.

In addition to the reserve-based energy loans, the Bank has loans categorized as "Midstream and Other," which are typically related to the transmission of oil and natural gas and would only be indirectly impacted from declining commodity prices. At June 30, 2017, "Midstream and Other" loans had a total outstanding balance of $30.4 million, down $8.6 million from $39.0 million at December 31, 2016. Also, at June 30, 2017, we had four relationships in the commercial and industrial loan portfolio (aside from the reserve-based and midstream loans discussed above) that are involved in the energy exploration sector providing front-end service to companies who drill oil and gas wells and whose business could be impacted by the dramatic reduction in drilling activity as a result of the severe drop in the price of oil and gas. These relationships totaled $1.7 million at June 30, 2017.

Warehouse Purchase Program loans increased by $201.4 million, or 19.1%, to $1.26 billion at June 30, 2017 from $1.06 billion at December 31, 2016. Although not bound by any legally binding commitment, when a purchase decision is made, the Bank purchases a 100% participation interest in the loans originated by our mortgage banking company customers. The mortgage banking company closes mortgage loans consistent with underwriting standards established by approved investors and, once all pertinent documents are received, the participation interest is delivered by the Bank to the investor selected by the originator and approved by us. Loans funded by the Warehouse Purchase Program during the second quarter of 2017 consisted of 44% conforming, 48% government loans and 8% of other loan types, including Jumbo loans.

Allowance for Loan Losses. The allowance for loan losses is maintained to cover incurred losses that are estimated in accordance with US GAAP. It is our estimate of credit losses inherent in our loan portfolio at each balance sheet date. Our methodology for analyzing the allowance for loan losses consists of general and specific components. For more information about the Company's calculation of its allowance for loan losses, please see Item 1 (Financial Statements) - Note 4 - "Loans" under Part 1 of this report.

Acquired loans initially are recorded at fair value, which includes an estimate of credit losses expected to be realized over the remaining lives of the loans, and therefore no corresponding allowance for loan losses is recorded for these loans at acquisition. An allowance will be recorded in later periods if additional losses are subsequently anticipated. Methods utilized to estimate the required allowance for loan losses for acquired loans not deemed credit-impaired at acquisition are similar to originated loans; however, the estimate of loss is limited to the amount that the calculated allowance for loan losses exceeds the remaining purchase discount.

Purchased credit impaired ("PCI") loans are not considered nonperforming loans, and accordingly, are not included in the non-performing loans to total loans ratio as a numerator, but are included in total loans reflected in the denominator. The result is a downward trend in the ratio when compared to prior periods, assuming all other factors stay the same. Similarly, other asset quality ratios, such as the allowance for loan losses to total loans ratio will reflect a downward trend, assuming all other factors stay the same, due to the impact of PCI loans on the denominator with no corresponding impact in the numerator.

Our non-performing loans, which consist of nonaccrual loans, include both smaller balance homogeneous loans that are collectively evaluated for impairment and larger individually evaluated impaired loans. Loans generally are placed on nonaccrual status when the loan becomes 90 days or more delinquent. Non-performing loans include loans that are not contractually past due but have been placed on nonaccrual status due to the loan's designation as a troubled debt restructuring or if there is a distinct possibility that the Company will sustain some loss if deficiencies existing within a loan are not corrected. In all cases, loans are placed on nonaccrual status (or charged-off) at an earlier date when the collection of principal and/or interest becomes doubtful or other factors involving the loan warrant placing the loan on nonaccrual status.

Non-performing loans to total loans held for investment, excluding Warehouse Purchase Program loans, was 1.55% at June 30, 2017 compared to 1.84% at December 31, 2016. Including Warehouse Purchase Program loans, non-performing loans to total loans held for investment was 1.29% at June 30, 2017 compared to 1.56% at December 31, 2016. Non-performing loans decreased by $12.2 million to $99.2 million at June 30, 2017 from $111.4 million at December 31, 2016. This decrease was primarily related to an $11.4 million decline in non-performing construction and land loans from December 31, 2016, due to the resolution of a relationship with a residential home builder. After various lots and homes were liquidated, paying down the credit facility, the Company foreclosed on the remaining partially completed homes in the 2017 period. For more information about the Company's non-performing loans, please see Note 4 of the Condensed Notes to Unaudited Consolidated Interim Financial Statements contained in Item 1 of this report.

Our allowance for loan losses was $75.1 million at June 30, 2017 compared to $64.6 million at December 31, 2016, or 0.98% of total loans held for investment (including Warehouse Purchase Program loans) at June 30, 2017 compared to 0.91% at December 31, 2016. Our allowance for loan losses to non-performing loans was 75.70% at June 30, 2017 compared to 57.97% at December 31, 2016. The increase in the allowance for loan losses from December 31, 2016 was primarily related to increased loan loss reserves allocated to the corporate healthcare finance portfolio, which is reported on the balance sheet as commercial and industrial loans and totaled $44.1 million at June 30, 2017. During the first quarter of 2017, the Company charged-off its $16.4 million interest in a large syndicated credit within the corporate healthcare finance portfolio. The note was sold at a deep discount after the borrower experienced liquidity constraints during the first quarter of 2017 that challenged its ongoing viability. One other relationship in the corporate healthcare finance portfolio totaling $7.7 million was considered to be impaired and rated as substandard (non-performing) at June 30, 2017. At this time, the Company is no longer originating corporate healthcare finance loans. The allowance for loan losses allocated to corporate healthcare finance and energy loans totaled $4.7 million and $24.6 million, respectively, at June 30, 2017. Net charge-offs for the six months ended June 30, 2017

totaled $18.4 million, an increase of $17.9 million from the six months ended June 30, 2016, due to the $16.4 million charge-off recorded on the healthcare finance relationship discussed above.

Classified Assets. Loans and other assets, such as securities and foreclosed assets, that are considered by management to be of lesser quality are classified as "substandard," "doubtful" or "loss." An asset is considered "substandard" if it is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. "Substandard" assets include those characterized by the distinct possibility that the Company will sustain some loss if the deficiencies are not corrected. Assets classified as "doubtful" have all of the weaknesses of those classified as "substandard," with the added characteristic that the weaknesses present make collection or liquidation in full, on the basis of currently existing facts, conditions and values, highly questionable and improbable. Assets classified as "loss" are those considered uncollectible and of such little value that their continuance as assets without the establishment of a specific loss reserve is not warranted. PCI loans are included in the "substandard" and "doubtful" categories.

We regularly review the assets in our portfolio to determine whether any should be considered as classified. Total classified assets represented 14.1% of our total equity and 1.5% of our total assets at June 30, 2017 compared to 17.0% of our total equity and 1.8% of our total assets at December 31, 2016. The aggregate amount of classified assets at the dates indicated was as follows:



	June 30, 2017		December 31, 2016
	(Dollars in thousands)
Doubtful	$	1,683	$	2,880
Substandard	115,310		136,815
Total classified loans	116,993		139,695
Foreclosed assets	13,283		10,838
Total classified assets	$	130,276	$	150,533

Substandard loans at June 30, 2017 decreased by $21.5 million from December 31, 2016, which was primarily due to the resolution of the construction and land relationship with a residential home builder discussed above in "Allowance for Loan Losses" that resulted in the builder's remaining partially completed homes being transferred into foreclosed assets in the 2017 period. Substandard non-performing energy loans totaled $74.4 million at June 30, 2017, up $6.8 million from December 31, 2016 and up $47.8 million from June 30, 2016. This increase resulted from collateral value declines and borrowers' deteriorating financial conditions due to past pressure on the price of oil and gas. The Company continues to take action to improve the risk profile of the criticized energy loans by instituting monthly commitment reductions, obtaining additional collateral, obtaining additional guarantor support and/or requiring additional equity injections or asset sales.

The Company also has potential problem loans, considered "other loans of concern," that are currently performing and do not meet the criteria for impairment, but where there is the distinct possibility that we might sustain some loss if credit deficiencies are not corrected. These possible credit problems may result in the future inclusion of these loans in the non-performing asset categories and consisted of $11.0 million in loans that were classified as "substandard," but were still accruing interest and were not considered impaired at June 30, 2017 (excluding PCI loans.) Other loans of concern have been considered in management's analysis of potential loan losses.

Securities. Our securities portfolio increased $24.6 million, or 4.4%, to $589.5 million at June 30, 2017 from $564.9 million at December 31, 2016. During the six months ended June 30, 2017, purchases totaling $1.23 billion offset paydowns and maturities of securities totaling $1.20 billion.

Deposits. Total deposits increased $197.0 million, or 3.1%, to $6.56 billion at June 30, 2017 from $6.37 billion at December 31, 2016, primarily due to a 10.0% growth in non-interest-bearing demand deposits and a 6.8% growth in time deposits.



	June 30, 2017		December 31, 2016		Dollar Change			Percent Change
	(Dollars in thousands)
Non-interest-bearing demand	$	1,522,856	$	1,383,951	$	138,905		10.0	%
Interest-bearing demand	893,544		903,314		(9,770		)	(1.1	)
Savings and money market	2,685,627		2,710,307		(24,680		)	(0.9	)
Time	1,460,479		1,367,904		92,575			6.8
Total deposits	$	6,562,506	$	6,365,476	$	197,030		3.1	%

Non-interest-bearing demand deposits increased by $138.9 million compared to December 31, 2016, while time deposits increased by $92.6 million for the same period. These increases were partially offset by reductions in savings and money market and interest-bearing demand deposits of $24.7 million and $9.8 million, respectively, compared to December 31, 2016.

Borrowings. FHLB advances increased $318.0 million, or 38.1%, to $1.15 billion at June 30, 2017 from $833.7 million at December 31, 2016. At June 30, 2017, the Company was eligible to borrow an additional $1.70 billion from the FHLB.

The table below shows FHLB advances by maturity and weighted average rate at June 30, 2017:



	Balance			Weighted Average Rate
	(Dollars in thousands)
Less than 90 days	$	303,547		1.23	%
90 days to less than one year	837,205			1.08
One to three years	8,318			4.87
After three to five years	1,910			5.51
After five years	713			5.45
	1,151,693			1.16	%
Restructuring prepayment penalty	(11		)
Total	$	1,151,682

Additionally, we have eight available federal funds lines of credit with other financial institutions totaling $255.0 million and was eligible to borrow $94.9 million from the Federal Reserve Bank discount window. At June 30, 2017, we also had a $25.0 million outstanding structured repurchase agreement with Credit Suisse, as well as $48.4 million in overnight repurchase agreements with depositors. Also, at June 30, 2017, subordinated debt totaled $134.3 million, which included $122.4 million of fixed-to-floating rate subordinated notes (reported net of $2.6 million in debt issuance costs.) $75.0 million of these notes were issued by the Company in November 2015, and $50.0 million additional notes were issued in September 2016 when the Company reopened the offering. The $134.3 million of subordinated debt also included $11.8 million of trust preferred securities that were acquired through the merger with LegacyTexas Group, Inc. All subordinated debt is reported net of purchase accounting fair value adjustments and debt issuance costs.

Accrued Expenses and Other Liabilities. Accrued expenses and other liabilities increased $66.2 million, or 116.1%, to $123.2 million at June 30, 2017 from $57.0 million at December 31, 2016. This increase was primarily due to timing of escrow payments.

Shareholders’ Equity. Total shareholders' equity increased by $39.9 million, or 4.5%, to $925.3 million at June 30, 2017 from $885.4 million at December 31, 2016.



	June 30, 2017			December 31, 2016			Dollar Change		Percent Change
	(Dollars in thousands)
Common stock	$	480		$	479		$	1	0.2	%
Additional paid-in capital	595,730			589,408			6,322		1.1
Retained earnings	342,384			310,641			31,743		10.2
Accumulated other comprehensive income (loss), net	(1,125		)	(2,713		)	1,588		(58.5	)
Unearned ESOP shares	(12,186		)	(12,450		)	264		(2.1	)
Total shareholders’ equity	$	925,283		$	885,365		$	39,918	4.5	%

The increase in shareholders' equity at June 30, 2017, compared to December 31, 2016, was primarily due to net income of $46.1 million recognized during the six months ended June 30, 2017, which was partially offset by the payment of quarterly dividends totaling $0.30 per common share, or $14.4 million, during the six months ended June 30, 2017.

Comparison of Results of Operations for the Three Months Ended June 30, 2017 and 2016

General. Net income for the three months ended June 30, 2017 was $27.9 million, an increase of $4.7 million, or 20.3%, from net income of $23.2 million for the three months ended June 30, 2016. The increase in net income was driven by a $10.5 million increase in interest income on loans, a $545,000 decrease in the provision for credit losses, and a $24,000 decrease in non-interest expense, which was partially offset by a $5.0 million increase in interest expense and a $1.4 million decrease in non-interest income. Basic earnings per share for the three months ended June 30, 2017 was $0.60, a $0.10 increase from $0.50 for the three months ended June 30, 2016. Diluted earnings per share for the three months ended June 30, 2017 was $0.59, a $0.09 increase from $0.50 for the three months ended June 30, 2016.

Interest Income. Interest income increased by $11.4 million, or 14.8%, to $88.7 million for the three months ended June 30, 2017 from $77.3 million for the three months ended June 30, 2016.



	Three Months Ended June 30,				Dollar Change			Percent Change
	2017		2016		Dollar Change			Percent Change
	(Dollars in thousands)
Interest and dividend income
Loans, including fees	$	83,917	$	73,376	$	10,541		14.4	%
Securities	3,464		3,118		346			11.1
Interest-bearing deposits in other financial institutions	955		392		563			143.6
FHLB and Federal Reserve Bank stock and other	411		450		(39		)	(8.7	)
	$	88,747	$	77,336	$	11,411		14.8	%

The $11.4 million increase in interest income for the three months ended June 30, 2017 compared to the three months ended June 30, 2016 was primarily due to a $10.5 million increase in interest income on loans, which was driven by increased volume in all loan portfolios with the exception of Warehouse Purchase Program and other consumer loans. The average balance of commercial real estate loans increased by $365.2 million from the second quarter of 2016, resulting in a $4.8 million increase in interest income. The average balance of commercial and industrial loans increased by $300.8 million from the second quarter of 2016, resulting in a $4.6 million increase in interest income. The average balance of consumer real estate loans increased by $123.9 million compared to the second quarter of 2016, leading to a $1.2 million increase in interest income. Despite a $91.2 million decline in the average balance of Warehouse Purchase Program loans compared to the prior year period, interest income on Warehouse Purchase Program loans increased by $218,000 due to a 42 basis point increase in the average yield earned for the second quarter of 2017, compared to the same quarter last year.

Interest income on loans for the second quarter of 2017 included $874,000 in accretion of purchase accounting fair value adjustments on acquired loans, which includes $233,000 on acquired commercial real estate loans, $155,000 on acquired commercial and industrial loans, $19,000 on acquired construction and land loans and $467,000 on acquired consumer loans.

Interest Expense. Interest expense increased by $5.0 million, or 63.2%, to $13.0 million for the three months ended June 30, 2017 from $8.0 million for the three months ended June 30, 2016.



	Three Months Ended June 30,				Dollar Change		Percent Change
	2017		2016		Dollar Change		Percent Change
	(Dollars in thousands)
Interest expense
Deposits	$	8,359	$	4,422	$	3,937	89.0	%
FHLB advances	2,427		2,103		324		15.4
Repurchase agreements and other borrowings	2,241		1,457		784		53.8
	$	13,027	$	7,982	$	5,045	63.2	%

The increase in interest expense for the three months ended June 30, 2017 compared to the same period in 2016 was primarily due to higher average deposit rates and increased volume in all deposit products. The average balance of savings and money market accounts increased by $537.3 million and the average balance of time deposits increased by $185.7 million compared to the second quarter of 2016, while the average rates paid on these deposits increased by 32 basis points and 26 basis points, respectively, compared to the prior year period. These increases in volume and rate on savings and money market accounts and time deposits increased interest expense compared to the second quarter of 2016 by $2.5 million and $1.2 million,

respectively. The average rate paid on interest-bearing demand deposits increased by eight basis points compared to the second quarter of 2016, while the average balance of interest-bearing demand deposits increased by $64.9 million for the same period. A $365.8 million decrease in the average balance of borrowings from the second quarter of 2016 was more than offset by a 69 basis point increase in the average rate, resulting in a $1.1 million increase in interest expense on borrowed funds.

Net Interest Income. Net interest income increased by $6.4 million, or 9.2%, to $75.7 million for the three months ended June 30, 2017 from $69.4 million for the three months ended June 30, 2016. The net interest margin for the second quarter of 2017 was 3.77%, a four basis point decrease from the second quarter of 2016. Accretion of interest resulting from the merger with LegacyTexas Group, Inc. on January 1, 2015, as well as the 2012 Highlands acquisition, contributed five basis points to the net interest margin and average yield on earning assets for the quarter ended June 30, 2017, compared to seven basis points for the quarter ended June 30, 2016. The average yield on earning assets for the second quarter of 2017 was 4.42%, a 17 basis point increase from the second quarter of 2016. The cost of deposits for the second quarter of 2017 was 0.53%, up 20 basis points from the second quarter of 2016.

Provision for Credit Losses. The Company recorded a provision for credit losses of $6.3 million for the quarter ended June 30, 2017, down $545,000 from $6.8 million for the quarter ended June 30, 2016. For more information about the Company's allowance for loan losses, please see "Management's Discussion and Analysis - Comparison of Financial Condition at June 30, 2017 and December 31, 2016 - Allowance for Loan Losses" contained in Item 2 of this report.

Non-interest Income. Non-interest income decreased by $1.4 million, or 10.2%, to $12.3 million for the three months ended June 30, 2017 from $13.7 million for the three months ended June 30, 2016.



	Three Months Ended June 30,					Dollar Change			Percent Change
	2017			2016		Dollar Change			Percent Change
	(Dollars in thousands)
Non-interest income
Service charges and other fees	$	9,896		$	8,927	$	969		10.9	%
Net gain on sale of mortgage loans held for sale	2,156			2,250		(94		)	(4.2	)
Bank-owned life insurance income	440			441		(1		)	(0.2	)
Net gain on securities transactions	—			65		(65		)	N/M¹
Gain on sale and disposition of assets	157			1,186		(1,029		)	(86.8	)
Other	(324		)	853		(1,177		)	N/M¹
	$	12,325		$	13,722	$	(1,397	)	(10.2	)%

¹N/M - not meaningful

The $1.4 million decrease in non-interest income for the three months ended June 30, 2017 compared to the three months ended June 30, 2016 was primarily due to a $1.2 million decrease in other non-interest income and a $1.0 million decrease in gain on sale and disposition of assets. Other non-interest income included $642,000 in income recorded in the second quarter of 2016 from insurance activities, which was not repeated in the second quarter of 2017 due to the sale of the Company's insurance subsidiary operations in the second quarter of 2016. Also, other non-interest income for the second quarter of 2016 included $365,000 in swap fee income recorded on interest rate derivative positions with our customers, with only $2,000 of swap fee income recognized in the second quarter of 2017. Gain on sale and disposition of assets decreased by $1.0 million from the second quarter of 2016, primarily due to a gain of $1.2 million on the sale of the Company's insurance subsidiary in the second quarter of 2016, which was not repeated in the second quarter of 2017. A $969,000 increase in service charges and other fees from the second quarter of 2016, which was driven by a $691,000 increase in commercial loan fee income (consisting of syndication, arrangement, non-usage and pre-payment fees) and a $234,000 increase in Warehouse Purchase Program fee income, partially offset these decreases compared to the 2016 period.

Non-interest Expense. Non-interest expense decreased by $24,000, or 0.1%, to $39.6 million for the three months ended June 30, 2017, from $39.6 million for the three months ended June 30, 2016.



	Three Months Ended June 30,				Dollar Change			Percent Change
	2017		2016		Dollar Change			Percent Change
	(Dollars in thousands)
Non-interest expense
Salaries and employee benefits	$	23,391	$	22,867	$	524		2.3	%
Advertising	1,179		1,035		144			13.9
Occupancy and equipment	3,656		3,779		(123		)	(3.3	)
Outside professional services	1,203		1,227		(24		)	(2.0	)
Regulatory assessments	1,271		1,330		(59		)	(4.4	)
Data processing	3,877		3,664		213			5.8
Office operations	2,404		2,541		(137		)	(5.4	)
Other	2,608		3,170		(562		)	(17.7	)
	$	39,589	$	39,613	$	(24	)	(0.1	)%

The $24,000 decrease in non-interest expense for the three months ended June 30, 2017 compared to the three months ended June 30, 2016 was primarily related to a $562,000 decline in other non-interest expense due to lower debit card fraud losses in the 2017 period, as well as decreases in office operations and occupancy and equipment expenses. These decreases were partially offset by a $524,000 increase in salaries and employee benefits expense compared to the 2016 period, which was driven by additional staff and merit increases, as well as increases in health care costs and share-based compensation expense related to new stock awards granted in the 2017 period. Data processing expense increased by $213,000 compared to the second quarter of 2016 primarily due to increased costs for system upgrades to enhance customer service and increase operating efficiency.

Income Tax Expense. For the three months ended June 30, 2017, we recognized income tax expense of $14.3 million on our pre-tax income, which was an effective tax rate of 33.8%, compared to income tax expense of $13.4 million for the three months ended June 30, 2016, which was an effective tax rate of 36.7%. The decrease in the effective tax rate in the 2017 period primarily resulted from the adoption of ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, in the 2017 period, which changed the tax effect of the difference between the amount of share-based compensation cost recognized for financial reporting purposes and the amount deducted on the Company's tax return for share-based payment awards. Previously, the tax effects of income tax deductions in excess of compensation cost (windfalls) and the tax effects of compensation cost in excess of income tax deductions (shortfalls) were recorded in equity to the extent of previously recognized windfalls, with the remainder recorded in income tax expense. Under ASU 2016-09, all tax effects of windfalls and shortfalls related to share-based payments are recorded through the income statement. The second quarter of 2016 also included a significant difference between the book basis and tax basis of the LegacyTexas Insurance Services assets sold during that period.

Comparison of Results of Operations for the Six Months Ended June 30, 2017 and 2016

General. Net income for the six months ended June 30, 2017 was $46.1 million, an increase of $826,000, or 1.8%, from net income of $45.3 million for the six months ended June 30, 2016. The increase in net income was driven by increased net interest income, and was partially offset by increased provision for credit losses and non-interest expense and lower non-interest income. Basic earnings per share for the six months ended June 30, 2017 was $0.99, an increase of $0.01 from $0.98 for the six months ended June 30, 2016. Diluted earnings per share for the six months ended June 30, 2017 was $0.98, an increase of $0.01 from $0.97 for the six months ended June 30, 2016.

Interest Income. Interest income increased by $26.3 million, or 17.6%, to $176.3 million for the six months ended June 30, 2017 from $149.9 million for the six months ended June 30, 2016.



	Six Months Ended June 30,				Dollar Change			Percent Change
	2017		2016		Dollar Change			Percent Change
	(Dollars in thousands)
Interest and dividend income
Loans, including fees	$	167,020	$	142,182	$	24,838		17.5	%
Securities	6,781		6,204		577			9.3
Interest-bearing deposits in other financial institutions	1,687		722		965			133.7
FHLB and Federal Reserve Bank stock and other	795		836		(41		)	(4.9	)
	$	176,283	$	149,944	$	26,339		17.6	%

The $26.3 million increase in interest income for the six months ended June 30, 2017 compared to the six months ending June 30, 2016 was primarily due to a $24.8 million, or 17.5%, increase in interest income on loans, which was driven by increased volume in commercial real estate, commercial and industrial, construction and land and consumer real estate loans. The average balance of commercial real estate loans increased by $430.5 million, resulting in a $10.5 million increase in interest income. The average balance of commercial and industrial loans increased by $329.3 million, and when combined with the impact of the complete amortization of a $4.7 million discount on a purchased energy loan that occurred during the six months ended June 30, 2017, resulted in a $12.9 million increase in interest income. The average balance of consumer real estate loans increased by $132.6 million, increasing interest income by $2.2 million. The increases in interest income were partially offset by a $431,000 decline in interest income recorded on Warehouse Purchase Program loans, the average balance of which declined by $94.8 million, and a $435,000 decline in interest income recorded on other consumer loans, the average balance of which declined by $14.1 million.

Interest Expense. Interest expense increased by $8.8 million, or 57.6%, to $24.0 million for the six months ended June 30, 2017 from $15.2 million for the six months ended June 30, 2016.



	Six Months Ended June 30,				Dollar Change		Percent Change
	2017		2016		Dollar Change		Percent Change
	(Dollars in thousands)
Interest expense
Deposits	$	15,469	$	8,544	$	6,925	81.1	%
FHLB advances	4,059		3,776		283		7.5
Repurchase agreements and other borrowings	4,487		2,919		1,568		53.7
	$	24,015	$	15,239	$	8,776	57.6	%

The increase in interest expense for the six months ended June 30, 2017 compared to the same period in 2016, was primarily due to an increase in interest expense on deposits, which was driven by increased rates paid on all deposit categories during the six months ended June 30, 2017 compared to the same period in 2016, which included a 27 basis point increase in the average rate paid on savings and money market deposits and a 23 basis point increase in the average rate paid on time deposits. Additionally, volume in all deposit categories increased during the six months ended June 30, 2017 compared to the same period in 2016, which included a $490.4 million increase in the average balance of savings and money market deposits and a $225.4 million increase in the average balance of time deposits. Interest expense on borrowings for the six months ended

June 30, 2017 increased by $1.9 million compared to the six months ended June 30, 2016, primarily due to a 55 basis point increase in the average rate paid on borrowings.

Net Interest Income. Net interest income increased by $17.6 million, or 13.0%, to $152.3 million for the six months ended June 30, 2017 from $134.7 million for the six months ended June 30, 2016. The net interest margin increased by three basis points to 3.88% for the six months ended June 30, 2017 from 3.85% for the same period last year. The net interest rate spread decreased by three basis points to 3.69% for the six months ended June 30, 2017 from 3.72% for the same period last year. The average yield on earning assets for the six months ended June 30, 2017 was 4.50%, a 21 basis point increase from the six months ended June 30, 2016, while the average cost of interest-bearing liabilities increased 24 basis points.

Provision for Credit Losses. The provision for credit losses was $28.6 million for the six months ended June 30, 2017, an increase of $13.0 million from $15.6 million for the six months ended June 30, 2016. The increase in the provision for credit losses was primarily related to a $16.4 million charge-off recorded during the first quarter of 2017 on the sale of a note at a deep discount after the borrower experienced liquidity constraints during the first quarter of 2017 that challenged its ongoing viability. This charged-off relationship was part of the Company's corporate healthcare finance portfolio, which is reported on the balance sheet as commercial and industrial loans and totaled $44.1 million at June 30, 2017. For more information about the Company's allowance for loan losses, please see "Management's Discussion and Analysis - Comparison of Financial Condition at June 30, 2017 and December 31, 2016 - Allowance for Loan Losses" contained in Item 2 of this report.

Non-interest Income. Non-interest income decreased by $3.9 million, or 13.8%, to $24.5 million for the six months ended June 30, 2017 from $28.4 million for the six months ended June 30, 2016.



	Six Months Ended June 30,					Dollar Change			Percent Change
	2017			2016		Dollar Change			Percent Change
	(Dollars in thousands)
Non-interest income
Service charges and other fees	$	18,327		$	17,108	$	1,219		7.1	%
Net gain on sale of mortgage loans held for sale	3,784			3,830		(46		)	(1.2	)
Bank-owned life insurance income	862			867		(5		)	(0.6	)
Net gain (loss) on securities transactions	(19		)	65		(84		)	N/M¹
Gain on sale and disposition of assets	1,556			5,258		(3,702		)	(70.4	)
Other	(55		)	1,249		(1,304		)	N/M¹
	$	24,455		$	28,377	$	(3,922	)	(13.8	)%

¹N/M - not meaningful

The decrease in non-interest income for the six months ended June 30, 2017 compared to the six months ending June 30, 2016 was primarily due to decreases in gain on sale and disposition of assets, as well as other non-interest income. A $3.7 million decrease in gain on sale and disposition of assets resulted from a $3.9 million gain recorded in the first quarter of 2016 on the sale of two buildings, as well as a gain of $1.2 million recorded in the second quarter of 2016 on the sale of the Company's insurance subsidiary operations, partially offset by a gain of $1.3 million resulting from the sale of a parcel of land in the first quarter of 2017. Other non-interest income declined by $1.3 million as the second quarter of 2016 included $1.3 million in income recorded from insurance activities, which was not repeated in the 2017 period due to the above-mentioned sale of the Company’s insurance subsidiary operations. The $1.2 million increase in service charges and other fees included a $410,000 increase in commercial loan fee income (consisting of syndication, arrangement, non-usage and pre-payment fees), a $402,000 increase in Warehouse Purchase Program fee income, and a $382,000 increase in debit card interchange income and Mastercard incentive accruals.

Non-interest Expense. Non-interest expense increased by $2.2 million, or 2.8%, to $79.3 million for the six months ended June 30, 2017 from $77.2 million for the six months ended June 30, 2016.



	Six Months Ended June 30,				Dollar Change			Percent Change
	2017		2016		Dollar Change			Percent Change
	(Dollars in thousands)
Non-interest expense
Salaries and employee benefits	$	47,835	$	45,204	$	2,631		5.8	%
Advertising	1,996		2,071		(75		)	(3.6	)
Occupancy and equipment	7,310		7,470		(160		)	(2.1	)
Outside professional services	2,359		2,043		316			15.5
Regulatory assessments	2,256		2,463		(207		)	(8.4	)
Data processing	7,772		6,994		778			11.1
Office operations	4,680		5,009		(329		)	(6.6	)
Other	5,133		5,901		(768		)	(13.0	)
	$	79,341	$	77,155	$	2,186		2.8	%

The increase in non-interest expense included a $2.6 million increase in salaries and employee benefits expense for the six months ending June 30, 2017, which was driven by additional staff and merit increases, as well as increases in share-based compensation, performance incentive accruals, payroll taxes and health care expenses. These increases in salaries and employee benefits expense were partially offset by a reduction in expense related to the third quarter 2016 pay-off of one of the Company's ESOP loans and additional deferred salary costs related to loan originations that will be accounted for over the lives of the related loans. Data processing expense increased by $778,000, primarily due to increased costs compared to the prior year for system upgrades to enhance customer service and increase operating efficiency, while outside professional services expense increased by $316,000 due to higher legal fees in the 2017 period. These increases were partially offset by a $768,000 decline in other non-interest expense due to lower debit card fraud losses in the 2017 period. Office operations and occupancy and equipment declined $329,000 and $160,000, respectively, compared to the prior year period, as the Company has renegotiated contracts and closed locations.

Income Tax Expense. For the six months ended June 30, 2017, we recognized income tax expense of $22.7 million on our pre-tax income, which was an effective tax rate of 33.0%, compared to income tax expense of $25.0 million for the six months ended June 30, 2016, which was an effective tax rate of 35.6%. The decrease in the effective tax rate in the 2017 period primarily resulted from the adoption of ASU 2016-09, Improvements to Employee Share-Based Payment Accounting, in the 2017 period, which changed the tax effect of the difference between the amount of share-based compensation cost recognized for financial reporting purposes and the amount deducted on the Company's tax return for share-based payment awards. Previously, the tax effects of income tax deductions in excess of compensation cost (windfalls) and the tax effects of compensation cost in excess of income tax deductions (shortfalls) were recorded in equity to the extent of previously recognized windfalls, with the remainder recorded in income tax expense. Under ASU 2016-09, all tax effects of windfalls and shortfalls related to share-based payments are recorded through the income statement. The 2016 period also included a significant difference between the book basis and tax basis of the LegacyTexas Insurance Services assets sold during that period.

Average Balances, Net Interest Income, Yields Earned and Rates Paid

The following table presents, for the periods indicated, the total dollar amount of interest income from average interest-earning assets and the resultant yields, as well as the interest expense on average interest-bearing liabilities, expressed both in dollars and rates. Also presented are the weighted average yields on interest-earning assets, rates paid on interest-bearing liabilities and the resultant spread. All average balances are daily average balances. Non-accruing loans have been included in the table as loans carrying a zero yield. Yields earned and rates paid are calculated at the portfolio level using the actual number of days in each month over the actual number of days in the year, with the exception of the securities portfolios and the consumer real estate and loans held for sale loan portfolios, which are calculated using 30 days in a month over 360 days in a year.



		Three Months Ended June 30,
		2017							2016
		Average Outstanding Balance			Interest Earned/Paid		Yield/ Rate		Average Outstanding Balance			Interest Earned/Paid		Yield/ Rate
		(Dollars in thousands)
Interest-earning assets:
	Commercial real estate	$	2,781,472		$	35,222	5.08	%	$	2,416,288		$	30,458	5.07	%
	Warehouse Purchase Program	896,018			8,260		3.70		987,225			8,042		3.28
	Commercial and industrial	1,995,882			23,038		4.63		1,695,037			18,477		4.38
	Construction and land	278,986			3,559		5.12		266,968			3,566		5.37
	Consumer real estate	1,126,744			12,923		4.59		1,002,848			11,765		4.69
	Other consumer	49,721			690		5.57		63,525			893		5.65
	Loans held for sale	22,581			225		3.99		19,726			175		3.55
	Less: deferred fees and allowance for loan loss	(68,779		)	—		—		(55,940		)	—		—
	Loans receivable ¹	7,082,625			83,917		4.75		6,395,677			73,376		4.61
	Agency mortgage-backed securities	320,361			1,724		2.15		352,330			1,837		2.09
	Agency collateralized mortgage obligations	165,862			974		2.35		81,651			476		2.33
	Investment securities	108,946			766		2.81		123,510			805		2.61
	FHLB and FRB stock and other restricted securities	50,436			411		3.26		65,657			450		2.74
	Interest-earning deposit accounts	324,406			955		1.18		291,754			392		0.54
Total interest-earning assets		8,052,636			88,747		4.42		7,310,579			77,336		4.25
Non-interest-earning assets		439,060							428,436
Total assets		$	8,491,696						$	7,739,015
Interest-bearing liabilities:
	Interest-bearing demand	$	849,633		1,223		0.58		$	784,741		966		0.50
	Savings and money market	2,703,291			3,787		0.56		2,166,002			1,318		0.24
	Time	1,355,681			3,349		0.99		1,169,960			2,138		0.73
	Borrowings	1,142,998			4,668		1.64		1,508,787			3,560		0.95
Total interest-bearing liabilities		6,051,603			13,027		0.86		5,629,490			7,982		0.57
Non-interest-bearing demand		1,410,566							1,194,118
Non-interest-bearing liabilities		114,963							79,655
Total liabilities		7,577,132							6,903,263
Total shareholders’ equity		914,564							835,752
Total liabilities and shareholders’ equity		$	8,491,696						$	7,739,015
Net interest income and margin					$	75,720	3.77	%				$	69,354	3.81	%
Net interest income and margin (tax-equivalent basis) ²					$	75,979	3.78	%				$	69,620	3.83	%
Net interest rate spread							3.56	%						3.68	%
Net earning assets		$	2,001,033						$	1,681,089
Average interest-earning assets to average interest-bearing liabilities		133.07		%					129.86		%
¹	Calculated net of deferred fees, loan discounts, loans in process and allowance for loan losses.
²	In order to make pretax income and resultant yields on tax-exempt investments and loans comparable to those on taxable investments and loans, a tax-equivalent adjustment has been computed using a federal income tax rate of 35% for 2017 and 2016. Tax-exempt investments and loans had an average balance of $102.5 million and $106.4 million for the three months ended June 30, 2017 and 2016, respectively.



		Six Months Ended June 30,
		2017							2016
		Average Outstanding Balance			Interest Earned/Paid		Yield/ Rate		Average Outstanding Balance			Interest Earned/Paid		Yield/ Rate
		(Dollars in thousands)
Interest-earning assets:
	Commercial real estate	$	2,752,978		$	69,146	5.07	%	$	2,322,485		$	58,604	5.07	%
	Warehouse Purchase Program	797,216			14,285		3.61		892,028			14,716		3.32
	Commercial and industrial	1,982,896			49,259		5.01		1,653,581			36,406		4.43
	Construction and land	284,888			7,275		5.15		268,329			7,170		5.37
	Consumer real estate	1,108,822			25,303		4.56		976,208			23,090		4.73
	Other consumer	51,180			1,406		5.54		65,290			1,841		5.67
	Loans held for sale	17,651			346		3.92		19,657			355		3.61
	Less: deferred fees and allowance for loan loss	(67,350		)	—		—		(52,559		)	—		—
	Loans receivable ¹	6,928,281			167,020		4.86		6,145,019			142,182		4.65
	Agency mortgage-backed securities	323,318			3,396		2.10		348,546			3,640		2.09
	Agency collateralized mortgage obligations	154,828			1,832		2.37		80,475			939		2.33
	Investment securities	111,650			1,553		2.78		123,395			1,625		2.63
	FHLB and FRB stock and other restricted securities	47,736			795		3.33		58,998			836		2.83
	Interest-earning deposit accounts	328,512			1,687		1.04		265,165			722		0.55
Total interest-earning assets		7,894,325			176,283		4.50		7,021,598			149,944		4.29
Non-interest-earning assets		438,442							426,539
Total assets		$	8,332,767						$	7,448,137
Interest-bearing liabilities:
	Interest-bearing demand	$	852,339		2,344		0.55		$	779,770		1,899		0.49
	Savings and money market	2,678,217			6,812		0.51		2,187,839			2,659		0.24
	Time	1,335,258			6,313		0.95		1,109,885			3,986		0.72
	Borrowings	1,092,199			8,546		1.58		1,307,682			6,695		1.03
Total interest-bearing liabilities		5,958,013			24,015		0.81		5,385,176			15,239		0.57
Non-interest-bearing demand		1,376,132							1,164,094
Non-interest-bearing liabilities		91,241							71,722
Total liabilities		7,425,386							6,620,992
Total shareholders’ equity		907,381							827,145
Total liabilities and shareholders’ equity		$	8,332,767						$	7,448,137
Net interest income and margin					$	152,268	3.88	%				$	134,705	3.85	%
Net interest income and margin (tax-equivalent basis) ²					$	152,791	3.90	%				$	135,243	3.87	%
Net interest rate spread							3.69	%						3.72	%
Net earning assets		$	1,936,312						$	1,636,422
Average interest-earning assets to average interest-bearing liabilities		132.50		%					130.39		%
¹	Calculated net of deferred fees, loan discounts, loans in process and allowance for loan losses.
²	In order to make pretax income and resultant yields on tax-exempt investments and loans comparable to those on taxable investments and loans, a tax-equivalent adjustment has been computed using a federal income tax rate of 35% for 2017 and 2016. Tax-exempt investments and loans had an average balance of $103.2 million and $107.3 million for the six months ended June 30, 2017 and 2016, respectively.

Rate/Volume Analysis

The following table presents the dollar amount of changes in interest income and interest expense for major components of interest-earning assets and interest-bearing liabilities. It distinguishes between the changes related to outstanding balances and those due to changes in interest rates. The change in interest attributable to rate has been determined by applying the change in rate between periods to average balances outstanding in the earlier period. The change in interest due to volume has been determined by applying the rate from the earlier period to the change in average balances outstanding between periods. Changes attributable to both rate and volume which cannot be segregated have been allocated proportionately based on the changes due to rate and the changes due to volume.



	Three Months Ended June 30,
	2017 versus 2016
	Increase (Decrease) Due to						Total Increase
	Volume			Rate			(Decrease)
	(Dollars in thousands)
Interest-earning assets:
Commercial real estate	$	4,624		$	140		$	4,764
Warehouse Purchase Program	(783		)	1,001			218
Commercial and industrial	3,424			1,137			4,561
Construction and land	157			(164		)	(7		)
Consumer real estate	1,426			(268		)	1,158
Other consumer	(192		)	(11		)	(203		)
Loans held for sale	27			23			50
Loans receivable	8,683			1,858			10,541
Agency mortgage-backed securities	(171		)	58			(113		)
Agency collateralized mortgage obligations	494			4			498
Investment securities	(99		)	60			(39		)
FHLB and FRB stock and other restricted securities	(115		)	76			(39		)
Interest-earning deposit accounts	48			515			563
Total interest-earning assets	8,840			2,571			11,411
Interest-bearing liabilities:
Interest-bearing demand	84			173			257
Savings and money market	395			2,074			2,469
Time	377			834			1,211
Borrowings	(1,020		)	2,128			1,108
Total interest-bearing liabilities	(164		)	5,209			5,045
Net interest income	$	9,004		$	(2,638	)	$	6,366



	Six Months Ended June 30,
	2017 versus 2016
	Increase (Decrease) Due to						Total Increase
	Volume			Rate			(Decrease)
	(Dollars in thousands)
Interest-earning assets:
Commercial real estate	$	10,814		$	(272	)	$	10,542
Warehouse Purchase Program	(1,639		)	1,208			(431		)
Commercial and industrial	7,816			5,037			12,853
Construction and land	431			(326		)	105
Consumer real estate	3,049			(836		)	2,213
Other consumer	(389		)	(46		)	(435		)
Loans held for sale	(38		)	29			(9		)
Loans receivable	20,044			4,794			24,838
Agency mortgage-backed securities	(265		)	21			(244		)
Agency collateralized mortgage obligations	880			13			893
Investment securities	(160		)	88			(72		)
FHLB and FRB stock and other restricted securities	(174		)	133			(41		)
Interest-earning deposit accounts	205			760			965
Total interest-earning assets	20,530			5,809			26,339
Interest-bearing liabilities:
Interest-bearing demand	186			259			445
Savings and money market	707			3,446			4,153
Time	910			1,417			2,327
Borrowings	(1,242		)	3,093			1,851
Total interest-bearing liabilities	561			8,215			8,776
Net interest income	$	19,969		$	(2,406	)	$	17,563

Liquidity

Management maintains a liquidity position that it believes will adequately provide funding for loan demand and deposit run-off that may occur in the normal course of business. The Company relies on a number of different funding sources in order to meet its potential liquidity demands. The primary funding sources are increases in deposit accounts and cash flows from loan payments and the securities portfolio.

Management also has several secondary sources of funds available to meet potential liquidity demands. At June 30, 2017, the Company had additional borrowing capacity of $1.70 billion with the FHLB and $255.0 million in federal funds lines of credit available with other financial institutions. The Company may also use the discount window at the Federal Reserve Bank as a source of short-term funding. Federal Reserve Bank borrowing capacity varies based upon securities pledged to the discount window line. At June 30, 2017, securities pledged had a collateral value of $94.9 million.

At June 30, 2017, the Company had classified 67.5% of its securities portfolio as available for sale (including pledged securities), providing an additional source of liquidity. Management believes that because active markets exist and our securities portfolio is of high quality, our available for sale securities are marketable. Selling participations in loans we originate, including portions of commercial real estate loans, creates another source of liquidity and allows us to manage borrower concentration risk as well as interest rate risk.

Liquidity management is both a daily and long-term function of business management. Short-term excess liquidity is generally placed in short-term investments, such as overnight deposits at the Federal Reserve Bank and correspondent banks. On a longer term basis, we maintain a strategy of investing in various lending products and investment securities, including mortgage-backed securities.

Planning for the Company's normal business liquidity needs, both expected and unexpected, is done on a daily and short-term basis through the cash management function. On a longer-term basis it is accomplished through the budget and strategic planning functions, with support from internal asset/liability management software model projections.

The Liquidity Committee monitors liquidity positions and projections. Liquidity contingency planning is added to the Committee's process by focusing on possible scenarios that would stress liquidity beyond the Bank's normal business liquidity needs. These scenarios may include macro-economic and bank specific situations focusing on high probability-high impact, high probability-low impact, low probability-high impact, and low probability-low impact stressors.

Management recognizes that the factors and conditions leading up to and occurring during a liquidity stress event cannot be precisely defined or listed. Nevertheless, management believes that liquidity stress events can be categorized into sources and uses of liquidity, and levels of severity, with responses that apply to various situations.

The Company, which is a separate legal entity from the Bank and must provide for its own liquidity, had liquid assets of $23.7 million on an unconsolidated basis at June 30, 2017. In addition to its operating expenses, the Company is responsible for paying any dividends declared to its shareholders, funds paid out for Company stock repurchases, and payments on trust-preferred securities and subordinated debt held at the Company level. The Company has the ability to receive dividends or capital distributions from the Bank, although there are regulatory restrictions on the ability of the Bank to pay dividends. See “How We Are Regulated - Limitations on Dividends and Other Capital Distributions” under Item 1 and Note 16 of the Notes to Consolidated Financial Statements contained in Item 8 of the Company's 2016 Form 10-K.

The Company uses its sources of funds primarily to meet its expenses, pay maturing deposits and fund withdrawals, and to fund loan commitments. Total approved loan commitments (including Warehouse Purchase Program commitments, unused lines of credit and letters of credit) amounted to $2.50 billion and $2.56 billion at June 30, 2017, and December 31, 2016, respectively. It is management's policy to offer deposit rates that are competitive with other local financial institutions. Based on this management strategy, we believe that a majority of maturing deposits will remain with the Company. Certificates of deposit scheduled to mature in one year or less at June 30, 2017 totaled $1.04 billion with a weighted average rate of 0.94%.

During the six months ended June 30, 2017, cash and cash equivalents increased by $29.0 million, or 10.0%, to $318.2 million at June 30, 2017 from $289.2 million at December 31, 2016. Operating activities provided cash of $139.9 million and financing activities provided cash of $489.5 million, which was partially offset by cash used in investing activities of $600.4 million. Primary sources of cash for the six months ended June 30, 2017 included proceeds from pay-offs of Warehouse Purchase Program loans totaling $10.03 billion, proceeds from FHLB advances totaling $325.0 million, proceeds from the sale of loans held for sale totaling $101.9 million, and a $197.0 million increase in deposits. Primary uses of cash for the six months

ended June 30, 2017 included originations of Warehouse Purchase Program loans totaling $10.23 billion and net fundings of loans held for investment totaling $365.7 million.

Please see Item 1A (Risk Factors) under Part 1 of the Company's 2016 Form 10-K for information regarding liquidity risk.

Off-Balance Sheet Arrangements, Contractual Obligations and Commitments

The following table presents our longer term contractual obligations and commitments to extend credit to our borrowers, in aggregate and by payment due dates (not including any interest amounts). In addition to the commitments below, the Company had overdraft protection available to its depositors in the amount of $85.1 million and credit card guarantees outstanding in the amount of $4.3 million at June 30, 2017.



	June 30, 2017
	Less than One Year		One through Three Years		Four through Five Years		After Five Years		Total
	(Dollars in thousands)
Contractual obligations:
Deposits without a stated maturity	$	5,102,027	$	—	$	—	$	—	$	5,102,027
Certificates of deposit	1,042,211		336,523		78,415		3,330		1,460,479
FHLB advances ¹	1,140,752		8,318		1,910		713		1,151,693
Repurchase agreements	73,433		—		—		—		73,433
Subordinated debt ¹	—		—		—		140,464		140,464
Private equity fund for Community Reinvestment Act purposes	1,680		—		—		—		1,680
Operating leases (premises)	6,125		10,101		8,593		17,974		42,793
Total contractual obligations	$	7,366,228	$	354,942	$	88,918	$	162,481	7,972,569
Off-balance sheet loan commitments: ²
Unused commitments to extend credit	$	822,280	$	612,709	$	345,246	$	69,677	1,849,912
Unused capacity on Warehouse Purchase Program loans ³	558,257		67,000		—		—		625,257
Standby letters of credit	20,034		4,617		2,186		223		27,060
Total loan commitments	$	1,400,571	$	684,326	$	347,432	$	69,900	2,502,229
Total contractual obligations and loan commitments									$	10,474,798


¹	FHLB advances and subordinated debt are shown at their contractual amounts.


²	Loans having no stated maturity are reported in the “Less than One Year” category.


³	In regards to unused capacity on Warehouse Purchase Program loans, the Company has established a maximum purchase facility amount, but reserves the right, at any time, to refuse to buy any mortgage loans offered for sale by its mortgage banking company customers for any reason in the Company's sole and absolute discretion.

Capital Resources

Consistent with our goal to operate a sound and profitable organization, our policy is for the Company and its subsidiary bank to maintain “well-capitalized” status under the FRB regulations. Based on capital levels at June 30, 2017 and December 31, 2016, the Bank and the Company were considered to be well-capitalized. At June 30, 2017, the Bank's equity totaled $1.01 billion. The Company's consolidated equity totaled $925.3 million, or 10.3% of total assets, at June 30, 2017. Warehouse Purchase Program loan volumes can increase significantly on the last day of the month, potentially leading to a significant difference between the ending and average balance of Warehouse Purchase Program loans. At June 30, 2017, Warehouse Purchase Program loans totaled $1.26 billion, compared to an average balance of $896.0 million for the three months ended June 30, 2017. Because the capital ratios below are calculated using ending risk-weighted assets and Warehouse Purchase Program loans are risk-weighted at 100%, an end of period increase in these balances can significantly impact the Company's reported capital ratios.



	Actual				Required for Capital Adequacy Purposes				To Be Well-Capitalized
	Amount		Ratio		Amount		Ratio		Amount		Ratio
June 30, 2017	(Dollars in thousands)
Total risk-based capital
Company	$	958,844	11.43	%	$	671,326	8.00	%	$	839,158	10.00	%
Bank	912,580		10.88		671,285		8.00		839,106		10.00
Tier 1 risk-based capital
Company	760,081		9.06		503,495		6.00		503,495		6.00
Bank	836,260		9.97		503,464		6.00		671,285		8.00
Common equity tier 1 risk-based capital
Company	748,246		8.92		377,621		4.50		n/a ¹		n/a ¹
Bank	836,260		9.97		377,598		4.50		545,419		6.50
Tier 1 leverage
Company	760,081		9.14		332,743		4.00		n/a ¹		n/a ¹
Bank	836,260		10.05		332,817		4.00		416,022		5.00
December 31, 2016
Total risk-based capital
Company	$	910,040	11.71	%	$	621,870	8.00	%	$	777,338	10.00	%
Bank	869,523		11.19		621,840		8.00		777,300		10.00
Tier 1 risk-based capital
Company	721,600		9.28		466,403		6.00		466,403		6.00
Bank	803,374		10.34		466,380		6.00		621,840		8.00
Common equity tier 1 risk-based capital
Company	709,858		9.13		349,802		4.50		n/a ¹		n/a ¹
Bank	803,374		10.34		349,785		4.50		505,245		6.50
Tier 1 leverage
Company	721,600		8.73		330,782		4.00		n/a ¹		n/a ¹
Bank	803,374		9.71		330,873		4.00		413,591		5.00
¹ Not applicable

Pursuant to the capital regulations of the FRB and the other federal banking agencies, the Company and the Bank must maintain a capital conservation buffer consisting of additional common equity tier 1 capital greater than 2.5% of risk-weighted assets above the required minimum levels of risk-based common equity tier 1 capital, tier 1 capital and total capital in order to avoid limitations on paying dividends, repurchasing shares, and paying discretionary bonuses. For our fiscal year ending December 31, 2017, the capital conservation buffer rule requires a buffer of greater than 1.25% of risk-weighted assets, which amount will increase by 0.625% yearly until the requirement is fully phased-in on January 1, 2019, when the buffer must exceed 2.5% of risk-weighted assets. At June 30, 2017, the Company's and the Bank's common equity tier 1 capital exceeded the required capital conservation buffer.



Item 3.	Quantitative and Qualitative Disclosures about Market Risk

Asset/Liability Management

Our Risk When Interest Rates Change. The rates of interest we earn on assets and pay on liabilities generally are established contractually for a period of time. However, market rates change over time. Like other financial institutions, our results of operations are impacted by changes in market interest rates and the interest rate sensitivity of our assets and liabilities. The risk associated with changes in market interest rates and our ability to adapt to these changes is known as interest rate risk and is our most significant market risk.

How We Measure Our Risk of Interest Rate Changes. As part of our attempt to manage our exposure to changes in market interest rates and comply with applicable regulations, we calculate and monitor our interest rate risk. In doing so, we analyze and manage assets and liabilities based on their interest rates and contractual cash flows, timing of maturities, prepayment potential, repricing opportunities, and sensitivity to actual or potential changes in market interest rates.

The Company is subject to interest rate risk to the extent that its interest-bearing liabilities, primarily deposits, FHLB advances and other borrowings, reprice more rapidly or slowly, or at different rates (basis risk) than its interest-earning assets, primarily loans and investment securities.

The Bank calculates interest rate risk by entering relevant contractual and projected information into its asset/liability management software simulation model. Data required by the model includes balance, rate, pay down schedule, and maturity. For items that contractually reprice, the repricing index, spread, and frequency are entered, including any initial, periodic, and lifetime interest rate caps and floors.

The Bank has adopted an asset and liability management policy. This policy sets the foundation for monitoring and managing the potential for adverse effects of material prolonged increases or decreases in interest rates on our results of operations. The Board of Directors sets the asset and liability policy for the Bank, which is implemented by the Asset/Liability Management Committee.

The purpose of the Asset/Liability Management Committee is to monitor, communicate, coordinate, and direct asset/liability management consistent with our business plan and board-approved policies. The Committee directs and monitors the volume and mix of assets and funding sources, taking into account relative costs and spreads, interest rate sensitivity and liquidity needs. The objectives are to manage assets and funding sources to produce results that are consistent with liquidity, capital adequacy, interest rate risk, growth, and profitability goals.

The Committee meets on a quarterly basis to, among other things, protect capital through earnings stability over the interest rate cycle, maintain our well-capitalized status, and provide a reasonable return on investment. The Committee recommends appropriate strategy changes based on this review. The Committee is responsible for reviewing and reporting the effects of policy implementation and strategies to the Board of Directors at least quarterly. Senior managers oversee the process on a daily basis.

A key element of the Bank’s asset/liability management strategy is to protect earnings by managing the inherent maturity and repricing mismatches between its interest-earning assets and interest-bearing liabilities. The Bank generally manages such earnings exposure through the addition of loans, investment securities and deposits with risk mitigating characteristics and by entering into appropriate term FHLB advance agreements.

As part of its efforts to monitor and manage interest rate risk, the Bank uses the economic value of equity (“EVE”) methodology adopted by the Federal Financial Institutions Examination Council ("FFIEC") as part of its capital regulations. In essence, the EVE approach calculates the difference between the present value of expected cash flows from assets and liabilities. In addition to monitoring selected measures of EVE, management also calculates and monitors potential effects on net interest income resulting from increases or decreases in market interest rates. This approach uses the earnings at risk (“EAR”) methodology adopted by the Joint Agency Policy Statement on Interest Rate Risk as part of its capital regulations. EAR calculates estimated net interest income using a flat balance sheet approach over a twelve month time horizon. The EAR process is used in conjunction with EVE measures to identify interest rate risk on both a global and account level basis. Management and the Board of Directors review EVE and EAR measurements at least quarterly to review historical trends, projected measurements, and to determine whether the Bank's interest rate exposure is within the limits established by the Board of Directors.

The Bank's asset/liability management strategy sets acceptable limits for the percentage change in EVE and EAR given changes in interest rates. For instantaneous, parallel, and sustained interest rate increases or decreases of 100 basis points, the Bank's policy indicates that change in EVE should not decrease by more than 5%, and for increases of 200, 300, and 400 basis points, the change in EVE should not exceed a 10%, 12.5% and 15% decrease, respectively. For an instantaneous, parallel, and sustained interest rate increase or decrease of 100 basis points, the Bank's policy indicates that the change in EAR should not exceed a 7% decrease, and for increases of 200, 300, and 400 basis points, the change in EAR should not exceed decreases of 10%, 13%, and 15%, respectively.

As illustrated in the tables below, the Bank was within policy limits for all scenarios tested. The tables presented below, as of June 30, 2017, and December 31, 2016, are internal analyses of our interest rate risk as measured by changes in EVE and EAR for instantaneous, parallel, and sustained shifts for all market rates and yield curves, in 100 basis point increments, up 400 basis points and down 100 basis points.

As illustrated in the tables below, our EVE would be negatively impacted by a parallel, instantaneous, and sustained increase in market rates. Such an increase in rates would negatively impact EVE as a result of the duration of assets, including loans and investments, being longer than the duration of liabilities, primarily deposit accounts and FHLB borrowings. In rising rate environments, deposits are more beneficial to the Bank’s EVE than comparable wholesale funding. As illustrated in the table below, at June 30, 2017, our EAR would be positively impacted by a parallel, instantaneous, and sustained increase in market rates. Our EVE and EAR would also be negatively impacted by a 100 basis point decline in market rates.



June 30, 2017
Change in Interest Rates in Basis Points		Economic Value of Equity						Earnings at Risk (12 months)
Change in Interest Rates in Basis Points		Estimated EVE	Estimated Increase / (Decrease) in EVE				EVE Ratio %	Estimated Net Interest Income	Increase / (Decrease) in Estimated Net Interest Income
		$ Amount	$ Change		% Change			$ Amount	$ Change		% Change
		(Dollars in thousands)
400		1,165,160	(122,054	)	(9.48	)	14.01	347,301	11,380		3.39
300		1,204,854	(82,360	)	(6.40	)	14.25	344,750	8,829		2.63
200		1,240,067	(47,147	)	(3.66	)	14.42	342,010	6,089		1.81
100		1,269,970	(17,244	)	(1.34	)	14.52	339,114	3,193		0.95
—		1,287,214	—		—		14.49	335,921	—		—
(100	)	1,237,907	(49,307	)	(3.83	)	13.73	323,326	(12,595	)	(3.75	)



December 31, 2016
Change in Interest Rates in Basis Points		Economic Value of Equity						Earnings at Risk (12 months)
Change in Interest Rates in Basis Points		Estimated EVE	Estimated Increase / (Decrease) in EVE				EVE Ratio %	Estimated Net Interest Income	Increase / (Decrease) in Estimated Net Interest Income
		$ Amount	$ Change		% Change			$ Amount	$ Change		% Change
		(Dollars in thousands)
400		1,137,560	(127,508	)	(10.08	)	14.74	312,457	1,807		0.58
300		1,180,103	(84,965	)	(6.72	)	15.02	312,109	1,459		0.47
200		1,216,125	(48,943	)	(3.87	)	15.21	311,549	899		0.29
100		1,248,129	(16,939	)	(1.34	)	15.34	310,953	303		0.10
—		1,265,068	—		—		15.30	310,650	—		—
(100	)	1,230,570	(34,498	)	(2.73	)	14.64	297,726	(12,924	)	(4.16	)

The Bank's EVE was $1.29 billion, or 14.49%, of the market value of portfolio assets as of June 30, 2017, a $22.1 million increase from $1.27 billion, or 15.30%, of the market value of portfolio assets as of December 31, 2016. Based upon the assumptions utilized, an immediate 200 basis point increase in market interest rates would result in a $47.1 million decrease in our EVE at June 30, 2017 compared to a $48.9 million decrease at December 31, 2016, and would result in a seven basis point decrease in our EVE ratio to 14.42% at June 30, 2017 compared to a nine basis point decrease to 15.21% at December 31, 2016. An immediate 100 basis point decrease in market interest rates would result in a $49.3 million decrease in our EVE at June 30, 2017 compared to a $34.5 million decrease at December 31, 2016, and would result in a 76 basis point decrease in our EVE ratio to 13.73% at June 30, 2017, as compared to a 66 basis point decrease in our EVE ratio to 14.64% at December 31, 2016.

The Bank's projected EAR for the twelve months ending June 30, 2018 is $335.9 million, compared to $310.7 million for the twelve months ending December 31, 2017. Based on the assumptions utilized, an immediate 200 basis point increase in market rates would result in a $6.1 million, or 1.81%, increase in net interest income for the twelve months ending June 30, 2018 compared to an $899,000, or 0.29%, increase for the twelve months ending December 31, 2017. An immediate 100 basis point decrease in market rates would result in a $12.6 million decrease in net interest income for the twelve months ending June 30, 2018 compared to a $12.9 million decrease for the twelve months ending December 31, 2017.

We have implemented a strategic plan to mitigate interest rate risk. This plan includes the ongoing review of our current and projected mix of fixed rate versus variable rate loans, investments, deposits, and borrowings. When available and appropriate, high quality adjustable rate assets are purchased or originated. These assets generally may reduce our sensitivity to upward interest rate shocks. On the liability side of the balance sheet, borrowings are added as appropriate. These borrowings will be of a size and term so as to mitigate the impact of duration mismatches, reducing our sensitivity to upward interest rate shocks. These strategies are implemented as needed and as opportunities arise to mitigate interest rate risk without materially sacrificing earnings.

In managing our mix of assets and liabilities, while considering the relationship between long and short term interest rates, market conditions, and consumer preferences, we may place somewhat greater emphasis on maintaining or increasing the Bank’s net interest margin than on strictly matching the interest rate sensitivity of its assets and liabilities.

Management also believes that at times the increased net income which may result from a mismatch in the actual maturity, repricing, or duration of its asset and liability portfolios can provide sufficient returns to justify the increased exposure to sudden and unexpected increases or decreases in interest rates which may result from such a mismatch. Management believes that the Bank’s level of interest rate risk is acceptable under this approach.

In evaluating the Bank’s exposure to market interest rate movements, certain shortcomings inherent in the method of analysis presented in the foregoing table must be considered. For example, although certain assets and liabilities may have similar maturities or repricing characteristics, their interest rate drivers may react in different degrees to changes in market interest rates (basis risk). Also, the interest rates on certain types of assets and liabilities may fluctuate in advance of changes in market interest rates, while interest rates on other types may lag behind changes in market interest rates. Additionally, certain assets, such as adjustable rate mortgages, have features which restrict changes in interest rates over the life of the asset (time to initial interest rate reset; interest rate reset frequency; initial, periodic, and lifetime caps and floors). Further, in the event of a significant change in market interest rates, loan and securities prepayment and time deposit early withdrawal levels may deviate significantly from those assumed in the table above. Assets with prepayment options and liabilities with early withdrawal options are being monitored, with assumptions stress tested on a regular basis. Current market rates and customer behavior are being considered in the management of interest rate risk. Finally, the ability of many borrowers to service their debt may decrease in the event of an interest rate increase. The Bank considers all of these factors in monitoring its exposure to interest rate risk. Of note, the current historically low interest rate environment has resulted in asymmetrical interest rate risk. The interest rates on certain repricing assets and liabilities cannot be fully shocked downward.

The Board of Directors and management believe that the Bank’s ability to successfully manage and mitigate its exposure to interest rate risk is strengthened by several key factors. For example, the Bank manages its balance sheet duration and overall interest rate risk by placing a preference on originating and retaining adjustable rate loans. In addition, the Bank borrows at various maturities from the FHLB to mitigate mismatches between the asset and liability portfolios. Furthermore, the investment securities portfolio is used as a primary interest rate risk management tool through the duration and repricing targeting of purchases and sales.



Item 4.	Controls and Procedures

An evaluation was performed under the supervision and with the participation of the Company's management, including the Chief Executive Officer and Chief Financial Officer, of the effectiveness of the design and operation of the Company's disclosure controls and procedures (as defined in Rule 13a-15(e) promulgated under the Securities and Exchange Act of 1934, as amended) as of June 30, 2017. Based on that evaluation, the Company's Chief Executive Officer and Chief Financial Officer concluded that the Company's disclosure controls and procedures were effective as of the end of the period covered by this quarterly report. There has been no change in the Company's internal controls over financial reporting during the quarter that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting.

While the Company believes the present design of its disclosure controls and procedures is effective to achieve its goals, future events affecting its business may cause the Company to modify its disclosure controls and procedures. The Company does not expect that its disclosure controls and procedures and internal control over financial reporting will prevent all error and fraud. A control procedure, no matter how well conceived and operated, can provide only reasonable, not absolute, assurance that the objectives of the control procedure are met. Because of the inherent limitations in all control procedures, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Company have been detected. These inherent limitations include the realities that judgments in decision-making can be faulty, and that breakdowns in controls or procedures can occur because of simple error or mistake. Additionally, controls can be circumvented by the individual actions of some persons, by collusion of two or more people, or by management override of the control. The design of any control procedure is based in part upon certain assumptions about the likelihood of future events, and there can be no assurance that any design will succeed in achieving its stated goals under all potential future conditions; over time, controls become inadequate because of changes in conditions, or the degree of compliance with the policies or procedures may deteriorate. Because of the inherent limitations in a cost-effective control procedure, misstatements due to error or fraud may occur and not be detected.

PART II - OTHER INFORMATION



Item 1.	Legal Proceedings

We are involved from time to time as plaintiff or defendant in various legal actions arising in the normal course of our businesses. While the ultimate outcome of pending proceedings cannot be predicted with certainty, it is the opinion of management, after consultation with counsel representing us in such proceedings, that the resolution of these proceedings should not have a material adverse effect on our consolidated financial position or results of operations.



Item 1A.	Risk Factors

There have been no material changes to the risk factors previously disclosed in the Company's 2016 Form 10-K.



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

The Company did not repurchase any of its common stock during the quarter ended June 30, 2017.



Item 3.	Defaults upon Senior Securities

Not applicable.



Item 4.	Mine Safety Disclosures

Not applicable.



Item 5.	Other Information

Bylaw Amendment: On July 24, 2017, the Company’s Board of Directors approved amendments to the Company’s bylaws (the “Bylaw Amendments”) which delete references to the three-year classified terms of our directors and provide for a majority voting standard in uncontested elections of directors. The Company’s bylaws continue to provide that directors will be elected by a plurality of the votes cast in the case of a contested election. The Bylaw Amendments are described in greater detail in the Company’s definitive proxy statement for the 2017 Annual Meeting of Shareholders filed with the SEC on April 14, 2017 under the heading “Proposal 6 - Approval of the Company's Charter Amendment to Declassify the Board of Directors and Other Related Amendments,” which description is incorporated herein by reference. A complete copy of the Company’s bylaws, as amended and currently in effect, are attached as Exhibit 3.2 to this report and are incorporated herein by reference.

The Board of Directors also adopted a Majority Voting Director Resignation Policy. Under the Majority Voting Director Resignation Policy, in an uncontested election of directors, each director who is not re-elected by a majority of the votes cast will be required to tender his or her resignation to the Board of Directors, and the Board of Directors will then decide whether to accept or reject the resignation, or whether other action is required. The policy requires a director to tender a contingent resignation to the Board of Directors prior to the shareholders’ meeting. The contingent resignation will become effective if the director does not receive a majority of the votes cast when he or she is proposed for re-election, and the Board of Directors then votes to accept the resignation. Therefore, a director who is proposed for re-election and who does not receive a majority of the votes cast will not automatically remain on the Board of Directors as a “holdover” director. Rather, his or her continued service as a director will be subject to review by the Board of Directors, taking into account the shareholders’ vote and any other relevant considerations.



Item 6.		Exhibits



Exhibit
Number			Description

2.1			Agreement and Plan of Merger, dated as of November 25, 2013, by and between the Registrant and LegacyTexas Group, Inc. (incorporated herein by reference to Exhibit 2.1 of the Registrant’s Current Report on Form 8-K filed with the SEC on November 25, 2013 (File No. 001-34737))

2.2			Amendment No. One to the Agreement and Plan of Merger, dated as of February 19, 2014, by and between the Registrant and LegacyTexas Group, Inc. (incorporated herein by reference to Exhibit 2.3 of the Registrant’s Annual Report on Form 10-K filed with the SEC on February 26, 2014 (File No. 001-34737))

2.3			Amendment No. Two to the Agreement and Plan of Merger, dated as of August 29, 2014, by and between the Registrant and LegacyTexas Group, Inc. (incorporated herein by reference to Exhibit 2.1 of the Registrant’s Current Report on Form 8-K filed with the SEC on August 29, 2014 (File No. 001-34737))

3.1			Charter of the Registrant (incorporated herein by reference to Exhibit 3.1 of the Registrant’s Current Report on Form 8-K filed with the SEC on May 25, 2017 (File No. 001-34737))

3.2			Bylaws of the Registrant, as amended

4.1			Certificate of Registrant’s Common Stock (incorporated herein by reference to Exhibit 4.1 of the Registrant’s Current Report on Form 8-K filed with the SEC on January 6, 2015 (File No. 001-34737))

4.2			The Registrant hereby agrees to furnish to the Commission, upon request, the instruments defining the rights of the holders of each issue of long-term debt of the Registrant and its consolidated subsidiaries.

10.1			ViewPoint Bank Deferred Compensation Plan (incorporated herein by reference to Exhibit 10.7 to the Registrant’s Registration Statement on Form S-1, as amended (File No. 0-24566-01))

10.2			Amended and Restated ViewPoint Bank Supplemental Executive Retirement Plan (incorporated herein by reference to Exhibit 10.8 to the Registrant’s Registration Statement on Form S-1, as amended (File No. 0-24566-01))

10.3			2017 Executive Annual Incentive Plan (incorporated herein by reference to Exhibit 10.1 to the Registrant’s Current Report on Form 8-K filed with the SEC on March 3, 2017 (File No. 001-34737))

10.4			Change in Control and Severance Benefits Agreement entered into between the Registrant and Mays Davenport (incorporated herein by reference to Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed with the SEC on November 25, 2013 (File No. 001-34737)).

10.5			Form of Change In Control and Severance Benefits Agreement entered into between the Registrant and the following executive officers: Scott A. Almy, Charles D. Eikenberg, Thomas S. Swiley, and Mark L. Williamson (incorporated herein by reference to Exhibit 10.1 to the Registrant's Current Report on Form 8-K filed with the SEC on December 2, 2013 (File No. 001-34737)).

10.6			Amended and Restated Executive Employment Agreement entered into by the Registrant on December 2, 2013 with Kevin J. Hanigan (incorporated herein by reference to Exhibit 10.2 to the Registrant's Current Report on Form 8-K filed with the SEC on December 2, 2013 (File No. 001-34737)).

10.7			Registrant's 2007 Equity Incentive Plan (incorporated herein by reference to Appendix A to the proxy statement filed with the SEC on March 30, 2007 (File No. 001-32992))



10.8			Registrant's 2012 Equity Incentive Plan (incorporated herein by reference to Appendix A to the Registrant's proxy statement filed with the SEC on April 4, 2012 (File No. 001-34737))

10.9			Forms of Incentive Stock Option, Non-Qualified Stock Option, and Restricted Stock (time and performance-based) Agreements under the 2012 Equity Incentive Plan (incorporated herein by reference to the Exhibits to the Registrant's Registration Statement on Form S-8 filed with the SEC on June 14, 2012 (File No. 333-182122))

10.10			Form of 2012 Equity Incentive Plan Restricted Stock Award and Non-Solicitation Agreement (incorporated herein by reference to Exhibit 10.10 to the Registrant's Quarterly Report on Form 10-Q filed with the SEC on July 26, 2016 (File No. 001-34737))

10.11			Form of 2012 Equity Incentive Plan Non-Employee Restricted Stock Award Agreement (incorporated herein by reference to Exhibit 10.11 to the Registrant's Quarterly Report on Form 10-Q filed with the SEC on July 26, 2016 (File No. 001-34737))

10.12			Registrant's 2017 Omnibus Incentive Plan (incorporated herein by reference to Appendix A to the Registrant's proxy statement filed with the SEC on April 14, 2017 (File No. 001-34737))

11			Statement regarding computation of per share earnings (See Note 2 of the Condensed Notes to Unaudited Consolidated Interim Financial Statements included in this Form 10-Q).

31.1			Rule 13a — 14(a)/15d — 14(a) Certification (Chief Executive Officer)

31.2			Rule 13a — 14(a)/15d — 14(a) Certification (Chief Financial Officer)

32			Section 1350 Certifications

101			Financial statements from Quarterly Report on Form 10-Q of the Registrant for the quarter ended June 30, 2017, formatted in eXtensible Business Reporting Language (XBRL): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statements of Changes in Shareholders’ Equity, (v) the Consolidated Statements of Cash Flows and (vi) the Condensed Notes to Unaudited Consolidated Interim Financial Statements.

SIGNATURES

In accordance with the requirements of the Exchange Act, the Registrant caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

LegacyTexas Financial Group, Inc.

(Registrant)



Date:	July 25, 2017	By:	/s/ Kevin J. Hanigan
			Kevin J. Hanigan,
			President and Chief Executive Officer
			(Duly Authorized Officer)

Date:	July 25, 2017	By:	/s/ J. Mays Davenport
			J. Mays Davenport
			Executive Vice President and Chief Financial Officer
			(Principal Financial and Accounting Officer)

EXHIBIT INDEX

Exhibits:



3.2	Bylaws of the Registrant, as amended
31.1	Certification of the Chief Executive Officer
31.2	Certification of the Chief Financial Officer
32.0	Section 1350 Certifications
101	Financial statements from Quarterly Report on Form 10-Q of the Registrant for the quarter ended June 30, 2017, formatted in eXtensible Business Reporting Language (XBRL): (i) the Consolidated Balance Sheets, (ii) the Consolidated Statements of Income, (iii) the Consolidated Statements of Comprehensive Income, (iv) the Consolidated Statements of Changes in Shareholders' Equity, (v) the Consolidated Statements of Cash Flows and (vi) the Condensed Notes to Unaudited Consolidated Interim Financial Statements.

Attached files

LegacyTexas Financial Group, Inc. Reports

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