FFIN US Equity☆

ITEM 1A. RISK FACTORS

Our business, financial condition, operating results and cash flows can be impacted by a number of factors, including but not limited to those set forth below, any one of which could cause our actual results to vary materially from recent results or from our anticipated future results and other forward-looking statements that we make from time to time in our news releases, annual reports and other written communications, as well as oral forward-looking statements, and other statements made from time to time by our representatives.

Risks Related to Our Business

Interest Rate Risks

We are subject to interest rate risk.

Our profitability is dependent to a large extent on our net interest income, which is the difference between interest income we earn as a result of interest paid to us on loans and investments and interest we pay to third parties such as our depositors and those from whom we borrow funds. Like most financial institutions, we are highly sensitive to many factors that are beyond our control, including general economic conditions and policies of various governmental and regulatory agencies and, in particular, the Federal Reserve Board. Changes in monetary policy, including changes in interest rates, could influence not only the interest we receive on loans and securities and the amount of interest we pay on deposits and borrowings, but such changes could also affect (i) our ability to originate loans and obtain deposits, (ii) the fair value of our financial assets and liabilities, and (iii) the average duration of our securities portfolio. If the interest rates paid on deposits and other borrowings increase at a faster rate than the interest rates received on loans and investments, our net interest income, and earnings, could be adversely affected. Earnings could also be adversely affected if the interest rates received on loans and investments fall more quickly than the interest rates paid on deposits and other borrowings.

The Federal Reserve increased rates 100 basis points in 2018 but then decreased rates 75 basis points during the third and fourth quarters of 2019 and then an additional 150 basis points in the first quarter of 2020, resulting in a current target rate range of zero to 25 basis points. Today, there is substantial uncertainty regarding future interest rates. Increases in interest rates can have negative impacts on our business, including reducing our customers’ desire to borrow money from us or adversely affecting their ability to repay their outstanding loans by increasing their debt obligations through the periodic reset of adjustable interest rate loans. If our borrowers’ ability to pay their loans is impaired by increasing interest payment obligations, our level of

non-performing

assets would increase, producing an adverse effect on operating results. Asset values, especially commercial real estate as collateral, securities or other fixed rate earning assets, can decline significantly with relatively minor changes in interest rates. Conversely, decreases in interest rates can effect the amount of interest we earn on our loans and investment securities, which could have a material adverse effect on the Company’s financial condition and results of operations. Although we have implemented strategies which we believe reduce the potential effects of adverse changes in interest rates on our results of operations, these strategies may not always be successful. Any of these events could adversely affect our results of operations, financial condition and liquidity.

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Uncertainty relating to the London interbank offered rate (“LIBOR”) calculation process and potential phasing out of LIBOR may adversely affect us.

On July 27, 2017, the Chief Executive of the United Kingdom Financial Conduct Authority, which regulates LIBOR, announced that it intends to stop persuading or compelling banks to submit rates for the calculation of LIBOR to the administrator of LIBOR after 2021. The announcement indicates that the continuation of LIBOR on the current basis cannot and will not be guaranteed after 2021. It is impossible to predict whether and to what extent banks will continue to provide LIBOR submissions to the administrator of LIBOR or whether any additional reforms to LIBOR may be enacted in the United Kingdom or elsewhere. At this time, no consensus exists as to what rate or rates may become acceptable alternatives to LIBOR and it is impossible to predict the effect of any such alternatives on the value of LIBOR-based securities and variable rate loans, debentures, or other securities or financial arrangements, given LIBOR’s role in determining market interest rates globally. Uncertainty as to the nature of alternative reference rates and as to potential changes or other reforms to LIBOR may adversely affect LIBOR rates and the value of LIBOR-based loans and securities in our portfolio and may impact the availability and cost of hedging instruments and borrowings. If LIBOR rates are no longer available, and we are required to implement substitute indices for the calculation of interest rates under our loan agreements with our borrowers, we may incur significant expenses in effecting the transition, and may be subject to disputes or litigation with customers over the appropriateness or comparability to LIBOR of the substitute indices, which could have an effect on our financial condition or results of operations.

Credit and Lending Risks

In our business, we must effectively manage our credit risk.

As a lender, we are exposed to the risk that our loan customers may not repay their loans according to the terms of these loans and the collateral securing the payment of these loans may be inadequately documented or may be insufficient to fully compensate us for the outstanding balance of the loan plus the costs to dispose of the collateral. We may experience significant loan losses, which could have a material adverse effect on our operating results and financial condition. Management makes various assumptions and judgments about the collectability of our loan portfolio, including the diversification by industry of our commercial loan portfolio, the amount of nonperforming loans and related collateral, the volume, growth and composition of our loan portfolio, the effects on the loan portfolio of current economic indicators and their probable impact on borrowers and the evaluation of our loan portfolio through our internal loan review process and other relevant factors.

We maintain an allowance for credit losses, which is an allowance established through a provision for credit losses charged to expense that represents management’s best estimate of probable losses inherent in our loan portfolio. Additional credit losses will likely occur in the future and may occur at a rate greater than we have experienced to date. In determining the amount of the allowance, we rely on an analysis of our loan portfolio, our experience and our evaluation of general economic conditions. If our assumptions prove to be incorrect, our current allowance may not be sufficient and adjustments may be necessary to allow for different economic conditions or adverse developments in our loan portfolio. Material additions to the allowance could materially decrease our net income.

In addition, banking regulators periodically review our allowance for credit losses and may require us to increase our provision for credit losses or recognize further charge-offs, based on judgments different than those of our management. Any increase in our allowance for credit losses or charge-offs as required by these regulatory agencies could have a material negative effect on our operating results and financial condition.

New accounting standard, effective January

1, 2020, significantly changes how we recognize credit losses and may have a material impact on our financial condition or results of operations

.

Effective January 1, 2020, the Company implemented the provision of

Accounting Standards Update (“ASU”)

2016-13,

“Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments.”

ASU

2016-13

represents a comprehensive change in estimating the allowance for credit losses from the previous “incurred loss” model of losses inherent in the loan portfolio to a current “expected loss” model, which encompasses losses expected to be incurred over the life of the portfolio.

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The measurement of expected credit losses under ASU

2016-13

is based on information about past events, including historical experience, current conditions, and reasonable and supportable forecasts that affect the collectability of the reported amount. This measurement will take place at the time the financial asset is first added to the balance sheet and periodically thereafter. This differs significantly from the “incurred loss” model previously required under generally accepted accounting principles, which delays recognition until it is probable a loss has been incurred. Accordingly, we expect that the adoption of ASU

2016-13

could materially affect how we determine our allowance for credit losses and may require us to significantly increase our allowance. Moreover, ASU

2016-13

may create more volatility in the level of our allowance for credit losses. If we are required to materially increase our level of allowance for credit losses for any reason, such increase could adversely affect our business, financial condition and results of operations.

We are subject to environmental liability risk associated with lending activities.

A significant portion of our loan portfolio is secured by real property. During the ordinary course of business, we may foreclose on and take title to properties securing certain loans. In doing so, there is a risk that hazardous or toxic substances could be found on these properties. If hazardous or toxic substances are found, we may be liable for remediation costs, as well as for personal injury and property damage. Environmental laws may require us to incur substantial expenses and may materially reduce the affected property’s value or limit our ability to use or sell the affected property. In addition, future laws or more stringent interpretations or enforcement policies with respect to existing laws may increase our exposure to environmental liability. Environmental reviews of real property before initiating foreclosure actions may not be sufficient to detect all potential environmental hazards. The remediation costs and any other financial liabilities associated with an environmental hazard could have a material adverse effect on our business, financial condition and results of operations.

The value of real estate collateral may fluctuate significantly resulting in an under-collateralized loan portfolio.

The market value of real estate, particularly real estate

held-for-investment

(“HFI”), can fluctuate significantly in a short period of time as a result of market conditions in the geographic area in which the real estate is located. If the value of the real estate serving as collateral for our loan portfolio were to decline materially, a significant part of our loan portfolio could become under-collateralized. If the loans that are collateralized by real estate become troubled during a time when market conditions are declining or have declined, then, in the event of foreclosure, we may not be able to realize the amount of collateral that we anticipated at the time of originating the loan. This could have a material adverse effect on our provision for credit losses and our operating results and financial condition.

Liquidity Risk

We are subject to liquidity risk.

The Company requires liquidity to meet our deposit and other obligations as they come due. The Company’s access to funding sources in amounts adequate to finance its activities or on terms that are acceptable to it could be impaired by factors that affect it specifically or the financial services industry or the general economy. Factors that could reduce its access to liquidity sources include a downturn in the Texas market, difficult credit markets or adverse regulatory actions against the Company. The Company’s access to deposits may also be affected by the liquidity needs of its depositors. In particular, a substantial majority of the Company’s liabilities are demand, savings, interest checking and money market deposits, which are payable on demand or upon several days’ notice, while by comparison, a substantial portion of its assets are loans, which cannot be called or sold in the same time frame. The Company may not be able to replace maturing deposits and advances as necessary in the future, especially if a large number of its depositors sought to withdraw their accounts, regardless of the reason. A failure to maintain adequate liquidity could have a material adverse effect on the Company’s business, financial condition and result of operations.

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Operational Risks

Our accounting estimates and risk management processes rely on analytical and forecasting models.

The processes we use to estimate our allowance for credit losses and to measure the fair value of financial instruments, as well as the processes used to estimate the effects of changing interest rates depends upon the use of analytical and forecasting models. In addition, these models are used to calculate fair value of our assets and liabilities when we acquire other financial institutions. These models reflect assumptions that may not be accurate, particularly in times of market stress or other unforeseen circumstances. Even if these assumptions are adequate, the models may prove to be inadequate or inaccurate because of other flaws in their design or their implementation. If the models we use for interest rate risk and asset-liability management are inadequate, we may incur increased or unexpected losses upon changes in market interest rates or other market measures. If the models we use for determining our current expected credit losses are inadequate, the allowance for credit losses may not be sufficient to support future charge-offs. If the models we use to measure the fair value of financial instruments is inadequate, the fair value of such financial instruments may fluctuate unexpectedly or may not accurately reflect what we could realize upon sale or settlement of such financial instruments. Such failure in our analytical or forecasting models could have a material adverse effect on our business, financial condition and results of operations.

The value of our goodwill and other intangible assets may decline in the future.

As of December 31, 2020, we had $318.39 million of goodwill and other intangible assets. A significant decline in our financial condition, a significant adverse change in the business climate, slower growth rates or a significant and sustained decline in the price of our common stock may necessitate taking charges in the future related to the impairment of our goodwill and other intangible assets. If we were to conclude that a future write-down of goodwill and other intangible assets is necessary, we would record the appropriate charge, which could have a material adverse effect on our financial condition and results of operations.

Breakdowns in our internal controls and procedures could have an adverse effect on us.

We believe our internal control system as currently documented and functioning is adequate to provide reasonable assurance over our internal controls. Nevertheless, because of the inherent limitation in administering a cost effective control system, misstatements due to error or fraud may occur and not be detected. Breakdowns in our internal controls and procedures could occur in the future, and any such breakdowns could have an adverse effect on us. See “Item 9A – Controls and Procedures” for additional information.

New lines of business or new products and services may subject the Company to additional risks.

From time to time, the Company may implement new lines of business or offer new products and services within existing lines of business. There are substantial risks and uncertainties associated with these efforts, particularly in instances where the markets are not fully developed. In developing and marketing new lines of business and/or products and services, the Company may invest significant time and resources. External factors, such as compliance with regulations, competitive alternatives, and shifting market preferences, may also impact the successful implementation of a new line of business or a new product or service. If we are unable to successfully manage these risks in the development and implementation of new lines of business or new products or services, it could have a material adverse effect on the Company’s business, financial condition and result of operations.

Our reputation and business could be damaged by negative publicity.

Reputation risk, or the risk to our earnings and capital by negative public opinion, is inherent in our business. Negative public opinion could adversely affect our ability to keep and attract customers and expose us to adverse legal and regulatory consequences. Negative public opinion could result from our actual or alleged conduct in any number of activities, including lending practices, corporate governance, perception of our environmental, social and governance practices and disclosures, regulatory compliance, mergers and acquisitions, sharing or inadequate protection of customer information, and from actions taken by government regulators and community organizations in response to that conduct. Negative public opinion could also result from adverse news or publicity that impairs the reputation of the financial services industry. In addition, adverse publicity or negative information posted on social media, whether or not factually correct, may adversely impact our business prospects or financial results.

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First Financial Bankshares, Inc. relies on dividends from its subsidiaries for most of its revenue.

First Financial Bankshares

,

Inc. is a separate and distinct legal entity from its subsidiaries. It receives substantially all of its revenue from dividends paid by its subsidiaries. These dividends are the principal source of funds to pay dividends on the Company’s common stock to shareholders and interest and principal on First Financial Bankshares, Inc. debt (to the extent we have balances outstanding). Various federal and/or state laws and regulations limit the amount of dividends that our bank and trust subsidiaries may pay to First Financial Bankshares, Inc. In the event our subsidiaries are unable to pay dividends to First Financial Bankshares, Inc., First Financial Bankshares, Inc. may not be able to service debt, if any, or pay dividends on the Company’s common stock. The inability to receive dividends from our subsidiaries could have a material adverse effect on the Company’s business, financial condition, results of operations and liquidity.

System failure or cybersecurity breaches of our network security could subject us to increased operating costs as well as litigation and other potential losses.

The computer systems and network infrastructure we use could be vulnerable to unforeseen hardware and cybersecurity issues, including “hacking” and “identity theft.” Our operations are dependent upon our ability to protect our computer equipment against damage from fire, power loss, telecommunications failure or a similar catastrophic event. Any damage or failure that causes an interruption in our operations could have an adverse effect on our financial condition and results of operations. In addition, our operations are dependent upon our ability to protect the computer systems and network infrastructure utilized by us, including our Internet banking activities, against damage from physical

break-ins,

cybersecurity breaches and other disruptive problems caused by the Internet or other users. Such computer

break-ins

and other disruptions would jeopardize the security of information stored in and transmitted through our computer systems and network infrastructure, which may result in significant liability to us, damage our reputation and inhibit current and potential customers from our Internet banking services. Each year, we add additional security measures to our computer systems and network infrastructure to mitigate the possibility of cybersecurity breaches including firewalls and penetration testing. We continue to investigate cost effective measures as well as insurance protection.

Furthermore, our customers could incorrectly blame the Company and terminate their accounts with the Company for a cyber-incident which occurred on their own system or with that of an unrelated third party. In addition, a security breach could also subject us to additional regulatory scrutiny and expose us to civil litigation and possible financial liability.

Our business may be adversely affected by security breaches at third parties.

Our customers interact with their own and other third-party systems, which pose operational risks to us. We may be adversely affected by data breaches at retailers and other third parties who maintain data relating to our customers that involve the theft of customers data, including the theft of customers’ debit card, merchant credit card, wire transfer and other identifying and/or access information used to make purchases or payments at retailers and other third parties.

In the event of a data breach at one or more retailers of considerable magnitude, the Company’s business, financial condition and results of operations may be adversely affected.

We are subject to claims and litigation pertaining to intellectual property.

We rely on technology companies to provide information technology products and services necessary to support our

day-to-day

operations. Technology companies frequently enter into litigation based on allegations of patent infringement or other violations of intellectual property rights. In addition, patent holding companies seek to monetize patents they have purchased or otherwise obtained. Competitors of our vendors, or other individuals or companies, have from time to time claimed to hold intellectual property sold to us by its vendors. Such claims may increase in the future as the financial services sector becomes more reliant on information technology vendors. The plaintiffs in these actions frequently seek injunctions and substantial damages.

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Regardless of the scope or validity of such patents or other intellectual property rights, or the merits of any claims by potential or actual litigants, we may have to engage in litigation that could be expensive, time-consuming, disruptive to our operations, and distracting to management. If we are found to infringe one or more patents or other intellectual property rights, we may be required to pay substantial damages or royalties to a third-party. In certain cases, we may consider entering into licensing agreements for disputed intellectual property, although no assurance can be given that such licenses can be obtained on acceptable terms or that litigation will not occur. These licenses may also significantly increase our operating expenses. If legal matters related to intellectual property claims were resolved against us or settled, we could be required to make payments in amounts that could have a material adverse effect on our business, financial condition and results of operations.

We depend on the accuracy and completeness of information about customers and counterparties.

In deciding whether to extend credit or enter into other transactions, we must rely on information furnished by or on behalf of customers and counterparties, including financial statements, credit reports and other financial information. We also rely on representations of those customers, counterparties or other third parties, such as independent auditors, as to the accuracy and completeness of that information. Reliance on inaccurate or misleading financial statements, credit reports or other financial information could have a material adverse impact on our business, financial condition and results of operations.

We do business with other financial institutions that could experience financial difficulty.

We do business through the purchase and sale of federal funds, check clearing and through the purchase and sale of loan participations with other financial institutions. Because these financial institutions have many risks, as do we, we could be adversely affected should one of these financial institutions experience significant financial difficulties or fail to comply with our agreements with them.

We are subject to possible claims and litigation pertaining to fiduciary responsibility.

From time to time, customers could make claims and take legal actions pertaining to our performance of our fiduciary responsibilities. Whether customer claims and legal actions related to our performance of our fiduciary responsibilities are founded or unfounded, if such claims and legal actions are not resolved in a manner favorable to us, they may result in significant financial liability and/or adversely affect our market perception of our products and services as well as impact customer demand for those products and services. Any financial liability or reputation damage could have a material adverse effect on our business, which, in turn, could have a material adverse effect on our financial condition and results of operations.

Our operations rely on certain external vendors.

We rely on certain external vendors to provide products and services necessary to maintain our

day-to-day

operations. Accordingly, our operations are exposed to risk that these vendors will not perform in accordance with the contracted agreements under service level agreements. The failure of an external vendor to perform in accordance with the contracted arrangements under service level agreements, because of changes in the vendor’s organizational structure, financial condition, support for existing products or services or strategic focus or for any other reason, could be disruptive to our operations, which could have a material adverse effect on our business and, in turn, our financial condition and results of operations.

Certain of our investment advisory and wealth management contracts are subject to termination on short notice, and termination of a significant number of investment advisory contracts could have a material adverse impact on our revenue.

Certain of our investment advisory and wealth management clients can terminate, with little or no notice, their relationships with us, reduce their aggregate assets under management, or shift their funds to other types of accounts with different rate structures for any number of reasons, including investment performance, changes in prevailing

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interest rates, inflation, changes in investment preferences of clients, changes in our reputation in the marketplace, change in management or control of clients, loss of key investment management personnel and financial market performance. We cannot be certain that our trust company subsidiary will be able to retain all of its clients. If its clients terminate their investment advisory and wealth management contracts, our trust company subsidiary, and consequently we, could lose a substantial portion of our revenues.

The trust wealth management fees we receive may decrease as a result of poor investment performance, in either relative or absolute terms, which could decrease our revenues and net earnings.

Our trust company subsidiary derives its revenues primarily from investment management fees based on assets under management. Our ability to maintain or increase assets under management is subject to a number of factors, including investors’ perception of our past performance, in either relative or absolute terms, market and economic conditions, including changes in oil and gas prices, and competition from investment management companies. Financial markets are affected by many factors, all of which are beyond our control, including general economic conditions, including changes in oil and gas prices; securities market conditions; the level and volatility of interest rates and equity prices; competitive conditions; liquidity of global markets; international and regional political conditions; regulatory and legislative developments; monetary and fiscal policy; investor sentiment; availability and cost of capital; technological changes and events; outcome of legal proceedings; changes in currency values; inflation; credit ratings; and the size, volume and timing of transactions. A decline in the fair value of the assets under management, caused by a decline in general economic conditions, would decrease our wealth management fee income.

Investment performance is one of the most important factors in retaining existing clients and competing for new wealth management clients. Poor investment performance could reduce our revenues and impair our growth in the following ways:

• our ability to attract funds from existing and new clients might diminish; and

Even when market conditions are generally favorable, our investment performance may be adversely affected by the investment style of our wealth management and investment advisors and the particular investments that they make. To the extent our future investment performance is perceived to be poor in either relative or absolute terms, the revenues and profitability of our wealth management business will likely be reduced and our ability to attract new clients will likely be impaired. As such, fluctuations in the equity and debt markets can have a direct impact upon our net earnings. In addition, as approximately 10% of trust fees comes from management of oil and gas properties, a decline in the prices of oil and gas could lead to a loss of material amounts of our trust income.

External and Market Related Risks

Our business is concentrated in Texas and a downturn in the economy of Texas may adversely affect our business.

Our network of bank regions is concentrated in Texas, primarily in the Central, North Central, Southeast and Western regions of the state. Most of our customers and revenue are derived from these areas. These economies include dynamic centers of higher education, agriculture, energy and natural resources, retail, military, healthcare, tourism, retirement living, manufacturing and distribution. Because we generally do not derive revenue or customers from other parts of the state or nation, our business and operations are dependent on economic conditions in our Texas markets. Any significant decline in one or more segments of the local economies could adversely affect our business, revenue, operations and properties.

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The volatility in oil and gas prices results in uncertainty about the Texas economy. While we consider our exposure to credits related to the oil and gas industry to not be significant, at approximately 2.27% of total loans as of December 31, 2020, should the price of oil and gas decline further and/or remain at low prices for an extended period, the general economic conditions in our Texas markets could be negatively affected, which could have a material adverse affect on our business, financial condition and results of operations.

Our Company lends primarily to small to

medium-sized

businesses that may have fewer resources to weather a downturn in the economy, which could adversely impact the Company’s operating results.

The Company makes loans to privately-owned businesses, many of which are considered to be small to

medium-sized

businesses. Small to

medium-sized

businesses frequently have smaller market share than their competition, may be more vulnerable to economic downturns, often need additional capital to expand or compete and may experience more volatility in operating results. Any one or more of these factors may impair the borrower’s ability to repay a loan. In addition, the success of a small to

medium-sized

businesses often depends on the management talents and efforts of a small group of persons, and the death, disability or resignation of one or more of these persons could have adverse impact on the business and its ability to repay our loans. Economic downturns, a sustained decline in commodity prices and other events that could negatively impact the businesses could cause the Company to incur credit losses that could negatively affect the Company’s results of operations and financial condition.

If we are unable to continue to originate residential real estate loans and sell them into the secondary market for a profit, our earnings could decrease.

We derive a portion of our noninterest income from the origination of residential real estate loans and the subsequent sale of such loans into the secondary market. If we are unable to continue to originate and sell residential real estate loans at historical or greater levels, our residential real estate loan volume would decrease, which could decrease our earnings. A rising interest rate environment, general economic conditions or other factors beyond our control could adversely affect our ability to originate residential real estate loans. We also are experiencing an increase in regulations and compliance requirements related to mortgage loan originations necessitating technology upgrades and other changes. If new regulations continue to increase and we are unable to make technology upgrades, our ability to originate mortgage loans will be reduced or eliminated. Additionally, we sell a large portion of our residential real estate loans to third party investors, and rising interest rates could negatively affect our ability to generate suitable profits on the sale of such loans. If interest rates increase after we originate the loans, our ability to market those loans is impaired as the profitability on the loans decreases. These fluctuations can have an adverse effect on the revenue we generate from residential real estate loans and in certain instances, could result in a loss on the sale of the loans.

Further, for the mortgage loans we sell in the secondary market, the mortgage loan sales contracts contain indemnification clauses should the loans default, generally in the first sixty to ninety days, or if documentation is determined not to be in compliance with regulations. While the Company’s historic losses as a result of these indemnities have been insignificant, we could be required to repurchase the mortgage loans or reimburse the purchaser of our loans for losses incurred. Both of these situations could have an adverse effect on the profitability of our mortgage loan activities and negatively impact our net income.

Difficult or changes in market conditions could adversely affect the financial services industry.

The financial markets have experienced volatility over the past several years. In some cases, the financial markets have produced downward pressure on stock prices and credit availability for certain companies without regard to those companies’ underlying financial strength. If financial market volatility worsens, or there are disruptions in these financial markets, including disruptions to the United States banking systems, there can be no assurance that we will not experience an adverse effect on our ability to access capital and our business, financial condition and result of operations could be adversely impacted.

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The value of certain securities in our investment portfolio may be negatively affected by changes or disruptions in the market for these securities.

Our investment portfolio securities include obligations of state and political subdivisions, corporate bonds, general obligation or revenue based municipal bonds and mortgage-backed securities guaranteed by government sponsored enterprises such as the Federal National Mortgage Association, the Government National Mortgage Association, the Federal Home Loan Mortgage Corporation, and the Federal Home Loan Bank or otherwise backed by Federal Housing Administration or Veteran’s Administration guaranteed loans; however, volatility or illiquidity in financial markets may cause investment securities held within our investment portfolio to fall in value or become less liquid. Increases in interest rates may cause a decline in the value of securities held by the Company. Uncertainty surrounding the credit risk associated with mortgage collateral or guarantors may cause material discrepancies in valuation estimates obtained from third parties. Volatile market conditions may reduce valuations due to the perception of heightened credit and liquidity risks in addition to interest rate risk typically associated with these securities. There can be no assurance that declines in market value associated with these disruptions will not result in impairments of these assets, which would lead to accounting charges that could have a material adverse effect on our results of operations, equity and capital ratios.

We may need to raise additional capital and such funds may not be available when needed

.

We may need to raise additional capital in the future to provide us with sufficient capital resources to meet our commitments and business needs, particularly if our asset quality or earnings were to deteriorate significantly. Our ability to raise additional capital, if needed, will depend on, among other things, conditions in the capital and financial markets at that time, which are outside of our control, and our financial performance. Economic conditions and the loss of confidence in financial institutions may increase our cost of funding and limit access to certain customary sources of capital, other financial institution borrowings and borrowings from the discount window of the Federal Reserve. Any occurrence that may limit our access to the capital markets, such as a decline in the confidence of other financial institutions, or counterparties participating in the capital markets, may adversely affect our costs and our ability to raise capital. An inability to raise additional capital on acceptable terms when needed could have a materially adverse effect on our financial condition and results of operations.

Compliance and Regulatory Risks

We may be subject to more stringent capital and liquidity requirements which would adversely affect our net income and future growth.

The Federal Reserve Board adopted a final rule that implemented the Basel III changes to the international regulatory capital framework and revised the U.S. risk-based and leverage capital requirements for U.S. banking organizations to strengthen identified areas of weakness in capital rules and to address relevant provisions of the Dodd-Frank Act.

The final rule established a stricter regulatory capital framework that requires banking organizations to hold more and higher-quality capital to act as a financial cushion to absorb losses and help banking organizations better withstand periods of financial stress. The final rule increased capital ratios for all banking organizations and introduced a “capital conservation buffer” which is in addition to each capital ratio. If a banking organization dips into its capital conservation buffer, it may be restricted in its ability to pay dividends and discretionary bonus payments to its executive officers. The final rule assigned a higher risk weight to loans that are more than 90 days past due or are on nonaccrual status and to certain commercial real estate facilities that finance the acquisition, development or construction of real property. The final rule also required unrealized gains and losses on certain

“available-for-sale”

securities holdings to be included for purposes of calculating regulatory capital requirements unless a

one-time

opt-out

is exercised. We exercised this

opt-out

right in our March 31, 2015 quarterly financial filing. The final rule also included changes in what constitutes regulatory capital. In addition, Tier 2 capital is no longer limited to the amount of Tier 1 capital included in total capital. Mortgage servicing rights, certain deferred tax assets and investments in unconsolidated subsidiaries over designated percentages of common stock are required to be deducted from capital. The final rule became effective for us on January 1, 2015. As of December 31, 2020, we met all of these new requirements, including the full capital conservation buffer.

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Although we currently cannot predict the specific impact and long-term effects that Basel III will have on our Company and the banking industry more generally, the Company may be required to maintain higher regulatory capital levels which could impact our operations, net income and ability to grow. Furthermore, the Company’s failure to comply with the minimum capital requirements could result in our regulators taking formal or informal actions against us which could restrict our future growth or operations.

Our business is subject to significant government regulation.

We operate in a highly-regulated environment and are subject to supervision or regulation by a number of governmental regulatory agencies, including the Federal Reserve Board, the OCC, the FDIC and the CFPB. Regulations adopted by these agencies, which are generally intended to provide protection for depositors and customers rather than for the benefit of shareholders, govern a comprehensive range of matters relating to ownership and control of our shares, our acquisition of other companies and businesses, permissible activities for us to engage in, maintenance of adequate capital levels and other aspects of our operations. The bank regulatory agencies possess broad authority to prevent or remedy unsafe or unsound practices or violations of law.

The Dodd-Frank Act, enacted in July 2010, instituted major changes to the banking and financial institutions regulatory regimes in light of the recent performance of and government intervention in the financial services sector. Other changes to statues, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, could affect the Company in substantial and unpredictable ways. Such changes could subject the Company to reduced revenues, additional costs, limit the types of financial services and products the Company may offer and/or increase the ability of

non-banks

to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or reputation damage, which could have a material adverse effect on the Company’s business, financial condition and results of operations. Additionally, the banking regulations could prohibit and significantly delay the Company’s acquisition of other financial institutions.

Included in the Dodd-Frank Act are, for example, changes related to interchange fees and overdraft services. While the changes for interchange fees that can be charged for electronic debit transactions by payment card issuers relate only to banks with assets of $10 billion or more, the federal bank regulatory agencies on November 20, 2020 announced an interim final rule that provides temporary relief for certain community banking organizations that have crossed this threshold as of December 31, 2020 if they had less than $10 billion in assets as of December 31, 2019. Under this interim final rule, these banks will generally have until 2022 to either reduce their size to under $10 billion in assets or prepare for reduced interchange fees. We are also prohibited from charging customers fees for paying overdrafts on automated teller machine and debit card transactions, unless the consumer opts in. We continue to monitor the impact of these new regulations and other developments on our service charge revenue.

Federal income tax reform could have unforeseen effects on our financial condition and results of operations.

On December 22, 2017, the President of the United States signed the “Tax Cuts and Jobs Act.” The Tax Cuts and Jobs Act included a number of provisions, including the lowering of the U.S. corporate tax rate from 35% to 21%, effective January 1, 2018. There were also provisions that may partially offset the benefit of such rate reduction. The intended and unintended consequences of Tax Cuts and Jobs Act on our business and on holders of our common shares is uncertain and could be adverse. The recent changes in the political makeup of the Senate and House of Representatives in the U.S. Congress could result also in the reversal of some or all of the effects of the Tax Cuts and Jobs Act, which may have an adverse effect on our business, financial conditions and results of operations.

Our FDIC insurance assessments could increase substantially resulting in higher operating costs.

We have historically paid the lowest premium rate available due to our sound financial position and in 2019 and 2020, we have received certain credits that further reduced the FDIC insurance premium paid. Should the number of bank failures increase or the FDIC insurance fund become depleted in others ways, FDIC premiums could increase or additional special assessments could be imposed. In addition, we are no longer eligible to utilize credits to reduce our FDIC insurance premiums as a result of our exceeding $10 billion in assets. These increased premiums would have an adverse effect on our net income and results of operations.

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Risks Related to Acquisition Activities

To continue our growth, we are affected by our ability to identify and acquire other financial institutions.

We intend to continue our current growth strategy. This strategy includes opening new branches and acquiring other banks that serve customers or markets we find desirable. The market for acquisitions remains highly competitive, and we may be unable to find satisfactory acquisition candidates in the future that fit our acquisition and growth strategy. To the extent that we are unable to find suitable acquisition candidates, an important component of our growth strategy may be lost. Additionally, our completed acquisitions, or any future acquisitions, may not produce the revenue, earnings or synergies that we anticipated.

We may not be able to complete future acquisitions, may not be successful in realizing the benefits of any acquisitions that are completed, or may choose not to pursue acquisition opportunities we might find beneficial.

A substantial part of our historical growth has been a result of acquisitions of other financial institutions, and we may, from time to time, evaluate and engage in the acquisition of other financial institutions. We must generally satisfy a number of conditions prior to completing any such transaction, including certain bank regulatory approvals. Bank regulators consider a number of factors with regard to all institutions involved in the transaction when determining whether to approve a proposed transaction, including, among others, the ratings and compliance history, anti-money laundering and Bank Secrecy Act compliance history, CRA evaluation results and the effect of the proposed transaction on the financial stability of the institutions involved and the market as a whole.

The process for obtaining required regulatory approvals has become substantially more difficult, time-consuming and unpredictable as a result of the financial crisis. We may fail to pursue, evaluate or complete strategic and competitively significant business opportunities as a result of our inability, or our perceived inability, to obtain required regulatory approvals in a timely manner or at all.

Assuming we are able to successfully complete one or more transactions, we may not be able to successfully integrate and realize the expected synergies from any completed transaction in a timely manner or at all. In particular, we may be charged by federal and state regulators with regulatory and compliance failures at an acquired business prior to the date of the acquisition, and these failures by the acquired company may have negative consequences for us, including the imposition of formal or informal enforcement actions. Completion and integration of any transaction may also divert management’s attention from other matters, result in additional costs and expenses, or adversely affect our relationships with our customers and employees, any of which may adversely affect our business or results of operations. As a result, our financial condition may be affected, and we may become more susceptible to general economic conditions and competitive pressures.

Use of our common stock for future acquisitions or to raise capital may be dilutive to existing stockholders.

When we determine that appropriate strategic opportunities exist, we may acquire other financial institutions and related businesses, subject to applicable regulatory requirements. We may use our common stock for such acquisitions. We may also seek to raise capital through selling additional common stock, although we have not historically done so. It is possible that the issuance of additional common stock in such acquisition or capital transactions may be dilutive to the interests of our existing shareholders.

Risks Associated with our Common Stock

The trading volume in our common stock is less than other larger financial institutions.

Although the Company’s common stock is listed for trading on the Nasdaq Global Select Market, the trading volume in our common stock is less than that of other, larger financial services companies although such volume has increased in recent years. A public trading market having the desired characteristics of depth, liquidity and orderliness depends on the presence in the marketplace of willing buyers and sellers of the Company’s common stock at any given time. This presence depends on the individual decisions of investors and general economic and market conditions over which the Company has no control. Given the lower trading volume of the Company’s common stock, significant sales of the Company’s common stock, or the expectation of these sales, could cause the Company’s stock price to fall.

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Our stock ownership has shifted to larger institutional shareholders

.

Our ownership base has shifted over the past several years resulting in a greater percentage of ownership by institutional investors and indexed funds as compared to shareholders located in our footprint. These institutional shareholders could decide to sell their holdings in our common stock and as such could result in lower market prices of our stock.

Certain banking laws may have an anti-takeover effect.

Provisions of federal banking laws, including regulatory approval requirements, could make it more difficult for a third party to acquire us, even if doing so would be perceived to be beneficial to our shareholders. These provisions effectively inhibit a

non-negotiated

merger or other business combination, which, in turn, could adversely affect the market price of our common stock.

We may not continue to pay dividends on our common stock in the future.

Holders of our common stock are only entitled to receive such dividends as our board of directors may declare out of funds legally available for such payments. Although we have historically declared cash dividends on our common stock, we are not required to do so and may reduce or eliminate our common stock dividends in the future. This could adversely affect the market price of our common stock. Also, we are a bank holding company, and our ability to declare and pay dividends is dependent on certain federal regulatory considerations, including the guidelines of the Federal Reserve Board regarding capital adequacy and dividends.

The Company’s stock price can be volatile.

Stock price volatility may make it more difficult for our shareholders to resell their common stock when they want and at prices they find attractive. The Company’s stock price can fluctuate significantly in response to a variety of factors including, among other things:

• actual or anticipated variations in quarterly results of operations;

• recommendations by securities analysts;

• perceptions in the marketplace regarding the Company and/or its competitors;

• new technology used, or services offered, by competitors;

• changes in government regulations, including tax laws.

General market fluctuations, industry factors and general economic and political conditions and events, such as economic slowdowns or recessions, interest rate changes or credit loss trends could also cause the Company’s stock price to decrease regardless of operational results.

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An investment in our common stock is not an insured deposit.

Our common stock is not a bank deposit and, therefore, is not insured against loss by the FDIC, any other deposit insurance fund, or by any other public or private entity. Investment in our common stock is inherently risky for the reasons described in this “Risk Factors” section and elsewhere in this Report. As a result, if you acquire our common stock, you may lose some or all of your investment.

Risks Related to the COVID Pandemic

The COVID pandemic has adversely impacted our business and financial results, and the ultimate impact will depend on future developments, which are highly uncertain and cannot be predicted, including the scope and duration of the pandemic and actions taken by governmental authorities in response to the pandemic.

The COVID pandemic is creating extensive disruptions to the global economy and to the lives of individuals throughout the world. Governments, businesses, and the public are taking unprecedented actions to contain the spread of COVID and to mitigate its effects, including quarantines, travel

bans, shelter-in-place

orders, closures of businesses and schools, fiscal stimulus, and legislation designed to deliver monetary aid and other relief. While the scope, duration, and full effects of COVID are rapidly evolving and not fully known, the pandemic and related efforts to contain it have disrupted global economic activity, adversely affected the functioning of financial markets, impacted interest rates, increased economic and market uncertainty, and disrupted trade and supply chains. If these effects continue for a prolonged period or result in sustained economic stress or recession, many of the risk factors identified in our

Form 10-K

could be exacerbated and such effects could have a material adverse impact on us in a number of ways related to credit, collateral, customer demand, funding, operations, interest rate risk, human capital and self-insurance, as described previously.

General Risk Factors

Our business faces unpredictable economic conditions, which could have an adverse effect on us.

General economic conditions impact the banking industry. The credit quality of our loan portfolio necessarily reflects, among other things, the general economic conditions in the areas in which we conduct our business. Our continued financial success depends somewhat on factors beyond our control, including:

• the supply of and demand for investable funds;

• demand for loans and access to credit;

• interest rates; and

• federal, state and local laws affecting these matters.

Any substantial deterioration in any of the foregoing conditions could have a material adverse effect on our financial condition, results of operations and liquidity, which would likely adversely affect the market price of our common stock.

Hurricanes, extended drought conditions, severe weather and natural disasters could significantly impact the Company’s business.

Hurricanes, extended drought conditions, severe weather and natural disasters and other adverse external events could have a significant impact on the Company’s ability to conduct business. Such events affect the stability of the Company’s deposit base, impair the ability of borrowers to repay outstanding loans, impair the value of the collateral securing our loans, cause significant property damage, result in loss of revenue and/or cause the Company to incur additional expenses. The occurrence of any such event in the future could have a material adverse effect on the Company’s business, which in turn, could have a material adverse effect on the Company’s business, financial condition and result of operations.

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We compete with many larger financial institutions which have substantially greater financial resources than we have.

Competition among financial institutions in Texas is intense. We compete with other bank holding companies, state and national commercial banks, savings and loan associations, consumer financial companies, credit unions, securities brokers, insurance companies, mortgage banking companies, money market mutual funds, asset-based

non-bank

lenders and other financial institutions. Many of these competitors have substantially greater financial resources, larger lending limits, larger branch networks, enhanced technology and less regulatory oversight than we do, and are able to offer a broader range of products and services than we can. Failure to compete effectively for deposit, loan and other banking customers in our markets could cause us to lose market share, slow our growth rate and may have an adverse effect on our financial condition, results of operations and liquidity.

We compete in an industry that continually experiences technological change, and we may have fewer resources than many of our competitors to continue to invest in technological improvements.

The financial services industry is undergoing rapid technological changes, with frequent introductions of new technology-driven products and services and new fintech companies. In addition to improving the ability to serve customers, the effective use of technology increases efficiency and enables financial institutions to reduce costs. Our future success will depend, in part, upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for conveniences, as well as to create additional efficiencies in our operations. Many of our larger competitors have substantially greater resources to invest in technological improvements. We may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to our customers.

If we are unable to continue our historical levels of growth, we may not be able to maintain our historical earnings trends.

To achieve our past levels of growth, we have focused on both internal growth and acquisitions. We may not be able to sustain our historical rate of growth or may not be able to grow at all. Additionally, we may not be able to obtain the financing necessary to fund additional growth and may not be able to find suitable acquisition candidates. Various factors, such as economic conditions, competition and heightened regulatory scrutiny, may impede or prohibit the opening of new banking centers and the completion of acquisitions. Further, we may be unable to attract and retain experienced bankers, which could adversely affect our internal growth. If we are not able to continue our historical levels of growth, we may not be able to maintain our historical earnings trends.

We rely heavily on our management team, and the unexpected loss of key management or inability to recruit qualified personnel in the future may adversely affect our operations.

Our success to date has been strongly influenced by our ability to attract and to retain senior management experienced in banking in the markets we serve. Our ability to retain executive officers and the current management teams will continue to be important to the successful implementation of our strategies. We do not have employment agreements with these key employees other than executive agreements in the event of a change of control and a confidential information,

non-solicitation

and

non-competition

agreements related to our stock options and restricted stock. The unexpected loss of services of any key management personnel, or the inability to recruit and retain qualified personnel in the future, could have an adverse effect on our business and financial results. In addition, the scope and content of U.S. banking regulators’ policies on incentive compensation, could adversely affect our ability to hire, retain and motivate our key employees.

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ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

ITEM 2. PROPERTIES

Our principal office is located in the First Financial Bank Building at 400 Pine Street in downtown Abilene, Texas. We lease two spaces in buildings owned by First Financial Bank, N.A. totaling approximately 10,155 square feet. As of December 31, 2020, our subsidiaries collectively own 73 banking facilities, some of which are detached

drive-ins,

and also lease 14 banking facilities and 15 ATM locations. Our management considers all our existing locations to be well-suited for conducting the business of banking. We believe our existing facilities are adequate to meet our requirements and our subsidiaries’ requirements for the foreseeable future.

ITEM 3. LEGAL PROCEEDINGS

From time to time, we and our subsidiaries are parties to lawsuits arising in the ordinary course of our banking business. However, there are no material pending legal proceedings to which we, our subsidiaries or our other direct and indirect subsidiaries, or any of their properties, are currently subject. Other than regular, routine examinations by state and federal banking authorities, there are no proceedings pending or known to be contemplated by any governmental authorities.

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

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PART II

Market Information

Our common stock, par value $0.01 per share, is traded on the Nasdaq Global Select Market under the trading symbol FFIN. See “Item 8—Financial Statements and Supplementary Data—Quarterly Financial Data” for the high, low and closing sales prices as reported by the Nasdaq Global Select Market for our common stock for the periods indicated.

Record Holders

As of February 1, 2021, we had 1,015 registered shareholders of record with our stock transfer agent.

Dividends

See “Item 8—Financial Statements and Supplementary Data—Quarterly Results of Operations” for the frequency and amount of cash dividends paid by us. Also, see “Item 1 – Business – Supervision and Regulation – Payment of Dividends” and “Item 7 – Management’s Discussion and Analysis of the Financial Condition and Results of Operations – Liquidity – Dividends” for restrictions on our present or future ability to pay dividends, particularly those restrictions arising under federal and state banking laws.

Equity Compensation Plans

See “Item 12 – Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters”.

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PERFORMANCE GRAPH

The following performance graph compares cumulative total shareholder returns for our common stock, the Russell 3000 Index, and the SNL Bank Index, which is a banking index prepared by SNL Financial LC and is comprised of banks with $5 billion to $10 billion in total assets, for a five-year period (December 31, 2015 to December 31, 2020). The performance graph assumes $100 invested in our common stock at its closing price on December 31, 2015, and in each of the Russell 3000 Index and the SNL Bank Index on the same date. The performance graph also assumes the reinvestment of all dividends. The dates on the performance graph represent the last trading day of each year indicated. The amounts noted on the performance graph have been adjusted to give effect to all stock splits and stock dividends.

First Financial Bankshares, Inc

.

Period Ending

Source: S&P Global Market Intelligence

© 2021

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ITEM 6. SELECTED FINANCIAL DATA

The selected financial data presented below as of and for the years ended December 31, 2020, 2019, 2018, 2017, and 2016, have been derived from our audited consolidated financial statements. The data set forth below may not be fully comparable from period to period due to acquisitions in 2020 and 2018 and changes in accounting, including the allowance for credit losses in 2020 (see Notes 1, 3 and 21 to the Notes to Consolidated Financial Statements for further information). The selected financial data should be read in conjunction with “Item 7—Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and accompanying notes presented elsewhere in this Form

10-K.

The results of operations presented below are not necessarily indicative of the results of operations that may be achieved in the future. Management’s Discussion and Analysis of Financial Condition and Results of Operations incorporates information required to be disclosed by the SEC’s Industry Guide 3, “Statistical Disclosure by Bank Holding Companies.”

Year Ended December 31,

(dollars in thousands, except per share data)

Summary Income Statement Information:

Per Share Data:

Earnings performance ratios:

Summary Balance Sheet Data (Period-end):

Asset quality ratios:

Capital ratios:

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The following discussion contains forward-looking statements that are subject to risks and uncertainties. Actual results may differ materially from those contemplated by the forward-looking statements as a result of certain factors, including but not limited to those listed in “Item 1A – Risk Factors” and in the “Cautionary Statement Regarding Forward-Looking Statements” notice on page 1.

Introduction

As a financial holding company, we generate most of our revenue from interest on loans and investments, trust fees, gain on sale of mortgage loans and service charges. Our primary source of funding for our loans and investments are deposits held by our bank subsidiary, First Financial Bank, N.A. Our largest expenses are salaries and related employee benefits. We measure our performance by calculating our return on average assets, return on average equity, regulatory capital ratios, net interest margin and efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a tax equivalent basis and noninterest income.

The following discussion and analysis of the major elements of our consolidated balance sheets as of December 31, 2020 and 2019, and consolidated statements of earnings for the years 2018 through 2020 should be read in conjunction with our consolidated financial statements, accompanying notes, and selected financial data presented elsewhere in this Form

10-K.

Critical Accounting Policies

We prepare consolidated financial statements based on generally accepted accounting principles (“GAAP”) and customary practices in the banking industry. These policies, in certain areas, require us to make significant estimates and assumptions.

We deem a policy critical if (1) the accounting estimate required us to make assumptions about matters that are highly uncertain at the time we make the accounting estimate; and (2) different estimates that reasonably could have been used in the current period, or changes in the accounting estimate that are reasonably likely to occur from period to period, would have a material impact on the financial statements.

We deem our most critical accounting policies to be (1) our allowance for credit losses and our provision for credit losses and (2) our valuation of financial instruments. We have other significant accounting policies and continue to evaluate the materiality of their impact on our consolidated financial statements, but we believe these other policies either do not generally require us to make estimates and judgments that are difficult or subjective, or it is less likely they would have a material impact on our reported results for a given period. A discussion of (1) our allowance for credit losses and our provision for credit losses and (2) our valuation of financial instruments is included in Notes 1 and 10 to our Consolidated Financial Statements beginning on page

F-9.

Acquisitions

On September 19, 2019, we entered into an agreement and plan of reorganization to acquire TB&T Bancshares, Inc. and its wholly-owned bank subsidiary, The Bank & Trust of Bryan/College Station, Texas. On January 1, 2020, the transaction was completed. Pursuant to the agreement, we issued 6.28 million shares of the Company’s common shares in exchange for all of the outstanding shares of TB&T Bancshares, Inc. In addition, in accordance with the plan of reorganization, TB&T Bancshares, Inc. paid a special dividend totaling $1.92 million to its shareholders prior to the closing of this transaction. At the closing, Brazos Merger Sub, Inc., a wholly-owned subsidiary of the Company, merged into TB&T Bancshares Inc., with TB&T Bancshares, Inc. surviving as a wholly-owned

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subsidiary of the Company. Immediately following such merger, TB&T Bancshares, Inc. was merged into the Company and The Bank & Trust of Bryan/College Station, Texas was merged into First Financial Bank, N.A., a wholly-owned subsidiary of the Company. The total purchase price of $220.27 million exceeded the estimated fair value of the net assets acquired by approximately $141.92 million and the Company recorded such excess as goodwill. The balance sheet and results of operations of TB&T Bancshares, Inc. have been included in the financial statements of the Company effective January 1, 2020.

Stock Split and Increase in Authorized Shares

On April 23, 2019, the Company’s Board of Directors declared a

two-for-one

stock split of the Company’s outstanding common shares effective June 3, 2019. In addition, the shareholders of the Company approved an amendment to the Amended and Restated Certificate of Formation to increase the number of authorized shares to 200,000,000. All per share amounts in this report have been restated to reflect this stock split. An amount equal to the par value of the additional common shares to be issued pursuant to the stock split was reflected as a transfer from retained earnings to common stock in the consolidated financial statements as of and for the year ended December 31, 2019.

Stock Repurchase

On March 12, 2020, the Company’s Board of Directors authorized the repurchase of up to 4,000,000 common shares through September 30, 2021. Previously, the Board of Directors had authorized the repurchase of up to 2,000,000 common shares through September 30, 2020. The stock repurchase plan authorizes management to repurchase and retire the stock at such time as repurchases are considered beneficial to the Company and its stockholders. Any repurchase of stock will be made through the open market, block trades or in privately negotiated transactions in accordance with applicable laws and regulations. Under the repurchase plan, there is no minimum number of shares that the Company is required to repurchase. Through December 31, 2020, 324,802 shares were repurchased and retired (all during the months of March and April of 2020) totaling $8,008,000 under this repurchase plan. Subsequent to December 31, 2020 and through February 22, 2021, no additional shares were repurchased. For the years ended December 31, 2019 and 2018, no shares were repurchased under this repurchase plan or the prior authorization that expired September 30, 2020.

Implementation of New Accounting Standard for Accounting for Allowance for Credit Losses

On January 1, 2020, Accounting Standards Update (“ASU”)

2016-13,

Financial Instruments – Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments

, became effective for the Company. Accounting Standards Codification (“ASC”) Topic 326 (“ASC 326”) replaced the previous “incurred loss” model for measuring credit losses with an expected loss methodology that is referred to as the current expected credit loss (“CECL”) methodology. The measurement of expected credit losses under the CECL methodology is applicable to financial assets measured at amortized cost, including loan receivables and

held-to-maturity

debt securities. It also applies to

off-balance-sheet

(“OBS”, “reserve for unfunded commitments”) credit exposures not accounted for as insurance (loan commitments, standby letters of credit, financial guarantees, and other similar instruments). In addition, ASC 326 made changes to the accounting for

available-for-sale

debt securities. One such change is to require credit losses to be presented as an allowance rather than as a write-down on

available-for-sale

debt securities management does not intend to sell or believes that it is more likely than not they will be required to sell.

On March 27, 2020, the CARES Act was signed by the President of the United States that included an option for entities to delay the implementation of ASC 326 until the earlier of the termination date of the national emergency declaration by the President, or December 31, 2020. Under this option, the Company elected to delay implementation of CECL and calculated and recorded the provision for credit losses through the nine-months ended September 30, 2020 under the incurred loss model. At December 31, 2020, the Company elected to adopt ASC 326, effective as of January 1, 2020, through a transition charge to retained earnings of $589 thousand ($466 thousand net of applicable income taxes). This transition adjustment was comprised of a decrease of $619 thousand in allowance for credit losses and an increase of $1.21 million in the reserve for unfunded commitments.

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The Company completed its CECL implementation plan by forming a cross-functional working group, under the direction of our Chief Credit Officer along with our Chief Accounting Officer, Chief Lending Officer and Chief Financial Officer. The working group also included individuals from various functional areas including credit, risk management, accounting and information technology, among others. The implementation plan included assessment and documentation of processes, internal controls and data sources, model development, documentation and validation, and system configuration, among other things. The Company contracted with a third-party vendor to assist in the implementation of CECL.

Other New Accounting Standards Issued but Not Yet Effective

Accounting Standards Update (“ASU”)

2019-12,

“Simplifying the Accounting for Income Taxes.”

In December 2019, FASB released ASU

2019-12

- Income Taxes (Topic 740), which simplifies the accounting for income taxes by removing multiple exceptions to the general principals in Topic 740. The standard is effective for public business entities for fiscal years, and for interim periods within those fiscal years, beginning after December 15, 2020. The Company does not expect the adoption of this standard to have a material impact on the Company’s Consolidated Financial Statements.

Accounting Standards Update (“ASU”)

2020-04,

“Reference Rate Reform.”

In March 2020, FASB released ASU

2020-04

- Reference Rate Reform (Topic 848), which provides optional guidance to ease the accounting burden in accounting for, or recognizing the effects from, reference rate reform on financial reporting. The new standard is a result of LIBOR likely being discontinued as an available benchmark rate. The standard is elective and provides optional expedients and exceptions for applying GAAP to contracts, hedging relationships, or other transactions that reference LIBOR, or another reference rate expected to be discontinued. The amendments in the update are effective for all entities between March 12, 2020 and December 31, 2022. The Company has established a cross-functional working group to guide the Company’s transition from LIBOR and has begun efforts to transition to alternative rates consistent with industry timelines. The Company has identified its products that utilize LIBOR and has implemented enhanced fallback language to facilitate the transition to alternative reference rates. The Company is evaluating existing platforms and systems and preparing to offer new rates.

Results of Operations

Performance Summary

. Net earnings for 2020 were $202.03 million, an increase of $37.22 million, or 22.58%, over net earnings for 2019 of $164.81 million. Net earnings for 2018 were $150.64 million. The increase in net earnings for 2020 over 2019 and 2019 over 2018 was primarily attributable to the overall growth in net interest income and noninterest income. Net earnings in 2020 also include a provision for credit losses of $19.52 million compared to $2.97 million in 2019 and $5.67 million in 2018. The provision for credit losses in 2020 reflects primarily the stress on our loan portfolio from the increase in unemployment and economic effects of the COVID pandemic.

On a diluted net earnings per share basis, net earnings were $1.42 for 2020, as compared to $1.21 for 2019 and $1.11 for 2018. The return on average assets was 1.98% for 2020, as compared to 2.08% for 2019 and 1.98% for 2018. The return on average equity was 12.93% for 2020, as compared to 14.37% for 2019 and to 15.37% for 2018. The return on average tangible equity was 16.25% for 2020, as compared to 16.95% for 2019 and to 18.65% for 2018.

Net Interest Income

. Net interest income is the difference between interest income on earning assets and interest expense on liabilities incurred to fund those assets. Our earning assets consist primarily of loans and investment securities. Our liabilities to fund those assets consist primarily of noninterest-bearing and interest-bearing deposits.

Tax-equivalent

net interest income was $361.15 million in 2020, as compared to $295.88 million in 2019, and $281.75 million in 2018. Average earning assets were $9.52 billion in 2020, as compared to $7.44 billion in 2019 and $7.12 billion in 2018. The increase in

tax-equivalent

net interest income in 2020 compared to 2019 was largely attributable to increases in interest earning assets. The increase of $2.08 billion in average earning assets in 2020 when compared to 2019 was primarily a result of increases in loans of $1.08 billion and

tax-exempt

securities of $689.80 million when compared to 2019. The increase in

tax-equivalent

net interest income in 2019 compared to 2018 was also largely attributable to increases in interest earning assets. The increase of $326.97 million in average earning assets in 2019 when compared to 2018 was primarily a result of increases in loans of $246.63 million and

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taxable securities of $156.33 million. Average interest-bearing liabilities were $5.76 billion in 2020, as compared to $4.61 billion in 2019 and $4.47 billion in 2018. The yield on earning assets decreased forty-four basis points in 2020 when compared to 2019 while the rate paid on interest-bearing liabilities decreased forty basis points. The yield on earning assets increased fifteen basis points in 2019 when compared to 2018 while the rate paid on interest-bearing liabilities increased twenty-three basis points.

Table 1 allocates the change in

tax-equivalent

net interest income between the amount of change attributable to volume and to rate.

Table 1 — Changes in Interest Income and Interest Expense (in thousands):

Change Attributable to TotalChange Change Attributable to TotalChange

Volume Rate Volume Rate

(1) Computed on a tax-equivalent basis assuming a marginal tax rate of 21%.

(2) Nonaccrual loans are included in loans.

The net interest margin in 2020 was 3.79%, a decrease of nineteen basis points from 2019. The net interest margin for 2019 was 3.98% which was an increase of two basis points from 2018. which increased two basis points from 2018. We continued to experience downward pressures on our net interest margin in 2020 primarily due to (i) the extended period of fluctuating historically low levels of short-term interest rates and (ii) the flat to inverted yield curve currently being experienced in the bond market. We have been able to somewhat mitigate the impact of these lower short-term interest rates and the flat/inverted yield curve by establishing minimum interest rates on certain of our loans, improving the pricing for loan risk, and reducing the rates paid on interest-bearing liabilities. In March 2020, as the market experienced volatility, we took advantage of that volatility to purchase high quality municipal bonds at favorable

tax-equivalent

interest yields. The Federal Reserve increased rates 100 basis points in 2018 but then decreased rates 75 basis points during the third and fourth quarters of 2019 and then an additional 150 basis points in the first quarter of 2020, resulting in a current target rate range of zero to 25 basis points.

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The net interest margin, which measures

tax-equivalent

net interest income as a percentage of average earning assets, is illustrated in Table 2 for the years 2018 through 2020.

Table 2 — Average Balances and Average Yields and Rates (in thousands, except percentages):

Assets

Liabilities and Shareholders’ Equity

Rate Analysis:

Interest income/earning assets 3.94 % 4.38 % 4.23 %

Interest expense/earning assets 0.15 0.40 0.27

(3) Computed on a tax-equivalent basis assuming a marginal tax rate of 21%.

(4) Nonaccrual loans are included in loans.

Noninterest Income

. Noninterest income for 2020 was $139.94 million, an increase of $31.51 million, or 29.06%, as compared to 2019. Increases in certain categories of noninterest income included (1) real estate mortgage operations income of $25.73 million, (2) gain on sale of

available-for-sale

securities of $2.90 million, (3) ATM, interchange and credit card fees of $2.61 million, (4) miscellaneous income of $2.12 million which includes $1.40 million in Main Street Lending Program fees and (5) trust fees of $1.13 million when compared to 2019. The mortgage related income increase was mainly due to a significant increase in the volume of loans originated to $1.21 billion in 2020 up from $551.77 million in 2019 driven by the lower rate environment and a strong housing market in Texas. The increase in ATM, interchange and credit card fees was driven by continued growth in the number of debit cards issued as well as our TB&T acquisition. The increase in trust fees resulted from an increase in assets under management over the prior year. The fair value of our trust assets managed, which are not reflected in our consolidated balance sheets, totaled $7.51 billion at December 31, 2020, as compared to $6.75 billion at December 31, 2019. Offsetting these increases was a decline in service charge revenue in 2020 when compared with 2019 of $1.47 million that was primarily driven by lower overdraft fees in the current year as a result of the effects of the pandemic and related stimulus programs.

Noninterest income for 2019 was $108.43 million, an increase of $6.66 million, or 6.55%, as compared to 2018. Increases in certain categories of noninterest income included (1) real estate mortgage operations income of $2.99 million, (2) ATM, interchange and credit card fees of $1.33 million, (3) interest on loan recoveries of $1.15 million, (4) service charges on deposit accounts of $376 thousand, and (5) trust fees of $220 thousand when compared to 2018. The increase in real estate mortgage fees was a result of an increase in the volume of loans originated and the Company’s decision to move to mandatory delivery from best efforts. The increase in ATM, interchange and credit

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card fees was primarily due to the continued growth in the number of debit cards issued. Interest on loan recoveries increased as a result of several larger loan recoveries in 2019. The increase in service charges on deposit accounts was primarily due to the continued growth in net new accounts. The increase in trust fees resulted from an increase in assets under management over the prior year; however, this was mostly offset by a decrease in income derived from oil and gas production activity when compared to 2018. The fair value of our trust assets managed, which are not reflected in our consolidated balance sheets, totaled $6.75 billion at December 31, 2019, as compared to $5.60 billion at December 31, 2018. Offsetting these increases was a decrease in net gains on sales of

available-for-sale

securities of $621 thousand.

ATM and interchange fees are charges that merchants pay to us and other card-issuing banks for processing electronic payment transactions. ATM and interchange fees consist of income from debit card usage, point of sale income for debit card transactions and ATM service fees. Federal Reserve rules applicable to financial institutions that have assets of $10 billion or more provide that the maximum permissible interchange fee for an electronic debit transaction is limited to the sum of 21 cents per transaction plus 5 basis points multiplied by the value of the transaction. Management has estimated the impact of this reduction in ATM and interchange fees to approximate $14.00 million annually

(pre-tax)

once the Federal Reserve rules apply to the Company. Federal Reserve requirements stipulate that these rules would go into effect on July 1st following the

year-end

in which a financial institution’s total assets exceeded $10 billion at December 31st. At December 31, 2020, the Company’s total assets exceeded the $10 billion threshold, due primarily to the effect of the Company’s participation in the PPP loan program and growth in deposits from related activities. However, on November 20, 2020, the federal bank regulatory agencies announced an interim final rule that provides temporary relief for certain community banking organizations that have crossed this threshold as of December 31, 2020 if they had less than $10 billion in assets as of December 31, 2019. Under the interim final rule, these banks, which includes us, will generally have until 2022 to either reduce their size, or to prepare for the regulatory and reporting standards under the Dodd-Frank Act. Management will continue to monitor the Company’s balance sheet levels and prepare for the effects of this future loss of debit card income.

Table 3 — Noninterest Income (in thousands):

Other:

Noninterest Expense

. Total noninterest expense for 2020 was $227.94 million, an increase of $31.42 million, or 15.99%, as compared to 2019. Noninterest expense for 2019 amounted to $196.52 million, an increase of $5.84 million, or 3.06%, as compared to 2018. An important measure in determining whether a financial institution effectively manages noninterest expenses is the efficiency ratio, which is calculated by dividing noninterest expense by the sum of net interest income on a

tax-equivalent

basis and noninterest income. Lower ratios indicate better efficiency since more income is generated with a lower noninterest expense total. Our efficiency ratio for 2020 was 45.49%, as compared to 48.61% for 2019 and 49.72% for 2018. The reduction in the Company’s efficiency ratio during 2020 primarily resulted from the growth in the Company’s balance sheet and interest-earning assets as a result of the Company’s participation in the PPP loan program and the deferral of $3.62 million in noninterest expenses related to PPP loan origination costs during the second quarter of 2020.

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Salaries and employee benefits for 2020 totaled $135.12 million, an increase of $22.79 million, or 20.28%, as compared to 2019. The increase was primarily driven by (i) the TB&T acquisition, (ii) annual merit-based pay increases that were effective March 1, 2020, (iii) an increase in our profit sharing and other incentive expenses, and (iv) higher mortgage related commissions. Also, in 2019 the Company incurred $2.67 million in expenses related to the termination of its pension plan when compared to $1.55 million in 2018.

All other categories of noninterest expense for 2020 totaled $92.82 million, an increase of $8.63 million, or 10.25%, as compared to 2019. Included in noninterest expense in 2020 were technology contract termination and conversion related expenses totaling $4.88 million related to the TB&T acquisition. Also included in noninterest expense during 2020 were increases in net occupancy expenses, professional and service fees and ATM, interchange and credit card expenses when compared to 2019 primarily due to the TB&T acquisition.

Salaries and employee benefits for 2019 totaled $112.34 million, an increase of $7.15 million, or 6.79%, as compared to 2018. The increase was primarily driven by (i) annual merit-based pay increases that were effective March 1, 2019, (ii) an increase in our profit sharing expenses, (iii) an increase in our pension plan expenses, and (iv) an increase in medical insurance costs.

All other categories of noninterest expense for 2019 totaled $84.19 million, a decrease of $1.31 million, or 1.53%, as compared to 2018. Included in noninterest expense in 2019 was $2.67 million, before income tax, in pension settlement expense resulting from the Company’s settlement and termination of the remaining portion of its defined benefit pension plan obligation. During 2018, the Company recorded $1.55 million, before income tax, in pension settlement expense for a partial settlement of this defined benefit pension obligation. Also included in noninterest expense during 2019 was an increase of $574 thousand in ATM, interchange and credit card expenses when compared to 2018. Offsetting these increases in noninterest expense for 2019 when compared to 2018 was a decrease in FDIC insurance premiums of $1.24 million due to the FDIC assessment credit previously discussed.

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Table 4 — Noninterest Expense (in thousands):

Other:

Income Taxes

. Income tax expense was $40.33 million for 2020, as compared to $33.22 million for 2019 and $27.54 million for 2018. Our effective tax rates on pretax income were 16.64%, 16.78% and 15.46%, respectively, for the years 2020, 2019 and 2018. The effective tax rates differ from the statutory federal tax rate of 21.0% largely due to tax exempt interest income earned on certain investment securities and loans and the deductibility of dividends paid to our employee stock ownership plan.

On December 22, 2017, the Tax Cuts and Jobs Act was signed into law with sweeping modifications to the Internal Revenue Code. The primary change for the Company was to lower the corporate income tax rate to 21% from 35%. The Company’s deferred tax assets and liabilities were

re-measured

based on the income tax rates at which they are expected to reverse in the future, which is generally 21%. The provisional amount recorded related to the

re-measurement

of the Company’s deferred tax balance was $7.65 million, a reduction of income tax expense for the year ended December 31, 2017. However, the Company updated its estimate of the impact to our deferred tax balances based on the proposed regulations issued to date and recorded an additional reduction of income tax expense for the year ended December 31, 2018 of $664 thousand. No additional adjustment amounts were recorded for the years ended December 31, 2019 and 2020.

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Balance Sheet Review

Loans

. Our portfolio is comprised of loans made to businesses, professionals, individuals, and farm and ranch operations located in the primary trade areas served by our subsidiary bank. As of December 31, 2020, total loans

held-for-investment

were $5.17 billion, an increase of $976.06 million, as compared to December 31, 2019. The increase in the Company’s total loans

held-for-investment

in 2020 was primarily driven by the TB&T acquisition and the Company’s participation in the PPP loan program. On January 1, 2020, TB&T had $447.70 million in loan balances. During 2020, the Company originated $703.73 million in PPP loans of which $220.34 were forgiven during the year resulting in a balance of $479.43 million at December 31, 2020, which are included in the Company’s commercial loan totals. The average balance of PPP loans was $479.43 million for the year ended December 31, 2020. At December 31, 2020, $11.27 million of deferred loan fees related to PPP loans continues to be amortized over the shorter of the repayment period or the contractual life of 24 months.

As compared to

year-end

2019 balances, total real estate loans increased $495.89 million, total commercial loans increased $456.38 million, agricultural loans decreased $8.78 million and total consumer loans increased $32.57 million. Loans averaged $5.15 billion during 2020, an increase of $1.08 billion over 2019 average balances.

In conjunction with the adoption of ASC 326, the Company expanded its four loan portfolio segments used under the legacy disclosure requirements into the following ten portfolio segments. For modeling purposes, our loan portfolio segments include Commercial and Industrial (“C&I”), Municipal, Agricultural, Construction and Development, Farm,

Non-Owner

Occupied and Owner Occupied Commercial Real Estate (“CRE”), Residential, Consumer Auto and Consumer

Non-Auto.

This additional segmentation allows for a more precise pooling of loans with similar credit risk characteristics and credit monitor procedures for the Company’s calculation of its allowance for credit losses.

Table 5 outlines the composition of the Company’s

held-for-investment

loans. by portfolio segment. at December 31, 2020. For all periods prior to December 31, 2020, management has elected to maintain its previously disclosed loan portfolio segments.

Table 5 — Composition of Loans

Held-For-Investment

(in thousands):

December 31,

Commercial:

C&I $ 1,131,382 $ N/A $ N/A $ N/A $ N/A

Municipal 181,325 N/A N/A N/A N/A

Real Estate:

Construction & Development 553,959 N/A N/A N/A N/A

Non-Owner Occupied CRE 617,686 N/A N/A N/A N/A

Owner Occupied CRE 746,974 N/A N/A N/A N/A

Residential 1,248,409 N/A N/A N/A N/A

Consumer:

Non-Auto 90,602 N/A N/A N/A N/A

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Loans held-for-sale, consisting of secondary market mortgage loans, totaled $83.97 million and $28.23 million at December 31, 2020 and 2019, respectively. At December 31, 2020 and 2019, $4.38 million and $5.15 million are valued at the lower of cost or fair value, and the remaining amount is valued under the fair value option.

The Company has certain lending policies and procedures in place that are designed to maximize loan growth with an acceptable level of risk. Management reviews and approves these policies and procedures on an annual basis and makes changes as appropriate with input from our Board of Directors. Management receives and reviews monthly reports related to loan originations, quality, concentrations, delinquencies, nonperforming and potential problem loans. Diversification in the loan portfolio is a means of managing risk associated with fluctuations in economic conditions, both by type of loan and geographic location.

Commercial loans are underwritten after evaluating and understanding the borrower’s ability to operate profitably and effectively. Underwriting standards are designed to determine whether the borrower possesses sound business ethics and practices and to evaluate current and projected cash flows to determine the ability of the borrower to repay their obligations as agreed. Commercial loans are primarily made based on the identified cash flows of the borrower and, secondarily, on the underlying collateral provided by the borrower. Most commercial loans are secured by the assets being financed or other business assets, such as accounts receivable or inventory, and include personal guarantees.

Agricultural loans are subject to underwriting standards and processes similar to commercial loans. These agricultural loans are based primarily on the identified cash flows of the borrower and secondarily on the underlying collateral provided by the borrower. Most agricultural loans are secured by the agriculture related assets being financed, such as farm land, cattle or equipment, and include personal guarantees.

Real estate loans are also subject to underwriting standards and processes similar to commercial and agricultural loans. These loans are underwritten primarily based on projected cash flows and, secondarily, as loans secured by real estate. The repayment of real estate loans is generally largely dependent on the successful operation of the property securing the loans or the business conducted on the property securing the loan. Real estate loans may be more adversely affected by conditions in the real estate markets or in the general economy. The properties securing the Company’s real estate portfolio are generally diverse in terms of type and geographic location within Texas. This diversity helps reduce the exposure to adverse economic events that affect any single market or industry. Generally, real estate loans are owner-occupied which further reduces the Company’s risk.

Consumer loan underwriting utilizes methodical credit standards and analysis to supplement the Company’s underwriting policies and procedures. The Company’s loan policy addresses types of consumer loans that may be originated and the collateral, if secured, which must be perfected. The relatively smaller individual dollar amounts of consumer loans that are spread over numerous individual borrowers also minimize the Company’s risk.

Table 6 — Maturity Distribution and Interest Sensitivity of Loans at December 31, 2020 (in thousands):

The following tables summarize maturity and repricing information for the commercial and agricultural and the real estate-construction and development portion of our loan portfolio as of December 31, 2020:

One Yearor less After OneYearThroughFive Years After FiveYears Total

MaturitiesAfter OneYear

Loans with fixed interest rates $ 892,141

Loans with floating or adjustable interest rates 451,013

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Asset Quality

. Our loan portfolio is subject to periodic reviews by our centralized independent loan review group as well as periodic examinations by bank regulatory agencies. Loans are placed on nonaccrual status when, in the judgment of management, the collectability of principal or interest under the original terms becomes doubtful. Nonaccrual, past due 90 days or more and still accruing, and restructured loans plus foreclosed assets were $42.90 million at December 31, 2020, as compared to $25.77 million at December 31, 2019 and $29.63 million at December 31, 2018. As a percent of loans

held-for-investment

and foreclosed assets, these assets were 0.83% at December 31, 2020, as compared to 0.61% at December 31, 2019 and 0.75% at December 31, 2018. As a percent of total assets, these assets were 0.39% at December 31, 2020, as compared to 0.31% at December 31, 2019 and 0.38% at December 31, 2018. We believe the level of these assets to be manageable and are not aware of any material classified credits not properly disclosed as nonperforming at December 31, 2020.

Supplemental Oil and Gas Information.

At December 31, 2020, the Company’s exposure to the oil and gas industry was 2.27% of loans

held-for-investment,

excluding PPP loans, or $106.24 million, compared to 2.86% of loans

held-for-investment,

or $119.79 million at December 31, 2019. These oil and gas loans consisted (based on collateral supporting the loan) of (i) development and production loans of 11.99%, (ii) oil and gas field servicing loans of 6.62%, (iii) real estate loans of 57.40%, (iv) accounts receivable and inventory of 4.04%, (v) automobile of 12.09% and (vi) other of 7.86%. These loans have warranted additional scrutiny because of fluctuating oil and gas prices and the COVID pandemic. The Company instituted additional monitoring procedures for these loans and has classified and downgraded loans as appropriate. The following oil and gas information is as of and for the years ended December 31, 2020 and 2019:

December 31,

Oil and gas related loans, excluding PPP loans $ 106,237 $ 119,789

Classified oil and gas related loans $ 13,298 $ 7,041

Nonaccrual oil and gas related loans $ 4,774 $ 481

Net charge-offs for oil and gas related loans for year then ended $ 825 $ —

Supplemental COVID Industry Exposure.

In addition, at December 31, 2020, loan balances in the retail/restaurant/hospitality industries totaled $359.33 million or 7.67% of the Company’s total loans

held-for-investment,

excluding PPP loans. Classified and nonperforming loans for these industries combined at December 31, 2020, totaled $31.19 million and $5.98 million, respectively. Net charge-offs related to this portfolio totaled $895 thousand for the year ended December 31, 2020. Additional information related to the Company’s retail/restaurant/hospitality industries follows below (in thousands, except percentages):

Other hospitality loans 21,970

Travel loans 780

Total Retail/Restaurant/Hospitality loans, excluding PPP loans $ 359,328

Classified Retail/Restaurant/Hospitality loans $ 31,192

Nonaccrual Retail/Restaurant/Hospitality loans 5,975

Net Charge-Offs for Retail/Restaurant/Hospitality loans 895

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Table 7 — Nonaccrual, Past Due 90 Days or More and Still Accruing, Restructured Loans and Foreclosed Assets (in thousands, except percentages):

At December 31,

We record interest payments received on nonaccrual loans as reductions of principal. Prior to the loans being placed on nonaccrual, we recognized interest income on these loans as of December 31, 2020 of approximately $255 thousand during the year ended December 31, 2020. If interest on these loans had been recognized on a full accrual basis during the year ended December 31, 2020, such income would have approximated $4.46 million.

Included in our loan portfolio are certain other loans not included in Table 7 that are deemed to be potential problem loans. Potential problem loans are those loans that are currently performing, but for which known information about trends, uncertainties or possible credit problems of the borrowers causes management to have serious doubts as to the ability of such borrowers to comply with present repayment terms, possibly resulting in the transfer of such loans to nonperforming status. These potential problem loans totaled $10.76 million as of December 31, 2020.

See Note 3 to the Consolidated Financial Statements beginning on page

F-19

for more information on these assets.

Allowance for Credit Losses

. The allowance for credit losses is the amount we determine as of a specific date to be appropriate to absorb current expected credit losses on existing loans in which full collectability is unlikely based on our review and evaluation of the loan portfolio. For a discussion of our methodology, see our accounting policies in Note 1 to the Consolidated Financial Statements beginning on page

F-9.

The provision for credit losses was $19.52 million in 2020, as compared to $2.97 million in 2019 and $5.67 million in 2018. The provision for credit losses in 2020 reflects primarily the stress on our loan portfolio from the increase in unemployment and economic effects of the COVID pandemic. As a percent of average loans, net loan charge-offs were 0.06% during 2020, 0.04% during 2019 and 0.07% during 2018. The allowance for credit losses as a percent of loans

held-for-investment

was 1.29% as of December 31, 2020, as compared to 1.25% as of December 31, 2019 and 1.30% as of December 31, 2018. The allowance for credit losses as a percent of loans

held-for-investment,

excluding PPP loans, was 1.42% as of December 31, 2020, as compared to 1.25% as of December 31, 2019 and 1.30% as of December 31, 2018. Included in Tables 8 and 9 are further analysis of our allowance for credit losses.

Although we believe we use the best information available to make credit loss allowance determinations, future adjustments could be necessary if circumstances or economic conditions differ substantially from the assumptions used in making our initial determinations. A downturn in the economy or lower employment could result in increased levels of nonaccrual, past due 90 days or more and still accruing, restructured loans, foreclosed assets, charge-offs, increased provision for credit losses and reductions in income. Additionally, as an integral part of their examination process, bank regulatory agencies periodically review the adequacy of our allowance for credit losses. The banking agencies could require additions to our allowance for credit losses based on their judgment of information available to them at the time of their examinations of our bank subsidiary.

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Table 8 — Loan Loss Experience and Allowance for Credit Losses (in thousands, except percentages):

Impact of adopting ASC 326 (619 ) — — — —

Initial allowance on acquired TB&T PCD loans 1,678 — — — —

Charge-offs:

Commercial:

C&I 2,516 N/A N/A N/A N/A

Municipal — N/A N/A N/A N/A

Real estate:

Construction & Development — N/A N/A N/A N/A

Farm — N/A N/A N/A N/A

Non-Owner Occupied CRE 563 N/A N/A N/A N/A

Owner Occupied CRE 567 N/A N/A N/A N/A

Residential real estate 373 N/A N/A N/A N/A

Consumer:

Auto 548 N/A N/A N/A N/A

Non-Auto 375 N/A N/A N/A N/A

Recoveries:

Commercial:

C&I 1,315 N/A N/A N/A N/A

Municipal — N/A N/A N/A N/A

Real estate:

Construction & Development — N/A N/A N/A N/A

Farm 157 N/A N/A N/A N/A

Non-Owner Occupied CRE 131 N/A N/A N/A N/A

Owner Occupied CRE 17 N/A N/A N/A N/A

Residential real estate 151 N/A N/A N/A N/A

Consumer:

Auto 269 N/A N/A N/A N/A

Non-Auto 171 N/A N/A N/A N/A

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Table 9 — Allocation of Allowance for Credit Losses (in thousands):

At December 31,

Commercial:

C&I $ 13,609 $ N/A $ N/A $ N/A $ N/A

Municipal 1,552 N/A N/A N/A N/A

Real estate:

Construction & Development 13,512 N/A N/A N/A N/A

Farm 1,876 N/A N/A N/A N/A

Non-Owner Occupied CRE 8,391 N/A N/A N/A N/A

Owner Occupied CRE 12,347 N/A N/A N/A N/A

Residential real estate 12,601 N/A N/A N/A N/A

Consumer:

Auto 1,020 N/A N/A N/A N/A

Non-Auto 371 N/A N/A N/A N/A

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Percent of Loans in Each Category of Total Loans:

Commercial:

C&I 21.78 % N/A N/A N/A N/A

Municipal 3.51 % N/A N/A N/A N/A

Real estate:

Construction & Development 10.72 % N/A N/A N/A N/A

Farm 2.94 % N/A N/A N/A N/A

Non-Owner Occupied CRE 10.55 % N/A N/A N/A N/A

Owner Occupied CRE 14.45 % N/A N/A N/A N/A

Residential real estate 25.59 % N/A N/A N/A N/A

Consumer:

Auto 6.89 % N/A N/A N/A N/A

Non-Auto 1.74 % N/A N/A N/A N/A

Interest-Bearing Demand Deposits in Banks.

The Company had interest-bearing demand deposits in banks of $517.97 million at December 31, 2020 and $47.92 million at December 31, 2019, respectively. At December 31, 2020, our interest-bearing deposits in banks included $517.57 million maintained at the Federal Reserve Bank of Dallas and $403 thousand on deposit with the Federal Home Loan Bank of Dallas (FHLB). The average balance of interest-bearing deposits in banks was $249.70 million, $80.81 million and $87.03 million in 2020, 2019 and 2018, respectively. The average yield on interest-bearing deposits in banks was 0.38%, 2.22% and 1.79% in 2020, 2019 and 2018, respectively.

Available-for-Sale

Securities

. At December 31, 2020, securities with a fair value of $4.39 billion were classified as securities

available-for-sale.

There were no securities classified as

held-to-maturity

at December 31, 2020 and 2019. As compared to December 31, 2019, the

available-for-sale

portfolio at December 31, 2020, reflected (1) a decrease of $10.02 million in U.S. Treasury securities; (2) an increase of $1.14 billion in obligations of states and political subdivisions; (3) a decrease of $151 thousand in corporate bonds and other; and (4) a decrease of $148.01 million in mortgage-backed securities. As compared to December 31, 2018, the

available-for-sale

portfolio at December 31, 2019, reflected (1) an increase of $57 thousand in U.S. Treasury securities; (2) a decrease of $301 thousand in obligations of U.S. government sponsored enterprises and agencies; (3) an increase of $31.11 million in obligations of states and political subdivisions; (4) a decrease of $90 thousand in corporate bonds and other; and (5) an increase of $223.76 million in mortgage-backed securities.

Securities-available-for-sale

included fair value adjustments of $215.85 million, $84.51 million and $5.21 million at December 31, 2020, 2019 and 2018, respectively. Our mortgage related securities are backed by GNMA, FNMA or FHLMC or are collateralized by securities backed by these agencies.

See Table 10 and Note 2 to the Consolidated Financial Statements for additional disclosures relating to the maturities and fair values of the investment portfolio at December 31, 2020 and 2019.

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Table 10 — Maturities and Yields of

Available-for-Sale

Held at December 31, 2020 (in thousands, except percentages):

Maturing

All yields are computed on a

tax-equivalent

basis assuming a marginal tax rate of 21%. Yields on

available-for-sale

securities are based on amortized cost. Maturities of mortgage-backed securities are based on contractual maturities and could differ due to prepayments of underlying mortgages. Maturities of other securities are reported at the earlier of maturity date or call date.

As of December 31, 2020, the investment portfolio had an overall tax equivalent yield of 2.76%, a weighted average life of 4.66 years and modified duration of 4.14 years compared to December 31, 2019, the investment portfolio had an overall tax equivalent yield of 3.17%, a weighted average life of 4.18 years and modified duration of 3.74 years.

Deposits

. Deposits held by our subsidiary bank represent our primary source of funding. Total deposits were $8.68 billion as of December 31, 2020, as compared to $6.60 billion as of December 31, 2019 and $6.18 billion as of December 31, 2018. Table 11 provides a breakdown of average deposits and rates paid over the past three years and the remaining maturity of time deposits of $100,000 or more:

Table 11 — Composition of Average Deposits and Remaining Maturity of Time Deposits of $100,000 or More (in thousands, except percentages):

AverageBalance AverageRate AverageBalance AverageRate AverageBalance AverageRate

Interest-bearing deposits

Over three through six months 54,915

Over six through twelve months 79,159

Borrowings.

Included in borrowings were federal funds purchased, securities sold under repurchase agreements and advances from the FHLB of $430.09 million, $381.36 million and $468.71 million at December 31, 2020, 2019 and 2018, respectively. Securities sold under repurchase agreements are generally with significant customers of the Company that require short-term liquidity for their funds for which we pledge certain securities that have a fair value equal to at least the amount of the short-term borrowing. The average balances of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were $561.51 million, $398.14 million,

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and $418.98 million in 2020, 2019 and 2018, respectively. The average rates paid on federal funds purchased, securities sold under repurchase agreements and advances from the FHLB were 0.20%, 0.75% and 0.47% for the years ended December 31, 2020, 2019 and 2018, respectively. The weighted average interest rate on federal funds purchased, securities sold under repurchase agreements and advances from the FHLB was 0.08%, 0.48% and 0.78% at December 31, 2020, 2019 and 2018, respectively. The highest amount of federal funds purchased, securities sold under repurchase agreements and advances from the FHLB at any

month-end

during 2020, 2019 and 2018 was $925.42 million, $423.67 million and $529.64 million, respectively.

Capital Resources