UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

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

For the quarterly period ended June 30, 2018

OR

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

For the transition period from              to           

Commission file number 000-09439

INTERNATIONAL BANCSHARES CORPORATION

(Exact name of registrant as specified in its charter)

Texas	74-2157138
(State or other jurisdiction of	(I.R.S. Employer Identification No.)
incorporation or organization)

1200 San Bernardo Avenue, Laredo, Texas 78042-1359

(Address of principal executive offices)

(Zip Code)

(956) 722-7611

(Registrant’s telephone number, including area code)

None

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes ☒  No ☐

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes ☒  No ☐

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

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

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

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

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

Class	Shares Issued and Outstanding
Common Stock, $1.00 par value	66,136,936 shares outstanding at August 3, 2018

PART I - FINANCIAL INFORMATION

Item 1. Financial Statements

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Condition (Unaudited)

(Dollars in Thousands)

	June 30,		December 31,
	2018		2017
Assets
Cash and cash equivalents	$	265,122	$	265,357
Investment securities:
Held to maturity debt securities (Fair value of $2,400 on June 30, 2018 and $2,400 on December 31, 2017)		2,400		2,400
Available for sale debt securities (Amortized cost of $3,822,194 on June 30, 2018 and $4,196,263 on December 31, 2017)		3,720,566		4,124,185
Equity securities with readily determinable fair values		27,054		27,885
Total investment securities		3,750,020		4,154,470
Loans		6,439,420		6,348,172
Less allowance for probable loan losses		(62,853)		(67,687)
Net loans		6,376,567		6,280,485
Bank premises and equipment, net		511,337		514,454
Accrued interest receivable		35,762		34,456
Other investments		586,338		571,415
Goodwill		282,532		282,532
Other assets		181,317		81,529
Total assets	$	11,988,995	$	12,184,698

1

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Condition, continued (Unaudited)

(Dollars in Thousands)

	June 30,		December 31,
	2018		2017
Liabilities and Shareholders’ Equity
Liabilities:
Deposits:
Demand—non-interest bearing	$	3,437,023	$	3,243,255
Savings and interest bearing demand		3,230,386		3,245,131
Time		2,002,219		2,056,506
Total deposits		8,669,628		8,544,892
Securities sold under repurchase agreements		306,755		353,805
Other borrowed funds		852,950		1,195,225
Junior subordinated deferrable interest debentures		160,416		160,416
Other liabilities		119,516		91,380
Total liabilities		10,109,265		10,345,718
Shareholders’ equity:
Common shares of $1.00 par value. Authorized 275,000,000 shares; issued 96,065,679 shares on June 30, 2018 and 96,019,028 shares on December 31, 2017		96,066		96,019
Surplus		173,057		171,816
Retained earnings		1,982,464		1,891,805
Accumulated other comprehensive loss		(79,537)		(28,397)
		2,172,050		2,131,243
Less cost of shares in treasury, 29,940,843 shares on June 30, 2018 and 29,939,545 on December 31, 2017		(292,320)		(292,263)
Total shareholders’ equity		1,879,730		1,838,980
Total liabilities and shareholders’ equity	$	11,988,995	$	12,184,698

See accompanying notes to consolidated financial statements.

2

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Income (Unaudited)

(Dollars in Thousands, except per share data)

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2018		2017		2018		2017
Interest income:
Loans, including fees	$	92,083	$	79,466	$	179,916	$	154,867
Investment securities:
Taxable		20,694		20,989		41,908		39,995
Tax-exempt		2,087		2,457		4,282		4,948
Other interest income		202		262		367		345
Total interest income		115,066		103,174		226,473		200,155
Interest expense:
Savings deposits		3,291		1,353		5,519		2,642
Time deposits		3,010		2,401		5,679		4,777
Securities sold under repurchase agreements		348		1,146		1,371		4,214
Other borrowings		4,379		2,575		9,068		3,838
Junior subordinated deferrable interest debentures		1,765		1,322		3,291		2,572
Total interest expense		12,793		8,797		24,928		18,043
Net interest income		102,273		94,377		201,545		182,112
Provision for probable loan losses		(2,730)		805		(1,068)		2,505
Net interest income after provision for probable loan losses		105,003		93,572		202,613		179,607
Non-interest income:
Service charges on deposit accounts		17,555		17,882		35,267		35,788
Other service charges, commissions and fees
Banking		11,152		11,025		22,274		21,410
Non-banking		2,028		1,864		3,388		3,199
Investment securities transactions, net		—		(2,539)		—		(1,612)
Other investments, net		5,841		2,830		10,567		7,098
Other income		5,727		2,901		9,782		5,795
Total non-interest income	$	42,303	$	33,963	$	81,278	$	71,678

3

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Income, continued (Unaudited)

(Dollars in Thousands, except per share data)

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2018		2017		2018		2017
Non-interest expense:
Employee compensation and benefits	$	34,692	$	32,739	$	69,310	$	65,469
Occupancy		7,163		6,417		13,238		12,408
Depreciation of bank premises and equipment		6,364		6,302		12,637		12,529
Professional fees		3,375		3,850		5,947		7,566
Deposit insurance assessments		974		913		1,974		1,303
Net expense, other real estate owned		2,649		482		2,378		1,396
Amortization of identified intangible assets		—		—		—		25
Advertising		1,808		2,116		3,647		4,384
Early termination fee—securities sold under repurchase agreements		—		—		—		5,765
Software and software maintenance		4,390		4,062		8,462		7,853
Other		19,186		16,832		31,917		30,641
Total non-interest expense		80,601		73,713		149,510		149,339
Income before income taxes		66,705		53,822		134,381		101,946
Provision for income taxes		13,818		13,253		28,074		29,373
Net income	$	52,887	$	40,569	$	106,307	$	72,573
Basic earnings per common share:
Weighted average number of shares outstanding		66,114,497		66,053,741		66,103,499		66,024,135
Net income	$	0.80	$	0.61	$	1.61	$	1.10
Fully diluted earnings per common share:
Weighted average number of shares outstanding		66,932,113		66,715,171		66,898,065		66,731,499
Net income	$	0.79	$	0.61	$	1.59	$	1.09

See accompanying notes to consolidated financial statements

4

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income (Unaudited)

(Dollars in Thousands)

	Three Months Ended				Six Months Ended
	June 30,				June 30,
	2018		2017		2018		2017
Net income	$	52,887	$	40,569	$	106,307	$	72,573
Other comprehensive income, net of tax:
Net unrealized holding (losses) gains on securities available for sale arising during period (net of tax effects of $(2,974), $2,894, $(13,594) and $10,092)		(11,187)		5,374		(51,140)		18,742
Reclassification adjustment for losses on securities available for sale included in net income (net of tax effects of $0, $889, $0 and $564)		—		1,650		—		1,048
		(11,187)		7,024		(51,140)		19,790
Comprehensive income	$	41,700	$	47,593	$	55,167	$	92,363

See accompanying notes to consolidated financial statements.

5

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Cash Flows (Unaudited)

(Dollars in Thousands)

	Six Months Ended
	June 30,
	2018		2017
Operating activities:
Net income	$	106,307	$	72,573
Adjustments to reconcile net income to net cash provided by operating activities:
Provision for probable loan losses		(1,068)		2,505
Specific reserve, other real estate owned		2,658		317
Depreciation of bank premises and equipment		12,637		12,529
Gain on sale of bank premises and equipment		(147)		(16)
(Gain) loss on sale of other real estate owned		(688)		3
Accretion of investment securities discounts		(133)		(219)
Amortization of investment securities premiums		10,857		12,577
Investment securities transactions, net		—		1,612
Unrealized loss on equity securities with readily determinable fair values		1,021		—
Amortization of identified intangible assets		—		25
Stock based compensation expense		470		484
Earnings from affiliates and other investments		(7,683)		(5,590)
Deferred tax expense		363		212
(Increase) decrease in accrued interest receivable		(1,306)		591
(Increase) decrease in other assets		(42,795)		720
Net increase in other liabilities		21,724		5,691
Net cash provided by operating activities		102,217		104,014
Investing activities:
Proceeds from maturities of securities		1,075		—
Proceeds from sales and calls of available for sale securities		18,145		272,184
Purchases of available for sale securities		(47,346)		(542,112)
Principal collected on mortgage backed securities		363,406		372,717
Net increase in loans		(126,153)		(244,855)
Purchases of other investments		(27,457)		(4,540)
Distributions from other investments		8,702		5,467
Purchases of bank premises and equipment		(10,274)		(7,615)
Proceeds from sales of bank premises and equipment		901		682
Proceeds from sales of other real estate owned		2,191		8,207
Net cash provided by (used in) investing activities	$	183,190	$	(139,865)

6

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Consolidated Statements of Cash Flows, continued (Unaudited)

(Dollars in Thousands)

	Six Months Ended
	June 30,
	2018		2017
Financing activities:
Net increase in non-interest bearing demand deposits	$	193,768	$	124,390
Net (decrease) increase in savings and interest bearing demand deposits		(14,745)		31,011
Net decrease in time deposits		(54,287)		(59,556)
Net decrease in securities sold under repurchase agreements		(47,050)		(144,574)
Net (decrease) increase in other borrowed funds		(342,275)		153,125
Purchase of treasury stock		(57)		(121)
Proceeds from stock transactions		818		1,092
Payments of cash dividends - common		(21,814)		(21,793)
Net cash (used in) provided by financing activities		(285,642)		83,574
(Decrease) increase in cash and cash equivalents		(235)		47,723
Cash and cash equivalents at beginning of period		265,357		269,198
Cash and cash equivalents at end of period	$	265,122	$	316,921
Supplemental cash flow information:
Interest paid	$	11,593	$	10,242
Income taxes paid		27,948		34,941
Non-cash investing and financing activities:
Purchases of available-for-sale securities not yet settled	$	—	$	30,612
Net transfers from loans to other real estate owned		31,139		1,450

See accompanying notes to consolidated financial statements.

7

INTERNATIONAL BANCSHARES CORPORATION AND SUBSIDIARIES

Notes to Consolidated Financial Statements

(Unaudited)

Note 1 — Basis of Presentation

The accounting and reporting policies of International Bancshares Corporation (the “Corporation”) and Subsidiaries (the Corporation and Subsidiaries collectively referred to herein as the “Company”) conform to accounting principles generally accepted in the United States of America and to general practices within the banking industry.  The consolidated financial statements include the accounts of the Corporation and its wholly-owned subsidiaries, International Bank of Commerce, Laredo (“IBC”), Commerce Bank, International Bank of Commerce, Zapata, International Bank of Commerce, Brownsville, International Bank of Commerce, Oklahoma and the Corporation’s wholly-owned non-bank subsidiaries, IBC Subsidiary Corporation, IBC Trading Company, Premier Tierra Holdings, Inc., IBC Charitable and Community Development Corporation, and IBC Capital Corporation.  All significant inter-company balances and transactions have been eliminated in consolidation.  The consolidated financial statements are unaudited, but include all adjustments, which, in the opinion of management, are necessary for a fair presentation of the results of the periods presented.  All such adjustments were of a normal and recurring nature.  These financial statements should be read in conjunction with the financial statements and the notes thereto in the Company’s latest Annual Report on Form 10-K.  The consolidated statement of condition at December 31, 2017 has been derived from the audited financial statements at that date but does not include all of the information and footnotes required by accounting principles generally accepted in the United States of America (“US GAAP”) for complete financial statements.  Certain reclassifications have been made to make prior periods comparable. Operating results for the three and six months ended June 30, 2018 are not necessarily indicative of the results for the year ending December 31, 2018 or any future period.

The Company operates as one segment.  The operating information used by the Company’s chief executive officer for purposes of assessing performance and making operating decisions about the Company is the consolidated statements presented in this report.  The Company has five active operating subsidiaries, the bank subsidiaries. The Company applies the provisions of Financial Accounting Standards Board (“FASB”) Accounting Standards Codification (“ASC”), FASB ASC 280, “Segment Reporting,” in determining its reportable segments and related disclosures.

The Company has evaluated all events or transactions that occurred through the date the Company issued these financial statements. During this period, the Company did not have any material recognizable or non-recognizable subsequent events.

On January 1, 2018, the Company adopted the provisions of ASU 2016-01, “Financial Instruments – Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities,”  and ASU 2018-03, “Technical Corrections and Improvements to Financial Instruments – Overall,” which affects current US GAAP as it relates to the accounting for equity investments, financial liability under the fair value option, and the presentation and disclosure requirements for financial instruments.  ASU 2016-01 also supersedes the guidance that requires:  (i) the classification of equity securities with readily determinable fair values into different categories, and (ii) recognition in changes in fair value of available-for-sale securities in other comprehensive income.  The main effect resulting from the adoption of the new standards is that beginning on January 1, 2018, equity securities with readily determinable fair values are now reported in a single line item on the face of the Company’s consolidated statement of condition under the caption, “Equity securities with readily determinable fair values.”  Additionally, the changes in fair value of the equity securities is now recognized in net income and is included in other non-interest expense on the face of the Company’s consolidated income statement. Prior to January 1, 2018, the equity securities were classified as available-for-sale and stated at fair value with unrealized gains and losses included in accumulated comprehensive income, net of tax and had a net unrealized loss of $189,000.  Other equity securities without readily determinable fair values are recorded at cost less any impairment, if any, and included in other investments in the Company’s consolidated financial statements.

On January 1, 2018, the Company adopted the provisions of ASU 2014-09 to ASC 606, “Revenue from Contracts with Customers.”  ASC 606 sets a common standard that defines revenue and the principles for recognizing

8

revenue.  The core principle of the accounting standards update requires an entity to recognize revenue in a manner that reflects the consideration that an entity is expected to receive in exchange for goods or services as performance obligations are satisfied.  The Company’s revenue is primarily comprised of net interest income on financial assets and financial liabilities, which is explicitly excluded from the scope of ASC 606.  The Company has evaluated the impact of the accounting standards update on certain other non-interest revenue streams that the provisions of the update apply to and has determined that the adoption of the new provisions to ASC 606 did not have a significant impact to the Company’s consolidated financial statements or operations. 

The Company adopted the provisions of ASU 2018-02 to ASC 220, “Income Statement- Reporting Comprehensive Income” in the second quarter of 2018.  ASU 2018-02 amends current guidance surrounding the reclassification of certain tax effects from accumulated other comprehensive income (loss) as a result of the 2017 Tax Cuts and Jobs Act and the related impact to comprehensive income (loss) as a result of the application of existing guidance with respect to changes in tax rates.  Under prior guidance, entities were to evaluate the carrying value of deferred tax assets and liabilities and adjust them for the tax effect of the rate change and record that change through earnings.  The result is that the tax effects for items that normally would only be recognized in comprehensive income would be recognized through earnings and would result in stranded tax effects in other comprehensive income (loss) for the impact of the rate change.  ASU 2018-02 allows for a reclassification from accumulated other comprehensive income (loss) to retained earnings for the stranded tax effects resulting from the 2017 Tax Cuts and Jobs Act.  The Company recorded a one-time reclassification of $5,979,000 between accumulated comprehensive income (loss) and retained earnings as a result of the adoption of the accounting standards update.

Note 2 — Fair Value Measurements

ASC Topic 820, “Fair Value Measurements and Disclosures” (“ASC 820”), defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements.  ASC 820 applies to all financial instruments that are being measured and reported on a fair value basis.  ASC 820 defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date; it also establishes a fair value hierarchy that prioritizes the inputs used in valuation methodologies into the following three levels:

· Level 1 Inputs - Unadjusted quoted prices in active markets for identical assets or liabilities.

· Level 2 Inputs - Observable inputs other than Level 1 inputs, such as quoted prices for similar assets or liabilities; quoted prices in markets that are not active; or other inputs that are observable or can be corroborated by observable market data for substantially the full term of the assets or liabilities.

· Level 3 Inputs - Unobservable inputs that are supported by little or no market activity and that are significant to the fair value of the assets or liabilities.  Level 3 assets and liabilities include financial instruments whose value is determined using pricing models, discounted cash flow methodologies, or other valuation techniques, as well as instruments for which the determination of fair value requires significant management judgment or estimation.

A description of the valuation methodologies used for instruments measured at fair value, as well as the general classification of such instruments pursuant to the valuation hierarchy is set forth below.

9

The following table represents assets and liabilities reported on the consolidated balance sheets at their fair value on a recurring basis as of June 30, 2018 by level within the fair value measurement hierarchy:

			Fair Value Measurements at
			Reporting Date Using
			(in Thousands)
			Quoted
			Prices in
			Active		Significant
	Assets/Liabilities		Markets for		Other		Significant
	Measured at		Identical		Observable		Unobservable
	Fair Value		Assets		Inputs		Inputs
	June 30, 2018		(Level 1)		(Level 2)		(Level 3)
Measured on a recurring basis:
Assets:
Available for sale debt securities
Residential mortgage-backed securities	$	3,509,643	$	—	$	3,509,643	$	—
States and political subdivisions		210,923		—		210,923		—
Equity Securities		27,054		27,054		—		—
	$	3,747,620	$	27,054	$	3,720,566	$	—

The following table represents assets and liabilities reported on the consolidated balance sheets at their fair value on a recurring basis as of December 31, 2017 by level within the fair value measurement hierarchy:

			Fair Value Measurements at
			Reporting Date Using
			(in Thousands)
			Quoted
			Prices in
			Active		Significant
	Assets/Liabilities		Markets for		Other		Significant
	Measured at		Identical		Observable		Unobservable
	Fair Value		Assets		Inputs		Inputs
	December 31, 2017		(Level 1)		(Level 2)		(Level 3)
Measured on a recurring basis:
Assets:
Available for sale securities
Residential mortgage - backed securities	$	3,891,233	$	—	$	3,891,233	$	—
States and political subdivisions		232,951		—		232,951		—
Equity Securities		27,886		27,886		—		—
	$	4,152,070	$	27,886	$	4,124,184	$	—

Available-for-sale debt securities are classified within Level 2 of the valuation hierarchy.  Equity securities with readily determinable fair values are classified within Level 1.  For debt investments classified as Level 2 in the fair value hierarchy, the Company obtains fair value measurements from an independent pricing service.  The fair value measurements consider observable data that may include dealer quotes, market spreads, cash flows, the U.S. Treasury yield curve, live trading levels, trade execution data, market consensus prepayment speeds, credit information and the bond’s terms and conditions, among other things.

Certain financial assets and financial liabilities are measured at fair value on a non-recurring basis.  The instruments are not measured at fair value on an ongoing basis but are subject to fair value adjustments in certain circumstances (for example, when there is evidence of impairment).

10

The following table represents financial instruments measured at fair value on a non-recurring basis as of and for the period ended June 30, 2018 by level within the fair value measurement hierarchy:

	Fair Value Measurements at Reporting
	Date Using
	(in thousands)
	Quoted
Assets/Liabilities	Prices in
Measured at	Active	Significant
Fair Value	Markets for	Other	Significant	Net Provision
Year ended	Identical	Observable	Unobservable	(Credit)
June 30,	Assets	Inputs	Inputs	During
2018	(Level 1)	(Level 2)	(Level 3)	Period	&n