BOKF-2012.06.30-10Q


 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

FORM 10-Q
(Mark One) 
ý
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2012
OR
¨
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
 
For the transition period from _____________ to ______________                 

Commission File No. 0-19341

BOK FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
 
Oklahoma
 
73-1373454
(State or other jurisdiction
of Incorporation or Organization)
 
(IRS Employer
Identification No.)
 
 
 
Bank of Oklahoma Tower
 
 
P.O. Box 2300
 
 
Tulsa, Oklahoma
 
74192
(Address of Principal Executive Offices)
 
(Zip Code)
 
(918) 588-6000
(Registrant’s telephone number, including area code)

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  ý  No  ¨

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 (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).Yes  ý  No  ¨

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

Large accelerated filer  ý                               Accelerated filer  ¨                                   Non-accelerated filer  ¨

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

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date: 68,144,159 shares of common stock ($.00006 par value) as of June 30, 2012.
 





BOK Financial Corporation
Form 10-Q
Quarter Ended June 30, 2012

Index

Part I.  Financial Information
 
Management’s Discussion and Analysis (Item 2)        
Market Risk (Item 3)                                                                                              
Controls and Procedures (Item 4)
Consolidated Financial Statements – Unaudited (Item 1)
Six Month Financial Summary – Unaudited (Item 2)
Quarterly Financial Summary – Unaudited (Item 2)
Quarterly Earnings Trend – Unaudited
 
 
Part II.  Other Information
 
Item 1.  Legal Proceedings
Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds
Item 6.  Exhibits
Signatures




Management’s Discussion and Analysis of Financial Condition and Results of Operations
 

Performance Summary

BOK Financial Corporation (“the Company”) reported net income of $97.6 million or $1.43 per diluted share for the second quarter of 2012, compared to $69.0 million or $1.00 per diluted share for the second quarter of 2011 and $83.6 million or $1.22 per diluted share for the first quarter of 2012. Net income for the six months ended June 30, 2012 totaled $181.2 million or $2.65 per diluted share compared with net income of $133.8 million or $1.95 per diluted share for the six months ended June 30, 2011.

Improvement in credit quality increased net income by more than $14 million or $0.21 per diluted share during the second quarter of 2012. The Company recognized a $14 million pretax gain on the sale of common stock received in settlement of a defaulted loan and recorded an $8 million negative provision for credit losses.

Highlights of the second quarter of 2012 included:
Net interest revenue totaled $181.4 million for the second quarter of 2012, compared to $174.0 million for the second quarter of 2011 and $173.6 million for the first quarter of 2012. Net interest margin was 3.30% for the second quarter of 2012. Net interest margin was 3.40% for the second quarter of 2011 and 3.19% for the first quarter of 2012. Net interest revenue in the second quarter of 2012 included $2.9 million from the full recovery of a nonaccruing commercial loan. Excluding this recovery, net interest margin was 3.25%. The increase in net interest revenue compared to the second quarter of 2011 was due primarily to lower funding costs. Interest expense decreased $10.0 million due primarily to lower rates paid on interest bearing deposits. Net interest earned from the increase in average loan and securities balances was offset by the reinvestment of cash flows from the securities portfolio at lower current market rates and decreased loan yield.
Fees and commissions revenue totaled $154.5 million for the second quarter of 2012 compared to $127.8 million for the second quarter of 2011 and $144.3 million for the first quarter of 2012. Mortgage banking revenue increased $20.2 million over the second quarter of 2011 and $6.5 million over the first quarter of 2012 due primarily to an increase in loan production volume and improved pricing of loans sold which resulted from continued low interest rates. Nearly all other fee-based revenue sources increased over the prior year and quarter.
Operating expenses, excluding changes in the fair value of mortgage servicing rights, totaled $212.3 million, up $22.6 million over the second quarter of 2011 and up $20.0 million over the previous quarter. Personnel costs increased $16.7 million over the second quarter of 2011 and increased $7.5 million over the first quarter of 2012 due largely to incentive compensation. Non-personnel expenses increased $5.9 million over the second quarter of 2011 and increased $12.4 million over the prior quarter.  
An $8.0 million negative provision for credit losses was recorded in the second quarter of 2012. No provision for loan losses was recorded in the first quarter of 2012 and a $2.7 million provision for credit losses was recorded in the second quarter of 2011. Net loans charged off totaled $4.8 million or 0.17% of average loans on an annualized basis for the second quarter of 2012 compared to $8.5 million or 0.30% on an annualized basis in the first quarter of 2012 and $8.5 million or 0.32% of average loans on an annualized basis in the second quarter of 2011.
The combined allowance for credit losses totaled $241 million or 2.09% of outstanding loans at June 30, 2012, down from $254 million or 2.20% of outstanding loans at March 31, 2012. Nonperforming assets totaled $279 million or 2.38% of outstanding loans and repossessed assets at June 30, 2012 compared to $336 million or 2.87% of outstanding loans and repossessed assets at March 31, 2012.
Outstanding loan balances were $11.6 billion at June 30, 2012, flat compared to March 31, 2012. Commercial loan balances increased $93 million and residential mortgage loans were up $37 million over March 31, 2012. Commercial real estate loans decreased $107 million and consumer loans decreased $24 million.
Period-end deposits totaled $18.3 billion at June 30, 2012 compared to $18.5 billion at March 31, 2012. Demand deposit accounts increased $251 million, offset by a $357 million decrease in interest-bearing transaction accounts and a $58 million decrease in time deposits.
The tangible common equity ratio was 10.07% at June 30, 2012 and 9.75% at March 31, 2012. The tangible common equity ratio is a non-GAAP measure of capital strength used by the Company and investors based on shareholders’ equity

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as defined by generally accepted accounting principles in the United States of America (“GAAP”) minus intangible assets and equity that does not benefit common shareholders.
The Company and its subsidiary bank continue to exceed the regulatory definition of well capitalized. The Company’s Tier 1 capital ratios as defined by banking regulations were 13.62% at June 30, 2012 and 13.03% at March 31, 2012.
The Company paid a cash dividend of $26 million or $0.38 per common share during the second quarter of 2012. On July 31, 2012 the board of directors approved a quarterly cash dividend of $0.38 per common share payable on or about August 31, 2012 to shareholders of record as of August 17, 2012.

Results of Operations



Net Interest Revenue and Net Interest Margin

Net interest revenue is the interest earned on debt securities, loans and other interest-earning assets less interest paid for interest-bearing deposits and other borrowings. The net interest margin is calculated by dividing net interest revenue by average interest-earning assets. Net interest spread is the difference between the average rate earned on interest-earning assets and the average rate paid on interest-bearing liabilities. Net interest margin is typically greater than net interest spread due to interest income earned on assets funded by non-interest bearing liabilities such as demand deposits and equity.

Net interest revenue totaled $181.4 million for the second quarter of 2012 compared to $174.0 million for the second quarter of 2011 and $173.6 million for the first quarter of 2012. Net interest margin was 3.30% for the second quarter of 2012, 3.19% for the first quarter of 2012 and 3.40% for the second quarter of 2011. Net interest revenue for the second quarter of 2012 included $2.9 million from a full recovery of a nonaccruing commercial loan. Excluding this recovery, net interest margin was 3.25% for the second quarter of 2012. Net interest revenue increased over the second quarter of 2011 primarily due to lower funding costs. Interest expense on deposit accounts decreased $6.8 million. Interest expense on other borrowed funds decreased $1.2 million and interest expense on subordinated debentures decreased $2.0 million. Net interest earned from the increase in average loan and securities balances was offset by the reinvestment of cash flows from the securities portfolio at lower rates and decreased loan yield.

Net interest margin declined compared to the the second quarter of 2011 due primarily to lower yields on our available for sale securities portfolio, partially offset by lower funding costs. The tax-equivalent yield on earning assets was 3.69% for the second quarter of 2012, down 32 basis points from the second quarter of 2011. Excluding the interest recovery, the tax equivalent yield on earning assets was 3.64% and loan yields decreased 21 basis points to 4.48%. Loan yields decreased due primarily to a combination of narrowing credit spreads and changes in market interest rates. The available for sale securities portfolio yield decreased 50 basis points to 2.54%. Cash flows from these securities were reinvested at current lower rates. Funding costs were down 25 basis points from the second quarter of 2011. The cost of interest-bearing deposits decreased 17 basis points and the cost of other borrowed funds decreased 26 basis points. The average rate of interest paid on subordinated debentures decreased 162 basis points compared to the second quarter of 2011. The interest rate on $233 million of these subordinated debentures converted from a fixed rate of interest of 5.75% to a floating interest rate based on LIBOR plus 0.69% as of May 15, 2012. The benefit to net interest margin from earning assets funded by non-interest bearing liabilities was 18 basis points in the second quarter of 2012 compared to 20 basis points in the second quarter of 2011.

Average earning assets for the second quarter of 2012 increased $1.5 billion or 7% over the second quarter of 2011. Average loans, net of allowance for loan losses, increased $983 million over the second quarter of 2011 due primarily to growth in average commercial and residential loans. The average balance of available for sale securities, which consist largely of U.S. government agency issued residential mortgage-backed securities, increased $548 million. We purchased these securities to supplement earnings, especially in a period of declining loan demand, and to manage interest rate risk. 

Average deposits increased $869 million over the second quarter of 2011, including a $1.7 billion increase in average demand deposit balances, partially offset by a $500 million decrease in average time deposits and a $404 million decrease in average interest-bearing transaction accounts. Average borrowed funds increased $562 million over the second quarter of 2011.

Net interest margin increased 11 basis points over the first quarter of 2012.  Excluding the impact of the interest recovery, net interest margin increased 6 basis points. The yield on average assets was flat compared to the prior quarter. The loan portfolio yield decreased 2 basis points. The yield on the available for sale securities portfolio increased 4 basis points primarily due to efforts to reduce our prepayment risk on our mortgage-backed securities portfolio. The cost of interest-bearing liabilities

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decreased 7 basis points from the previous quarter, including a 167 basis point decrease in the average rate paid on subordinated debentures due to the change from a fixed to floating rate of interest.

Average earning assets for the second quarter of 2012 increased $163 million over the first quarter of 2012. Average outstanding loans, net of allowance for loan losses, increased $188 million largely due to growth in average commercial loan balances. The average balance of the available for sale securities portfolio increased $144 million and the average balance of the fair value option securities portfolio decreased $219 million. Fair value option securities include residential mortgage-backed securities guaranteed by U.S. government agencies that we have elected to carry at fair value held as an economic hedge on our mortgage servicing rights. The balance of these securities can fluctuate significantly. Average deposits decreased by $206 million during the second quarter of 2012, including a $431 million increase in demand deposits partially offset by a $540 million decrease in interest-bearing transaction accounts and a $114 million decrease in time deposits. The average balance of borrowed funds increased $328 million and the average balance of subordinated debentures decreased by $40 million.

Our overall objective is to manage the Company’s balance sheet to be relatively neutral to changes in interest rates as is further described in the Market Risk section of this report. Approximately two-thirds of our commercial and commercial real estate loan portfolios are either variable rate or fixed rate that will re-price within one year. These loans are funded primarily by deposit accounts that are either non-interest bearing, or that re-price more slowly than the loans. The result is a balance sheet that would be asset sensitive, which means that assets generally re-price more quickly than liabilities. Among the strategies that we use to manage toward a relatively rate-neutral position, we purchase fixed-rate residential mortgage-backed securities issued primarily by U.S. government agencies and fund them with market rate sensitive liabilities. The liability-sensitive nature of this strategy provides an offset to the asset-sensitive characteristics of our loan portfolio. We also may use derivative instruments to manage our interest rate risk. 

The effectiveness of these strategies is reflected in the overall change in net interest revenue due to changes in interest rates as shown in Table 1 and in the interest rate sensitivity projections as shown in the Market Risk section of this report.


- 3 -




Table 1 – Volume / Rate Analysis
(In thousands)
 
 
Three Months Ended
June 30, 2012 / 2011
 
Six Months Ended
June 30, 2012 / 2011
 
 
 
 
Change Due To1
 
 
 
Change Due To1
 
 
Change
 
Volume
 
Yield /
Rate
 
Change
 
Volume
 
Yield
/Rate
Tax-equivalent interest revenue:
 
 
 
 
 
 
 
 
 
 
 
 
Funds sold and resell agreements
 
$
1

 
$
3

 
$
(2
)
 
$
(1
)
 
$

 
$
(1
)
Trading securities
 
(37
)
 
353

 
(390
)
 
(165
)
 
450

 
(615
)
Investment securities:
 
 
 
 
 
 
 
 
 
 
 
 
Taxable securities
 
1,482

 
1,610

 
(128
)
 
3,571

 
3,273

 
298

Tax-exempt securities
 
(638
)
 
(665
)
 
27

 
(1,303
)
 
(1,237
)
 
(66
)
Total investment securities
 
844

 
945

 
(101
)
 
2,268

 
2,036

 
232

Available for sale securities:
 
 
 
 
 
 
 
 
 
 
 
 
Taxable securities
 
(8,395
)
 
3,651

 
(12,046
)
 
(17,753
)
 
6,495

 
(24,248
)
Tax-exempt securities
 
49

 
130

 
(81
)
 
35

 
129

 
(94
)
Total available for sale securities
 
(8,346
)
 
3,781

 
(12,127
)
 
(17,718
)
 
6,624

 
(24,342
)
Fair value option securities
 
(2,932
)
 
(1,064
)
 
(1,868
)
 
(2,675
)
 
(729
)
 
(1,946
)
Residential mortgage loans held for sale
 
279

 
576

 
(297
)
 
708

 
1,045

 
(337
)
Loans
 
7,528

 
10,615

 
(3,087
)
 
10,805

 
19,758

 
(8,953
)
Total tax-equivalent interest revenue
 
(2,663
)
 
15,209

 
(17,872
)
 
(6,778
)
 
29,184

 
(35,962
)
Interest expense:
 
 
 
 
 
 
 
 
 
 
 
 
Transaction deposits
 
(2,558
)
 
(222
)
 
(2,336
)
 
(6,316
)
 
(145
)
 
(6,171
)
Savings deposits
 
(56
)
 
37

 
(93
)
 
(101
)
 
60

 
(161
)
Time deposits
 
(4,156
)
 
(2,189
)
 
(1,967
)
 
(6,897
)
 
(3,795
)
 
(3,102
)
Funds purchased
 
398

 
178

 
220

 
390

 
214

 
176

Repurchase agreements
 
(248
)
 
34

 
(282
)
 
(1,024
)
 
137

 
(1,161
)
Other borrowings
 
(1,373
)
 
(1,097
)
 
(276
)
 
(831
)
 
(2,026
)
 
1,195

Subordinated debentures
 
(2,029
)
 
(493
)
 
(1,536
)
 
(2,054
)
 
(538
)
 
(1,516
)
Total interest expense
 
(10,022
)
 
(3,752
)
 
(6,270
)
 
(16,833
)
 
(6,093
)
 
(10,740
)
Tax-equivalent net interest revenue
 
7,359

 
18,961

 
(11,602
)
 
10,055

 
35,277

 
(25,222
)
Change in tax-equivalent adjustment
 
(9
)
 
 
 
 
 
(236
)
 
 
 
 
Net interest revenue
 
$
7,368

 
 
 
 
 
$
10,291

 
 
 
 
1 Changes attributable to both volume and yield/rate are allocated to both volume and yield/rate on an equal basis.



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Other Operating Revenue

Other operating revenue was $187.0 million for the second quarter of 2012 compared to $143.0 million for the second quarter of 2011 and $140.4 million for the first quarter of 2012. Fees and commissions revenue increased $26.6 million over the second quarter of 2011. Net gains on securities, derivatives and other assets increased $13.5 million due primarily to a $14.2 million gain from the sale of $26 million of stock received received in settlement of a defaulted loan. Other-than-temporary impairment charges recognized in earnings in the second quarter of 2012 were $4.0 million less than charges recognized in the second quarter of 2011.

Other operating revenue increased $46.7 million compared to the first quarter of 2012. Fees and commissions revenue increased $10.1 million. Net gains on securities, derivatives and other assets increased $33.7 million. Other-than-temporary impairment charges recognized in earnings were $2.9 million less than charges recognized in the first quarter of 2012.


Table 2 – Other Operating Revenue 
(In thousands)
 
 
Three Months Ended
June 30,
 
 
 
 
 
Three Months Ended
 
 
 
 
 
 
2012
 
2011
 
Increase(Decrease)
 
% Increase(Decrease)
 
March 31, 2012
 
Increase(Decrease)
 
% Increase(Decrease)
Brokerage and trading revenue
 
$
32,600

 
$
23,725

 
$
8,875

 
37
 %
 
$
31,111

 
$
1,489

 
5
 %
Transaction card revenue
 
26,758

 
31,024

 
(4,266
)
 
(14
)%
 
25,430

 
1,328

 
5
 %
Trust fees and commissions
 
19,931

 
19,150

 
781

 
4
 %
 
18,438

 
1,493

 
8
 %
Deposit service charges and fees
 
25,216

 
23,857

 
1,359

 
6
 %
 
24,379

 
837

 
3
 %
Mortgage banking revenue
 
39,548

 
19,356

 
20,192

 
104
 %
 
33,078

 
6,470

 
20
 %
Bank-owned life insurance
 
2,838

 
2,872

 
(34
)
 
(1
)%
 
2,871

 
(33
)
 
(1
)%
Other revenue
 
7,559

 
7,842

 
(283
)
 
(4
)%
 
9,027

 
(1,468
)
 
(16
)%
Total fees and commissions revenue
 
154,450

 
127,826

 
26,624

 
21
 %
 
144,334

 
10,116

 
7
 %
Gain (loss) on other assets, net
 
3,765

 
3,344

 
421

 
N/A

 
(356
)
 
4,121

 
N/A

Gain (loss) on derivatives, net
 
2,345

 
1,225

 
1,120

 
N/A

 
(2,473
)
 
4,818

 
N/A

Gain (loss) on fair value option securities, net
 
6,852

 
9,921

 
(3,069
)
 
N/A

 
(1,733
)
 
8,585

 
N/A

Gain on available for sale securities
 
20,481

 
5,468

 
15,013

 
N/A

 
4,331

 
16,150

 
N/A

Total other-than-temporary impairment
 
(135
)
 
(74
)
 
(61
)
 
N/A

 
(505
)
 
370

 
N/A

Portion of loss recognized in (reclassified from) other comprehensive income
 
(723
)
 
(4,750
)
 
4,027

 
N/A

 
(3,217
)
 
2,494

 
N/A

Net impairment losses recognized in earnings
 
(858
)
 
(4,824
)
 
3,966

 
N/A

 
(3,722
)
 
2,864

 
N/A

Total other operating revenue
 
$
187,035

 
$
142,960

 
$
44,075

 
31
 %
 
$
140,381

 
$
46,654

 
33
 %

Certain percentage increases (decreases) in non-fees and commissions revenue are not meaningful for comparison purposes based on the nature of the item.

Fees and commissions revenue

Diversified sources of fees and commissions revenue are a significant part of our business strategy and represented 46% of total revenue for the second quarter of 2012, excluding provision for credit losses and gains and losses on asset sales, securities and derivatives. We believe that a variety of fee revenue sources provide an offset to changes in interest rates, values in the equity markets, commodity prices and consumer spending, all of which can be volatile. We expect continued growth in other operating revenue through offering new products and services and by further development of our presence in markets outside of Oklahoma.  However, current and future economic conditions, regulatory constraints, increased competition and saturation in our existing markets could affect the rate of future increases.

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Brokerage and trading revenue, which includes revenues from securities trading, retail brokerage, customer derivative and investment banking increased $8.9 million or 37% compared to the second quarter of 2011. Securities trading revenue totaled $16.1 million for the second quarter of 2012, up $2.8 million over the second quarter of 2011. Securities trading revenue represents net realized and unrealized gains primarily related to sales of U.S. government securities, residential mortgage-backed securities guaranteed by U.S. government agencies and municipal securities to institutional customers. We believe these activities will be permitted under the Volcker Rule of the Dodd-Frank Act.

Revenue earned from retail brokerage transactions increased $713 thousand or 10% over the second quarter of 2011 to $8.1 million. Retail brokerage revenue is primarily based on fees and commissions earned on sales of fixed income securities, annuities and mutual funds to retail customers. Revenue growth was primarily due to increased market volatility which increased customer demand.

Customer hedging revenue is based primarily on realized and unrealized changes in the fair value of derivative contracts held for customer risk management programs. As more fully discussed under Customer Derivative Programs in Note 3 of the Consolidated Financial Statements, we offer commodity, interest rate, foreign exchange and equity derivatives to our customers. Customer hedging revenue totaled $4.2 million for the second quarter of 2012, up $3.1 million over the second quarter of 2011. The Company received a $2.9 million recovery from the Lehman Brothers bankruptcy in the second quarter of 2012 related to derivative contract losses incurred in 2008. In addition, revenue from to be announced (“TBA”) residential mortgage backed securities which are classified as interest rate derivative contracts sold to our mortgage banking customers increased over the second quarter of 2011.

Investment banking includes fees earned upon completion of underwriting and financial advisory services totaled $4.2 million for the second quarter of 2012, a $2.3 million or 116% increase over the second quarter of 2011 related to the timing and volume of completed transactions. The increased volume of transactions is primarily the result of the Company's expansion of its municipal financial advisory service capacity, particularly in the Texas market.

Brokerage and trading revenue increased $1.5 million over the first quarter of 2012. Investment banking fees were up $1.2 million over the first quarter of 2012. Retail brokerage fees were up $512 thousand over the first quarter of 2012. Securities trading and customer hedging revenue were both flat compared to the prior quarter. The impact of the Lehman recovery was offset by a $1.2 million decrease in revenue from energy derivative contracts due to a decline in contract volumes. Revenue from interest rate derivative contracts decreased $616 thousand primarily due to changes in the fair value of TBA securities sold to our mortgage banking customers compared to the first quarter of 2012. 

We continue to monitor the on-going development of rules to implement the Volcker Rule in Title VI of the Dodd-Frank Act which prohibits banking entities from engaging in proprietary trading as defined by the Dodd-Frank Act and restricts sponsorship of, or investment in, private equity funds and hedge funds, subject to limited exceptions. Based on the proposed rules, we expect the Company's trading activity to be largely unaffected, as our trading activities are all done for the benefit of the customers and securities traded are mostly exempted under the proposed rules. The Company's private equity investment activity may be curtailed, but is not expected to result in a material impact to the Company's financial statements. Final regulations will likely impose additional operating and compliance costs as presently proposed.

Title VII of the Dodd-Frank Act subjects nearly all derivative transactions to Commodity Futures Trading Commission (“CFTC”) or Securities and Exchange Commission (“SEC”) regulations. Title VII, among other things, imposes registration, recordkeeping, reporting, capital and margin, as well as business conduction requirements on major swap dealers and major swap participants. The CFTC and SEC delayed the effective dates of a large portion of the proposed regulations under Title VII until December 31, 2012. On April 18, 2012, the CFTC and SEC both approved interim final rules on the definition of swaps dealers. Under these rules, entities transacting, as a dealer, less than $8 billion in notional value of swaps over any 12 month period during the first three years after the rules are effective will be exempt from the definition of swaps dealer; after that three year period, the $8 billion amount may become $3 billion, subject to the results of studies the commissions intend to undertake once the derivatives rules are effective. For purposes of the foregoing test, certain derivatives transactions entered into by a customer in connection with a loan from the Company are not considered dealing activity.  The “swap dealer” definitional rules are scheduled to go into effect in October 2012. The Company currently estimates that its volume of swap activities (excluding transactions entered into in connection with a loan from the Company to its customers) are unlikely to require it to register as a “swap dealer”, at least at any time prior to October 2015 (the minimum period for which the $8 billion notional value threshold will be in effect).  Although the ultimate impact of Title VII remains uncertain, we currently believe its full implementation is likely not to impose significantly higher compliance costs on the Company.


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Transaction card revenue depends largely on the volume and amount of transactions processed, the number of TransFund automated teller machine (“ATM”) locations and the number of merchants served. Transaction card revenue for the second quarter of 2012 decreased $4.3 million or 14% compared to the second quarter of 2011. Revenues from the processing of transactions on behalf of the members of our TransFund electronic funds transfer ("EFT") network totaled $13.5 million, up $1.0 million or 8% over the second quarter of 2011, due primarily to increased transaction volumes. Merchant services fees paid by customers for account management and electronic processing of card transactions and revenue from interchange fees from debit cards issued by the Company were both down primarily due to the impact of interchange fee regulations, commonly referred to as the Durbin Amendment, which became effective on October 1, 2011. Merchant services fees totaled $8.8 million, down $366 thousand or 4% compared to the prior year. Revenue from interchange fees paid by merchant banks for transactions processed from debit cards issued by the Company totaled $4.5 million for the second quarter of 2012 compared to $9.3 million for the second quarter of 2011.

Transaction card revenue increased $1.3 million over the first quarter of 2012. Merchant services fees for account management and electronic processing of card transactions increased $885 thousand, revenue from interchange fees paid by merchant banks for transactions processed from debit cards issued by the Company increased $253 thousand and revenue from processing transactions on behalf of members of our TransFund EFT network increased $190 thousand.

Trust fees and commissions increased $781 thousand or 4% compared to the second quarter of 2011. We continue to voluntarily waive administration fees on the Cavanal Hill money market funds in order to maintain positive yields on these funds in the current low short-term interest rate environment. Waived fees totaled $2.2 million for the second quarter of 2012, $1.6 million for the second quarter of 2011 and $2.6 million for the first quarter of 2012. The fair value of trust assets administered by the Company totaled $35.3 billion at June 30, 2012, $33.1 billion at June 30, 2011 and $35.7 billion at March 31, 2012. Trust fees and commissions increased $1.5 million compared to the first quarter of 2012 primarily due to the timing of annual tax service fees.

Deposit service charges and fees increased $1.4 million or 6% over the second quarter of 2011. Overdraft fees totaled $14.3 million for the second quarter of 2012, down $384 thousand or 3% compared to the second quarter of 2011. Commercial account service charge revenue totaled $8.7 million, up $929 thousand or 12% over the prior year. The average earnings credit, a non-cash method for commercial customers to avoid incurring charges for deposit services based on account balances, decreased 23 basis points compared to the prior year to better align with market interest rates. Service charges on deposit accounts with a standard monthly fee also increased $810 thousand or 58% over the second quarter of 2011.

Deposit service charges and fees increased $837 thousand over the prior quarter. Overdraft fees increased $748 thousand and service charges on deposit accounts with a standard monthly fee increased $596 thousand, partially offset by a $457 thousand decrease in commercial account service charges.

Mortgage banking revenue increased $20.2 million over the second quarter of 2011 primarily due to increased mortgage loan production volume and improved pricing of loans sold which resulted from continued low interest rates. Revenue from originating and marketing mortgage loans totaled $29.7 million, up $20.3 million or 216% over the second quarter of 2011. Mortgage loans funded for sale totaled $842 million in the second quarter of 2012 and $484 million in the second quarter of 2011. Outstanding commitments to originate mortgage loans were up $236 million or 151% over June 30, 2011. Mortgage servicing revenue decreased $88 thousand or 1% compared to the second quarter of 2011. The outstanding principal balance of mortgage loans serviced for others totaled $11.6 billion, up $281 million over June 30, 2011.

Mortgage banking revenue increased $6.5 million compared to the first quarter of 2012 primarily due to a $6.6 million increase in revenue from originating and marketing residential mortgage loans. Residential mortgage loans funded for sale increased $96 million compared to the previous quarter. Outstanding commitments to originate mortgage loans were up $90 million or 30% over March 31, 2012. Mortgage servicing revenue was largely unchanged compared to the prior quarter. The outstanding balance of mortgage loans serviced for others was up $186 million over March 31, 2012 .


- 7 -




Table 3 – Mortgage Banking Revenue 
(In thousands)
 
 
Three Months Ended
June 30,
 
 
 
%
 
Three Months Ended
 
 
 
%
 
 
2012
 
2011
 
Increase
(Decrease)
 
Increase
(Decrease)
 
March 31,
2012
 
Increase
(Decrease)
 
Increase
(Decrease)
Originating and marketing revenue
 
$
29,689

 
$
9,409

 
$
20,280

 
216
 %
 
$
23,081

 
$
6,608

 
29
 %
Servicing revenue
 
9,859

 
9,947

 
(88
)
 
(1
)%
 
9,997

 
(138
)
 
(1
)%
Total mortgage revenue
 
$
39,548

 
$
19,356

 
$
20,192

 
104
 %
 
$
33,078

 
$
6,470

 
20
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Mortgage loans funded for sale
 
$
841,959

 
$
483,808

 
$
358,151

 
74
 %
 
$
746,241

 
$
95,718

 
13
 %
Mortgage loan refinances to total funded
 
51
%
 
36
%
 
 

 
 

 
67
%
 
 

 
 



 
 
June 30,
 
 
 
 
 
 
 
 
 
 
 
 
2012
 
2011
 
Increase
 
% Increase
 
March 31,
2012
 
Increase
 
% Increase
Outstanding principal balance of mortgage loans serviced for others
 
$
11,564,643

 
$
11,283,442

 
$
281,201

 
2
%
 
$
11,378,806

 
$
185,837

 
2
%
Net gains on securities, derivatives and other assets

In the second quarter of 2012, we recognized a $14.2 million gain on the sale of $26 million of common stock received in 2009 in partial satisfaction of a defaulted commercial loan. In addition, we recognized $6.1 million in gains on sales of $433 million of residential mortgage-backed securities guaranteed by U.S. government agencies. Securities were sold either because they had reached their expected maximum potential return or to mitigate exposure to prepayment risk. We recognized $5.5 million of gains on sales of $654 million of available for sale securities in the second quarter of 2011 and $11.7 million of net gains on sales of $892 million of U.S. government agency mortgage-backed securities held as available for sale in the first quarter of 2012.

We also sold $107 million of privately issued residential mortgage-backed securities at a $7.4 million loss in March 2012. The fair value of these securities increased nearly 10% between December 31, 2011 and February 29, 2012. In response to this increase in fair value, management evaluated all privately issued residential mortgage-backed securities to determine which securities we did not intend to sell based on their expected performance. All securities which we believed to have reached their expected maximum potential at that time were sold in March.

We also maintain a portfolio of residential mortgage backed securities issued by U.S. government agencies and interest rate derivative contracts designated as an economic hedge of the changes in the fair value of our mortgage servicing rights. The fair value of our mortgage servicing rights fluctuate due to changes in prepayment speeds and other assumptions as more fully described in Note 5 to the Consolidated Financial Statements. As benchmark mortgage rates increase, prepayment speeds slow and the value of our mortgage servicing rights increase. As benchmark mortgage rates fall, prepayment speeds increase and the value of our mortgage servicing rights decrease.

Changes in the fair value of mortgage servicing rights are highly dependent on changes in primary mortgage rates, rates offered to borrowers, and assumptions about servicing revenues, servicing costs and discount rates. Changes in the fair value of residential mortgage-backed securities and interest rate derivative contracts are highly dependent on changes in secondary mortgage rates, or rates required by investors. While primary and secondary mortgage rates generally move in the same direction, the spread between them may widen and narrow due to market conditions and government intervention. Changes in assumptions and the spread between the primary and secondary rates can cause significant quarterly earnings volatility.

Table 4 following shows the relationship between changes in the fair value of mortgage servicing rights and interest rate derivative contracts designated as an economic hedge.

- 8 -





Table 4 – Gain (Loss) on Mortgage Servicing Rights
(In thousands)
 
 
Three Months Ended
 
 
June 30,
2012
 
March 31,
2012
 
June 30,
2011
Gain (loss) on mortgage hedge derivative contracts, net
 
$
2,623

 
$
(2,445
)
 
$
1,224

Gain (loss) on fair value option securities, net
 
6,908

 
(2,393
)
 
9,921

Gain (loss) on economic hedge of mortgage servicing rights
 
9,531

 
(4,838
)
 
11,145

Gain (loss) on change in fair value of mortgage servicing rights
 
(11,450
)
 
7,127

 
(13,493
)
Gain (loss) on changes in fair value of mortgage servicing rights, net of economic hedges
 
$
(1,919
)
 
$
2,289

 
$
(2,348
)
 
 
 
 
 
 
 
Net interest revenue on fair value option securities
 
$
2,148

 
$
3,165

 
$
5,120


As more fully discussed in Note 2 to the Consolidated Financial Statements, we recognized other-than-temporary impairment losses on certain private-label residential mortgage-backed securities of $858 thousand in earnings during the second quarter of 2012. These losses primarily related to additional declines in projected cash flows of private-label mortgage backed securities as a result of increased home price depreciation on privately issued residential mortgage-backed securities that we do not intend to sell. We recognized other-than-temporary impairment losses in earnings of $4.8 million in the second quarter of 2011 and $3.7 million in the first quarter of 2012.



- 9 -




Other Operating Expense

Other operating expense for the second quarter of 2012 totaled $223.8 million, up $20.6 million or 10% over the second quarter of 2011. Changes in the fair value of mortgage servicing rights increased operating expense $11.5 million in the second quarter of 2012 and $13.5 million in the second quarter of 2011. Excluding changes in the fair value of mortgage servicing rights, operating expenses were up $22.6 million or 12% over the second quarter of 2011. Personnel expenses increased $16.7 million or 16%. Non-personnel expenses increased $5.9 million or 7%.

Excluding changes in the fair value of mortgage servicing rights, operating expenses were up $20.0 million over the previous quarter. Personnel expenses increased $7.5 million and non-personnel expenses increased $12.4 million.

Table 5 – Other Operating Expense
(In thousands)
 
 
Three Months Ended
June 30,
 
Increase
 
%
Increase
 
Three Months Ended
March 31,
 
Increase
 
%
Increase
 
 
2012
 
2011
 
(Decrease)
 
(Decrease)
 
2012
 
(Decrease)
 
(Decrease)
Regular compensation
 
$
65,218

 
$
61,380

 
$
3,838

 
6
 %
 
$
63,132

 
$
2,086

 
3
 %
Incentive compensation:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Cash-based
 
27,950

 
23,530

 
4,420

 
19
 %
 
26,241

 
1,709

 
7
 %
Stock-based
 
11,349

 
3,122

 
8,227

 
264
 %
 
6,625

 
4,724

 
71
 %
Total incentive compensation
 
39,299

 
26,652

 
12,647

 
47
 %
 
32,866

 
6,433

 
20
 %
Employee benefits
 
17,780

 
17,571

 
209

 
1
 %
 
18,771

 
(991
)
 
(5
)%
Total personnel expense
 
122,297

 
105,603

 
16,694

 
16
 %
 
114,769

 
7,528

 
7
 %
Business promotion
 
6,746

 
4,777

 
1,969

 
41
 %
 
4,388

 
2,358

 
54
 %
Professional fees and services
 
8,343

 
6,258

 
2,085

 
33
 %
 
7,599

 
744

 
10
 %
Net occupancy and equipment
 
16,906

 
15,554

 
1,352

 
9
 %
 
16,023

 
883

 
6
 %
Insurance
 
4,011

 
4,771

 
(760
)
 
(16
)%
 
3,866

 
145

 
4
 %
Data processing & communications
 
25,264

 
24,428

 
836

 
3
 %
 
22,144

 
3,120

 
14
 %
Printing, postage and supplies
 
3,903

 
3,586

 
317

 
9
 %
 
3,311

 
592

 
18
 %
Net losses & operating expenses of repossessed assets
 
5,912

 
5,859

 
53

 
1
 %
 
2,245

 
3,667

 
163
 %
Amortization of intangible assets
 
545

 
896

 
(351
)
 
(39
)%
 
575

 
(30
)
 
(5
)%
Mortgage banking costs
 
11,173

 
8,968

 
2,205

 
25
 %
 
7,573

 
3,600

 
48
 %
Change in fair value of mortgage servicing rights
 
11,450

 
13,493

 
(2,043
)
 
(15
)%
 
(7,127
)
 
18,577

 
(261
)%
Other expense
 
7,236

 
9,016

 
(1,780
)
 
(20
)%
 
9,871

 
(2,635
)
 
(27
)%
Total other operating expense
 
$
223,786

 
$
203,209

 
$
20,577

 
10
 %
 
$
185,237

 
$
38,549

 
21
 %
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Number of employees (full-time equivalent)
 
4,585

 
4,530

 
55

 
1
 %
 
4,630

 
(45
)
 
(1
)%

Certain percentage increases (decreases) are not meaningful for comparison purposes.

Personnel expense

Regular compensation, which consists of salaries and wages, overtime pay and temporary personnel costs increased $3.8 million or 6% over the second quarter of 2011 primarily due to standard annual merit increases which were effective in the second quarter of 2012. The Company generally awards annual merit increases during the first quarter for a majority of its staff.

Incentive compensation increased $12.6 million or 47% over the second quarter of 2011. Cash-based incentive compensation plans are either intended to provide current rewards to employees who generate long-term business opportunities for the Company based on growth in loans, deposits, customer relationships and other measurable metrics or intended to compensate employees with commissions on completed transactions. Total cash-based incentive compensation increased $4.4 million or

- 10 -




19% over the second quarter of 2011. Cash-based incentive compensation related to brokerage and trading revenue was up $4.6 million over the second quarter of 2011 and all other cash-based incentive compensation was essentially flat compared to the prior year.

The Company also provides stock-based incentive compensation plans. Stock-based compensation plans include both equity and liability awards. Compensation expense for equity awards increased $712 thousand over the second quarter of 2011. Expense for equity awards is based on the grant-date fair value of the awards and is unaffected by subsequent changes in fair value. Compensation expense related to liability awards increased $7.5 million over the second quarter of 2011 primarily due to the timing of accruals related to the BOK Financial Corp. True-Up Plan. Approved by shareholders on April 26, 2011, the True-Up Plan is designed to adjust annual and long-term performance-based incentive compensation for certain senior executives either upward or downward based on the earnings per share performance and compensation of comparable senior executives at peer banks.   

Employee benefit expense was essentially flat compared to the second quarter of 2011. Increased expenses related to payroll tax were offset by lower employee medical insurance costs.

Personnel expense increased $7.5 million compared to the first quarter of 2012. Incentive compensation increased $6.4 million over the first quarter of 2012. Stock-based compensation increased $4.7 million due to the timing of accruals and cash-based incentive compensation increased $1.7 million. Regular compensation expense increased $2.1 million over the first quarter of 2012 due to standard annual merit increases which were fully effective in the second quarter of 2012.

Employee benefit expenses decreased $1.0 million compared to the first quarter of 2012 due to seasonal decreases in payroll tax expense and lower employee medical costs.

Non-personnel operating expenses

Non-personnel operating expenses, excluding changes in the fair value of mortgage servicing rights, increased $5.9 million over the second quarter of 2011. Mortgage banking costs increased $2.2 million due primarily to a $3.7 million increase in the provision for potential losses on loans sold to government sponsored entities under standard representation and warranties. While the number of actual repurchases has remained low, the loss severity has trended higher. The accrual for potential losses totaled $5.0 million at June 30, 2012. Professional fees and services increased $2.1 million primarily due to increased loan volumes and business promotion expense increased $2.0 million due to the timing of marketing expenses. Net losses and operating expenses of repossessed assets were flat compared to the second quarter of 2011.

Excluding changes in the fair value of mortgage servicing rights, non-personnel operating expenses increased $12.4 million compared to the first quarter of 2012. Net losses and operating expenses on repossessed properties were up $3.7 million over the first quarter of 2012. Losses on sales and write-downs of repossessed assets increased by $2.7 million. Write-downs of repossessed assets were up primarily due to the timing of regularly scheduled appraisal updates, partially offset by decreased losses on sales of repossessed assets. Operating expenses of repossessed assets were up $945 thousand over the first quarter. Mortgage banking costs were up $3.6 million primarily due to increased provision for potential losses on loans sold to government sponsored entities under standard representations and warranties. Data processing and communication expense increased $3.1 million. Data processing and communications expense in the first quarter was lower due to the favorable resolution of a dispute with a service provider. Business promotion expense was up $2.4 million due primarily to timing of marketing expenses.

Income Taxes

Income tax expense was $53.1 million or 35% of book taxable income for the second quarter of 2012 compared to $39.4 million or 35% of book taxable income for the second quarter of 2011 and $45.5 million or 35% of book taxable income for the first quarter of 2012.  

BOK Financial operates in numerous jurisdictions, which requires judgment regarding the allocation of income, expense and earnings under various laws and regulations of each of these taxing jurisdictions. Each jurisdiction may audit our tax returns and may take different positions with respect to these allocations. The reserve for uncertain tax positions was $13 million at June 30, 2012, March 31, 2012 and June 30, 2011.



- 11 -




Lines of Business

We operate three principal lines of business: Commercial Banking, Consumer Banking and Wealth Management. Commercial Banking includes lending, treasury and cash management services and customer risk management products for small businesses, middle market and larger commercial customers. Commercial banking also includes the TransFund EFT network. Consumer Banking includes retail lending and deposit services and all mortgage banking activities. Wealth Management provides fiduciary services, brokerage and trading, private bank services and investment advisory services in all markets. Wealth Management also originates loans for high net worth clients.

In addition to our lines of business, we have a Funds Management unit. The primary purpose of this unit is to manage our overall liquidity needs and interest rate risk. Each line of business borrows funds from and provides funds to the funds management unit as needed to support their operations. Operating results for funds management and other include the effect of interest rate risk positions and risk management activities, securities gains and losses including impairment charges, the provision for credit losses in excess of net loans charged off, tax planning strategies and certain executive compensation costs that are not attributed to the lines of business.

We allocate resources and evaluate the performance of our lines of business after allocation of funds, certain indirect expenses, taxes based on statutory rates, actual net credit losses and capital costs. The cost of funds borrowed from the funds management unit by the operating lines of business is transfer priced at rates that approximate market rates for funds with similar duration. Market is generally based on the applicable LIBOR or interest rate swap rates, adjusted for prepayment risk. This method of transfer-pricing funds that support assets of the operating lines of business tends to insulate them from interest rate risk.

The value of funds provided by the operating lines of business to the funds management unit is also based on rates which approximate wholesale market rates for funds with similar duration and re-pricing characteristics. Market rates are generally based on LIBOR or interest rate swap rates. The funds credit formula applied to deposit products with indeterminate maturities is established based on their re-pricing characteristics reflected in a combination of the short-term LIBOR rate and a moving average of an intermediate term swap rate, with an appropriate spread applied to both. Shorter duration products are weighted towards the short term LIBOR rate and longer duration products are weighted towards the intermediate swap rates. The expected duration ranges from 30 days for certain rate-sensitive deposits to five years.

Economic capital is assigned to the business units by a capital allocation model that reflects management’s assessment of risk. This model assigns capital based upon credit, operating, interest rate and market risk inherent in our business lines and recognizes the diversification benefits among the units. The level of assigned economic capital is a combination of the risk taken by each business line, based on its actual exposures and calibrated to its own loss history where possible. Average invested capital includes economic capital and amounts we have invested in the lines of business.

As shown in Table 6, net income attributable to our lines of business increased $21.8 million over the second quarter of 2011. The increase in net income attributed to our lines of business was due primarily to growth in mortgage banking revenue and a gain on the sale of stock received in partial satisfaction of a defaulted loan, along with a decrease in net loans charged off.

Table 6 – Net Income by Line of Business
(In thousands)

 
 
Three Months Ended
 
Six Months Ended
 
 
June 30,
 
June 30,
 
 
2012
 
2011
 
2012
 
2011
Commercial Banking
 
$
43,369

 
$
31,539

 
$
76,438

 
$
60,179

Consumer Banking
 
14,726

 
7,099

 
34,184

 
13,616

Wealth Management
 
6,274

 
3,904

 
10,295

 
8,194

Subtotal
 
64,369

 
42,542

 
120,917

 
81,989

Funds Management and other
 
33,259

 
26,465

 
60,326

 
51,792

Total
 
$
97,628

 
$
69,007

 
$
181,243

 
$
133,781



- 12 -




Commercial Banking

Commercial Banking contributed $43.4 million to consolidated net income in the second quarter of 2012, up $11.8 million or 38% over the second quarter of 2011. A gain on the sale of stock received in partial satisfaction of a defaulted loan and the full recovery of a nonaccruing commercial loan added $11.7 million to net income provided by Commercial Banking in the second quarter of 2012.

Table 7 – Commercial Banking
(Dollars in thousands)
 
 
Three Months Ended
 
 
 
Six Months Ended
 
 
 
 
 
June 30,
 
Increase
 
June 30,
 
Increase
 
 
 
2012
 
2011
 
(Decrease)
 
2012
 
2011
 
(Decrease)
 
Net interest revenue from external sources
 
$
93,360

 
$
85,325

 
$
8,035

 
$
182,698

 
$
168,583

 
$
14,115

 
Net interest expense from internal sources
 
(11,164
)
 
(7,444
)
 
(3,720
)
 
(22,920
)
 
(16,718
)
 
(6,202
)
 
Total net interest revenue
 
82,196

 
77,881

 
4,315

 
159,778

 
151,865

 
7,913

 
Net loans charged off
 
748

 
4,829

 
(4,081
)
 
7,140

 
11,605

 
(4,465
)
 
Net interest revenue after net loans charged off
 
81,448

 
73,052

 
8,396

 
152,638

 
140,260

 
12,378

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fees and commissions revenue
 
37,795

 
36,005

 
1,790

 
76,543

 
71,421

 
5,122

 
Gain on financial instruments and other assets, net
 
14,363

 
9

 
14,354

 
14,407

 
9

 
14,398

 
Other operating revenue
 
52,158

 
36,014

 
16,144

 
90,950

 
71,430

 
19,520

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Personnel expense
 
25,504

 
23,918

 
1,586

 
50,348

 
47,095

 
3,253

 
Net losses and expenses of repossessed assets
 
5,002

 
4,490

 
512

 
5,669

 
9,190

 
(3,521
)
 
Other non-personnel expense
 
18,835

 
18,271

 
564

 
36,560

 
36,104

 
456

 
Corporate allocations
 
13,284

 
10,768

 
2,516

 
25,908

 
20,809

 
5,099

 
Total other operating expense
 
62,625

 
57,447

 
5,178

 
118,485

 
113,198

 
5,287

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Income before taxes
 
70,981

 
51,619

 
19,362

 
125,103

 
98,492

 
26,611

 
Federal and state income tax
 
27,612

 
20,080

 
7,532

 
48,665

 
38,313

 
10,352

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income
 
$
43,369

 
$
31,539

 
$
11,830

 
$
76,438

 
$
60,179

 
$
16,259

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Average assets
 
$
9,934,469

 
$
9,174,216

 
$
760,253

 
$
10,008,708

 
$
9,068,308

 
$
940,400

 
Average loans
 
9,024,239

 
8,172,263

 
851,976

 
8,942,490

 
8,122,664

 
819,826

 
Average deposits
 
8,211,478

 
7,620,542

 
590,936

 
8,283,114

 
7,542,159

 
740,955

 
Average invested capital
 
862,816

 
867,491

 
(4,675
)
 
864,167

 
865,439

 
(1,272
)
 
Return on average assets
 
1.76
%
 
1.38
%
 
38

bp
1.54
%
 
1.34
%
 
20

bp
Return on invested capital
 
20.22
%
 
14.58
%
 
564

bp
17.79
%
 
14.02
%
 
377

bp
Efficiency ratio
 
52.19
%
 
50.44
%
 
175

bp
50.14
%
 
50.70
%
 
(56
)
bp
Net charge-offs (annualized) to average loans
 
0.03
%
 
0.24
%
 
(21
)
bp
0.16
%
 
0.29
%
 
(13
)
bp

Net interest revenue increased $4.3 million or 6% over the second quarter of 2011, including $2.9 million from the recovery of foregone interest and fees on a nonaccruing loan. The remaining increase in net interest revenue was primarily due to an $852 million increase in average loan balances, partially offset by a decrease in loan yield compared to the second quarter of 2011. Net interest earned on deposits sold to our funds management unit decreased $3.4 million primarily due to lower yields on funds invested, partially offset by a $591 million increase in the average balance of deposits attributed to Commercial Banking.

- 13 -





Fees and commissions revenue increased $1.8 million or 5% primarily due to increased commercial deposits service charges and fees as average earnings credit, a non-cash method for commercial customers to avoid incurring charges for deposit services based on account balances, decreased 23 basis points compared to the prior year to better align with market interest rates.

Operating expenses increased $5.2 million or 9% over the second quarter of 2011. Personnel costs increased $1.6 million or 7% primarily due to increased incentive compensation and standard annual merit increases.  Net losses and operating expenses on repossessed assets increased $512 thousand over the second quarter of 2011, primarily due to write-downs as the result of the timing of regularly scheduled appraisal updates. Other non-personnel expenses increased $564 thousand or 3% over the prior year. Corporate expense allocations increased $2.5 million primarily due to increased customer loan and deposit activity.

The average outstanding balance of loans attributed to Commercial Banking increased $852 million to $9.0 billion for the second quarter of 2012. See the Loans section of Management’s Discussion and Analysis of Financial Condition following for additional discussion of changes in commercial and commercial real estate loans which are primarily attributed to the Commercial Banking segment. Net Commercial Banking loans charged off decreased $4.1 million compared to the second quarter of 2011 to $748 thousand or 0.03% of average loans attributed to this line of business on an annualized basis. The decrease in net loans charged off was primarily due to full recovery of a nonaccruing commercial loan and a decrease in losses on commercial real estate loans.
 
Average deposits attributed to Commercial Banking were $8.2 billion for the second quarter of 2012, up $591 million or 8% over the second quarter of 2011. Average balances attributed to our energy customers increased $399 million or 49% and average balances attributed to our commercial & industrial loan customers increased $388 million or 14%. Average balances held by treasury services customers were down $264 million compared to the second quarter of 2011. Commercial customers continue to maintain high account balances due to continued economic uncertainty and persistently low yields available on high quality investments.


- 14 -




Consumer Banking

Consumer banking services are provided through five primary distribution channels:  traditional branches, supermarket branches, the 24-hour ExpressBank call center, Internet banking and mobile banking.

Consumer banking contributed $14.7 million to consolidated net income for the second quarter of 2012, up $7.6 million primarily due to growth in mortgage banking revenue. Revenue from mortgage loan production was up $20.3 million over the second quarter of 2011. Changes in fair value of our mortgage servicing rights, net of economic hedge, decreased net income attributed to consumer banking by $1.2 million in the second quarter of 2012 and $1.4 million in the second quarter of 2011.

Table 8 – Consumer Banking
(Dollars in thousands)
 
 
Three Months Ended
 
 
 
Six Months Ended
 
 
 
 
 
June 30,
 
Increase
 
June 30,
 
Increase
 
 
 
2012
 
2011
 
(Decrease)
 
2012
 
2011
 
(Decrease)
 
Net interest revenue from external sources
 
$
23,125

 
$
21,358

 
$
1,767

 
$
46,939

 
$
40,022

 
$
6,917

 
Net interest revenue from internal sources
 
5,885

 
7,675

 
(1,790
)
 
12,005

 
17,080

 
(5,075
)
 
Total net interest revenue
 
29,010

 
29,033

 
(23
)
 
58,944

 
57,102

 
1,842

 
Net loans charged off
 
4,221

 
3,049

 
1,172

 
5,653

 
5,731

 
(78
)
 
Net interest revenue after net loans charged off
 
24,789

 
25,984

 
(1,195
)
 
53,291

 
51,371

 
1,920

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fees and commissions revenue
 
64,286

 
46,298

 
17,988

 
120,221

 
89,717

 
30,504

 
Gain on financial instruments and other assets, net
 
10,914

 
11,188

 
(274
)
 
6,076

 
5,251

 
825

 
Other operating revenue
 
75,200

 
57,486

 
17,714

 
126,297

 
94,968

 
31,329

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Personnel expense
 
23,088

 
20,890

 
2,198

 
44,212

 
41,936

 
2,276

 
Net losses and expenses of repossessed assets
 
179

 
1,086

 
(907
)
 
394

 
1,657

 
(1,263
)
 
Change in fair value of mortgage servicing rights
 
11,450

 
13,493

 
(2,043
)
 
4,323

 
10,364

 
(6,041
)
 
Other non-personnel expense
 
30,086

 
23,814

 
6,272

 
53,308

 
44,459

 
8,849

 
Corporate allocations
 
11,085

 
12,569

 
(1,484
)
 
21,403

 
25,638

 
(4,235
)
 
Total other operating expense
 
75,888

 
71,852

 
4,036

 
123,640

 
124,054

 
(414
)
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Income before taxes
 
24,101

 
11,618

 
12,483

 
55,948

 
22,285

 
33,663

 
Federal and state income tax
 
9,375

 
4,519

 
4,856

 
21,764

 
8,669

 
13,095

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income
 
$
14,726

 
$
7,099

 
$
7,627

 
$
34,184

 
$
13,616

 
$
20,568

 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Average assets
 
$
5,695,019

 
$
5,864,942

 
$
(169,923
)
 
$
5,757,046

 
$
5,992,191

 
$
(235,145
)
 
Average loans
 
2,129,408

 
2,038,866

 
90,542

 
2,130,362

 
2,017,115

 
113,247

 
Average deposits
 
5,577,262

 
5,640,794

 
(63,532
)
 
5,596,158

 
5,788,920

 
(192,762
)
 
Average invested capital
 
289,443

 
271,353

 
18,090

 
288,351

 
272,301

 
16,050

 
Return on average assets
 
1.04
%
 
0.49
%
 
55

bp
1.19
%
 
0.46
%
 
73

bp
Return on invested capital
 
20.46
%
 
10.49
%
 
997

bp
23.91
%
 
10.08
%
 
1,383

bp
Efficiency ratio
 
69.07
%
 
77.47
%
 
(840
)
bp
66.60
%
 
77.44
%
 
(1,084
)
bp
Net charge-offs (annualized) to average loans
 
0.80
%
 
0.60
%
 
20

bp
0.53
%
 
0.57
%
 
(4
)
bp
Residential mortgage loans funded for sale
 
$
841,959

483,808,000

$
483,808

 
$
358,151

 
$
1,588,200

 
$
903,492

 
$
684,708

 

- 15 -




 
 
June 30,
2012
 
June 30,
2011
 
Increase
(Decrease)
Banking locations
 
213

 
207

 
6

Residential mortgage loans servicing portfolio1
 
$
12,635,324

 
$
12,177,661

 
$
457,663

1 
Includes outstanding principal for loans serviced for affiliates

Net interest revenue from consumer banking activities was flat compared to the second quarter of 2011. Net interest earned on residential mortgage-backed securities held as an economic hedge of mortgage servicing rights declined by $3.2 million due to a $208 million reduction in the average balance of this portfolio. Average loan balances were up $91 million or 4% over the second quarter of 2011. Other consumer loans increased, partially offset by decreased balances of indirect automobile loans due to paydowns. The Company previously disclosed its decision to exit the indirect automobile loan business in the first quarter of 2009. Net interest earned on deposits sold to our funds management unit decreased $886 thousand primarily due to lower yields on funds invested.

Net loans charged off by the Consumer Banking unit increased $1.2 million compared to the second quarter of 2011 primarily due to increased residential mortgage loan charge-offs. Net consumer banking charge-offs also includes indirect automobile loans, overdrawn deposit accounts and other direct consumer loans.

Fees and commissions revenue increased $18.0 million or 39% over the second quarter of 2011. Mortgage banking revenue was up $20.7 million or 106% compared to the prior year primarily due to increased residential mortgage loan originations and commitments and improved pricing of loans sold. Transaction card revenues were down $4.5 million or 44% from the prior year primarily due to the impact of interchange fee regulations which became effective on October 1, 2011.

Excluding the change in the fair value of mortgage servicing rights, operating expenses increased $6.1 million over the second quarter of 2011. Personnel expenses were up $2.2 million or 11% primarily due to expansion of our mortgage banking division which positioned us to benefit from increased demand as the result of continued low mortgage interest rates. Non-personnel expense increased $6.3 million or 26% due primarily to increased mortgage banking activity and included a $2.2 million increase in mortgage banking costs primarily related to increasing our accrual for potential credit losses on loans sold to U.S. government agencies under standard representations and warranties. Our level of repurchases to date has remained low relative to the size of our servicing portfolio and we expect it to remain low; however, the loss severity of loans we have had to repurchase from the agencies has trended higher. See additional discussion of the repurchase level in Note 5 to the Consolidated Financial Statements. Corporate expense allocations were down $1.5 million compared to the second quarter of 2011. Net losses and operating expenses of repossessed assets were down $907 thousand compared to the prior year.

Average consumer deposits decreased $64 million or 1% compared to the second quarter of 2011.  Average interest-bearing transaction accounts increased $146 million or 5% and average demand deposits increased $92 million or 16%. Average time deposit balances were down $344 million or 16% compared to the prior year.

Our Consumer Banking division originates, markets and services conventional and government-sponsored residential mortgage loans for all of our geographical markets. We funded $918 million of residential mortgage loans in the second quarter of 2012 and $533 million in the second quarter of 2011. Mortgage loan fundings included $842 million of mortgage loans funded for sale in the secondary market and $76 million funded for retention within the consolidated group. Approximately 36% of our mortgage loans funded were in the Oklahoma market, 16% in the New Mexico market, 14% in the Texas market and 14% in the Colorado market. In addition, 6% of our mortgage loan fundings came from correspondent lenders. Expansion of our mortgage banking division in the Texas, Colorado and Kansas markets positioned us to benefit from increased demand as the result of continued low mortgage interest rates.

At June 30, 2012, the Consumer Banking division services $11.6 billion of mortgage loans serviced for others and $1.1 billion of loans retained within the consolidated group. Approximately 97% of the mortgage loans serviced by the Consumer Banking division were to borrowers in our primary geographical market areas. Loans past due 90 days or more totaled $109 million or 0.94% of loans serviced for others at June 30, 2012 compared to $109 million or 0.96% of loans serviced for others at March 31, 2012. Mortgage servicing revenue, including revenue on loans serviced for the the consolidated group, increased $422 thousand or 4% over the second quarter of 2011 to $10.4 million.


- 16 -




Wealth Management

Wealth Management contributed $6.3 million to consolidated net income in second quarter of 2012, up $2.4 million or 61% over the second quarter of 2011.

Table 9 – Wealth Management
(Dollars in thousands)
 
Three Months Ended
 
 
 
Six Months Ended
 
 
 
 
June 30,
 
Increase
 
June 30,
 
Increase
 
 
2012
 
2011
 
(Decrease)
 
2012
 
2011
 
(Decrease)
 
Net interest revenue from external sources
$
7,137

 
$
7,926

 
$
(789
)
 
$
14,277

 
$
16,150

 
$
(1,873
)
 
Net interest revenue from internal sources
5,306

 
3,696

 
1,610

 
10,279

 
6,667

 
3,612

 
Total net interest revenue
12,443

 
11,622

 
821

 
24,556

 
22,817

 
1,739

 
Net loans charged off
521

 
623

 
(102
)
 
1,171

 
1,061

 
110

 
Net interest revenue after net loans charged off
11,922

 
10,999

 
923

 
23,385

 
21,756

 
1,629

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Fees and commissions revenue
51,229

 
42,266

 
8,963

 
97,674

 
82,191

 
15,483

 
Gain on financial instruments and other assets, net
327

 
522

 
(195
)
 
275

 
565

 
(290
)
 
Other operating revenue
51,556

 
42,788

 
8,768

 
97,949

 
82,756

 
15,193

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Personnel expense
36,682

 
31,954

 
4,728

 
71,933

 
60,275

 
11,658

 
Net losses (gains) and expenses of repossessed assets
15

 
37

 
(22
)
 
20

 
(4
)
 
24

 
Other non-personnel expense
7,381

 
6,990

 
391

 
14,326

 
14,087

 
239

 
Corporate allocations
9,131

 
8,416

 
715

 
18,205

 
16,744

 
1,461

 
Other operating expense
53,209

 
47,397

 
5,812

 
104,484

 
91,102

 
13,382

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Income before taxes
10,269

 
6,390

 
3,879

 
16,850

 
13,410

 
3,440

 
Federal and state income tax
3,995

 
2,486

 
1,509

 
6,555

 
5,216

 
1,339

 
 
 
 
 
 
 
 
 
 
 
 
 
 
Net income
$
6,274

 
$
3,904

 
$
2,370

 
$
10,295

 
$
8,194

 
$
2,101