What is the Texas Ratio and how do I calculate it?

The Texas Ratio measures whether a bank has enough capital and reserves to cover its problem assets. You calculate it by dividing non-performing assets by the sum of tangible common equity and loan loss reserves. A ratio above 100% means problem assets exceed the bank's financial cushion, which has historically been a warning sign of potential failure.

The Texas Ratio compares a bank's problem assets against the financial resources available to absorb losses from those assets. The formula is:

Non-Performing Assets / (Tangible Common Equity + Loan Loss Reserves)

The numerator, non-performing assets (NPAs), includes two categories:

Non-performing loans, which are loans 90 or more days past due or placed on non-accrual status because the bank no longer expects to collect full payment

Other real estate owned (OREO), which is property the bank has taken possession of through foreclosure or a deed-in-lieu arrangement

The denominator combines a bank's two main loss-absorbing resources. Tangible common equity (TCE) is shareholders' equity minus intangible assets like goodwill. Loan loss reserves (also called the allowance for credit losses, or ACL) are funds the bank has already set aside to cover expected loan losses. Together, these represent the capital cushion standing between the bank and insolvency if its problem assets turn into actual losses.

Walking Through a Calculation

Suppose you are looking at a community bank that reports these figures in its quarterly filing:

Non-performing loans: $28 million

OREO: $4 million

Tangible common equity: $180 million

Loan loss reserves: $45 million

First, add the NPA components: $28 million + $4 million = $32 million in total non-performing assets. Then add the denominator components: $180 million + $45 million = $225 million in loss-absorbing capacity. Divide: $32 million / $225 million = 0.142, or a Texas Ratio of 14.2%.

That 14.2% tells you the bank's problem assets are a small fraction of its cushion. For every dollar of problems, the bank has roughly $7 of combined equity and reserves behind it.

Now consider a more stressed scenario. A different bank reports $95 million in NPAs against $60 million in TCE and $25 million in reserves. Its Texas Ratio: $95 million / $85 million = 111.8%. Problem assets have exceeded the bank's financial cushion. Without additional capital or significant recovery on those troubled assets, this bank is under serious pressure.

Where the Name Comes From

The ratio was developed in the 1980s by analyst Gerard Cassidy and his team at RBC Capital Markets during the Texas banking crisis. Hundreds of Texas banks were failing as oil prices collapsed and commercial real estate values cratered. Cassidy needed a quick, reliable way to screen which banks were most likely heading toward failure, and this ratio proved effective at separating the survivors from the casualties. It gained wider recognition during the 2008-2010 financial crisis, when it again identified many of the banks that ultimately failed or required government assistance.

What Different Levels Mean

Below 50% is generally comfortable territory. The bank's problem assets are well within its capacity to absorb losses, and most healthy banks fall in this range during normal economic conditions.

Between 50% and 100%, the situation deserves closer attention. The bank still has more cushion than problems, but the margin has narrowed. Context becomes especially important here: is the ratio rising or falling? How concentrated are the problem assets? Is the bank actively working to resolve them, or are new problems accumulating faster than old ones get resolved?

Above 100%, problem assets exceed the bank's combined equity and reserves. Historically, a sustained Texas Ratio above 100% has been one of the more reliable warning signs of potential bank failure. Not every bank that crosses this line fails, though. Some successfully raise new capital, sell problem assets, or negotiate workouts that bring the ratio back down. The ratio flags elevated risk rather than guaranteeing a specific outcome.

The Trend Tells You More Than a Snapshot

A single Texas Ratio reading gives you the current state, but the direction of movement over several quarters is often more telling. A bank at 40% that has climbed steadily from 15% over the past year may actually pose more concern than a bank at 60% whose ratio has been declining from 90%. The rising ratio signals that credit problems are still worsening, while the falling ratio signals recovery.

Pay attention when a rising Texas Ratio coincides with increasing provision expense (the amount the bank sets aside each quarter for expected loan losses). That combination indicates the bank is both recognizing more problem loans and bracing for larger losses. The reverse pattern, where both the Texas Ratio and provision expense decline together, suggests credit conditions are genuinely improving.

Mistakes to Avoid

The biggest pitfall is treating 100% as a hard pass/fail line. The Texas Ratio is a continuous measure, and the information it carries increases across the entire range. A bank at 85% with a rapidly rising ratio may be in worse shape than a bank at 105% that has stabilized and is actively resolving problem assets.

Another frequent error is ignoring what the non-performing assets actually consist of. A bank with $50 million in non-performing residential mortgages secured by homes in a stable housing market has a very different loss outlook than a bank with $50 million in non-performing commercial loans tied to vacant office buildings. The Texas Ratio treats both situations identically, but expected recovery rates can differ significantly.

A mechanical quirk also catches people off guard. When a bank charges off a loan (recognizes it as a loss), both the non-performing asset balance and the loan loss reserve balance decline simultaneously. This can temporarily push the Texas Ratio higher even though the bank is actually cleaning up its books. Looking at the charge-off activity alongside the ratio change prevents misreading this situation.

Finding the Data

All of the inputs for the Texas Ratio are publicly available. Non-performing asset totals typically appear in a bank's quarterly earnings press release, investor presentation, or the asset quality tables within its 10-Q filing. Many banks break out non-performing loans and OREO as separate line items, making the numerator straightforward to calculate.

For the denominator, tangible common equity comes from the balance sheet: total shareholders' equity minus goodwill and other intangible assets. Loan loss reserves (the allowance for credit losses) also appear on the balance sheet as a contra-asset that reduces gross loans to net loans. Both figures are available through quarterly call report data filed with the FDIC, which anyone can search through the FDIC's BankFind tool.