Table of Contents
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
x Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the quarterly period ended September 30, 2015
or
o Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934
For the transition period from to
Commission File Number 001-34582
NORTHWEST BANCSHARES, INC.
(Exact name of registrant as specified in its charter)
Maryland
27-0950358
(State or other jurisdiction of incorporation or organization)
(I.R.S. Employer Identification No.)
100 Liberty Street, Warren, Pennsylvania
16365
(Address of principal executive offices)
(Zip Code)
(814) 726-2140
(Registrant’s telephone number, including area code)
(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 x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer x Accelerated Filer o Non-Accelerated Filer o Smaller reporting company o
Indicate by check mark whether the registrant is a Shell Company (as defined in Rule 12b-2 of the Exchange Act).Yes o No x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date:
Common Stock ($0.01 par value) 101,768,906 shares outstanding as of October 30, 2015
INDEX
PAGE
PART I
FINANCIAL INFORMATION
Item 1.
Financial Statements
Consolidated Statements of Financial Condition as of September 30, 2015 and December 31, 2014 (Unaudited)
1
Consolidated Statements of Income for the quarter and nine months ended September 30, 2015 and 2014 (Unaudited)
2
Consolidated Statements of Comprehensive Income for the quarter and nine months ended September 30, 2015 and 2014 (Unaudited)
3
Consolidated Statements of Changes in Shareholders’ Equity for the quarter ended September 30, 2015 and 2014 (Unaudited)
4
Consolidated Statements of Changes in Shareholders’ Equity for the nine months ended September 30, 2015 and 2014 (Unaudited)
5
Consolidated Statements of Cash Flows for the nine months ended September 30, 2015 and 2014 (Unaudited)
6
Notes to Consolidated Financial Statements (Unaudited)
8
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
52
Item 3.
Quantitative and Qualitative Disclosures about Market Risk
72
Item 4.
Controls and Procedures
74
PART II
OTHER INFORMATION
Legal Proceedings
Item 1A.
Risk Factors
Unregistered Sales of Equity Securities and Use of Proceeds
Defaults Upon Senior Securities
75
Mine Safety Disclosures
Item 5.
Other information
Item 6.
Exhibits
Signature
77
Certifications
ITEM 1. FINANCIAL STATEMENTS
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION (Unaudited)
(in thousands, except share data)
September 30,
December 31,
2015
2014
Assets
Cash and due from banks
$
91,406
87,401
Interest-earning deposits in other financial institutions
3,206
152,671
Federal funds sold and other short-term investments
1,013
634
Marketable securities available-for-sale (amortized cost of $965,965 and $906,702)
976,677
912,371
Marketable securities held-to-maturity (fair value of $48,511 and $106,292)
47,299
103,695
Total cash and investments
1,119,601
1,256,772
Personal Banking loans:
Residential mortgage loans
2,712,537
2,521,456
Home equity loans
1,203,190
1,066,131
Other consumer loans
494,714
242,744
Total Personal Banking loans
4,410,441
3,830,331
Business Banking loans:
Commercial real estate loans
2,330,864
1,801,184
Commercial loans
410,308
358,376
Total Business Banking loans
2,741,172
2,159,560
Total loans
7,151,613
5,989,891
Allowance for loan losses
(60,547
)
(67,518
Total loans, net
7,091,066
5,922,373
Federal Home Loan Bank stock, at cost
40,115
33,293
Accrued interest receivable
22,098
18,623
Real estate owned, net
10,391
16,759
Premises and equipment, net
153,841
143,909
Bank owned life insurance
167,258
144,362
Goodwill
261,319
175,323
Other intangible assets
9,712
3,033
Other assets
59,507
60,586
Total assets
8,934,908
7,775,033
Liabilities and Shareholders’ equity
Liabilities:
Noninterest-bearing checking deposits
1,127,864
891,248
Interest-bearing checking deposits
1,097,969
874,623
Money market deposit accounts
1,277,878
1,179,070
Savings deposits
1,378,958
1,209,287
Time deposits
1,762,073
1,478,314
Total deposits
6,644,742
5,632,542
Borrowed funds
927,219
888,109
Junior subordinated deferrable interest debentures held by trusts that issued guaranteed capital debt securities
119,332
103,094
Advances by borrowers for taxes and insurance
18,216
30,507
Accrued interest payable
1,816
936
Other liabilities
62,246
57,198
Total liabilities
7,773,571
6,712,386
Shareholders’ equity:
Preferred stock, $0.01 par value: 50,000,000 authorized, no shares issued
—
Common stock, $0.01 par value: 500,000,000 shares authorized, 101,725,112 and 94,721,453 shares issued, respectively
1,017
947
Paid-in capital
714,730
626,134
Retained earnings
487,048
481,577
Unallocated common stock of employee stock ownership plan
(21,398
(21,641
Accumulated other comprehensive loss
(20,060
(24,370
Total shareholders’ equity
1,161,337
1,062,647
Total liabilities and shareholders’ equity
See accompanying notes to unaudited consolidated financial statements
CONSOLIDATED STATEMENTS OF INCOME (Unaudited)
(in thousands, except per share data)
Quarter ended
Nine months ended
Interest income:
Loans receivable
76,087
70,820
217,783
210,868
Mortgage-backed securities
2,230
2,504
6,522
7,963
Taxable investment securities
1,689
1,456
5,741
4,523
Tax-free investment securities
986
1,561
3,477
4,814
Interest-earning deposits
99
187
418
673
Total interest income
81,091
76,528
233,941
228,841
Interest expense:
Deposits
6,163
6,305
17,620
19,216
7,987
7,882
24,221
23,389
Total interest expense
14,150
14,187
41,841
42,605
Net interest income
66,941
62,341
192,100
186,236
Provision for loan losses
3,167
3,466
5,117
19,236
Net interest income after provision for loan losses
63,774
58,875
186,983
167,000
Noninterest income:
Gain on sale of investments
260
852
921
4,549
Service charges and fees
9,945
9,665
27,832
27,115
Trust and other financial services income
3,062
2,976
8,932
9,078
Insurance commission income
2,398
1,778
7,036
6,579
Loss on real estate owned, net
(246
(240
(1,833
(937
Income from bank owned life insurance
1,166
1,083
3,087
3,134
Mortgage banking income
267
239
725
753
Other operating income
1,288
1,384
2,590
3,274
Total noninterest income
18,140
17,737
49,290
53,545
Noninterest expense:
Compensation and employee benefits
31,000
28,047
87,815
84,562
Premises and occupancy costs
6,072
5,642
18,238
17,939
Office operations
3,892
3,419
11,080
11,044
Processing expenses
8,126
6,723
22,723
19,951
Marketing expenses
1,691
2,211
6,857
6,779
Federal deposit insurance premiums
1,177
1,242
3,810
3,877
Professional services
1,529
1,854
4,973
5,691
Amortization of other intangible assets
422
330
959
992
Real estate owned expense
471
636
1,677
1,734
Acquisition expense
7,590
8,404
Other expenses
1,834
3,250
6,114
7,754
Total noninterest expense
63,804
53,354
172,650
160,323
Income before income taxes
18,110
23,258
63,623
60,222
Federal and state income taxes
5,238
5,926
19,276
15,605
Net income
12,872
17,332
44,347
44,617
Basic earnings per share
0.14
0.19
0.48
0.49
Diluted earnings per share
0.13
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)
(in thousands)
Net Income
Other comprehensive income net of tax:
Net unrealized holding gains/ (losses) on marketable securities:
Unrealized holding gains/ (losses) net of tax of $(1,520), $1,002, $(2,266) and $(4,574), respectively
2,379
(1,570
3,543
7,149
Reclassification adjustment for gains included in net income, net of tax of $77, $268, $299 and $1,616 respectively
(120
(419
(467
(2,527
Net unrealized holding gains on marketable securities
2,259
(1,989
3,076
4,622
Change in fair value of interest rate swaps, net of tax of $(24), $(367), $(311) and $(555), respectively
45
680
577
1,029
Defined benefit plan:
Reclassification adjustment for prior period service costs included in net income, net of tax of $(140), $74, $(420) and $223, respectively
219
(138
657
(414
Other comprehensive income/ (loss)
2,523
(1,447
4,310
5,237
Total comprehensive income
15,395
15,885
48,657
49,854
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREHOLDERS’ EQUITY (Unaudited)
(dollars in thousands, expect share data)
Quarter ended September 30, 2014
Accumulated
Other
Unallocated
Total
Common Stock
Paid-in
Retained
Comprehensive
common stock
Shareholders’
Shares
Amount
Capital
Earnings
Income/ (loss)
of ESOP
Equity
Beginning balance at June 30, 2014
94,949,695
949
626,213
471,038
(5,216
(22,200
1,070,784
Comprehensive income:
Other comprehensive loss, net of tax of $977
Total comprehensive income/ (loss)
Exercise of stock options
45,124
476
477
Stock compensation expense
1,059
402
1,461
Dividends paid ($0.13 per share)
(12,067
Ending balance at September 30, 2014
94,994,819
950
627,748
476,303
(6,663
(21,798
1,076,540
Quarter ended September 30, 2015
Beginning balance at June 30, 2015
94,740,749
624,321
487,150
(22,583
(21,485
1,068,350
Other comprehensive income, net of tax of $(1,607)
Acquisition of LNB Bancorp, Inc.
7,056,704
70
90,538
90,608
75,159
773
774
Stock-based compensation expense, including tax benefit of $25
941
87
1,028
Share repurchases
(147,500
(1
(1,843
(1,844
Dividends paid ($0.14 per share)
(12,974
Ending balance at September 30, 2015
101,725,112
Nine months ended September 30, 2014
Beginning balance at December 31, 2013
94,243,713
943
619,678
569,547
(11,900
(23,083
1,155,185
Other comprehensive income, net of tax of $(3,290)
478,476
4,935
4,940
Stock-based compensation expense, including tax benefit of $159
272,630
3,135
1,285
4,422
Dividends paid ($1.49 per share)
(137,861
Nine months ended September 30, 2015
Beginning balance at December 31, 2014
94,721,453
Other comprehensive income, net of tax of $(2,698)
285,905
2,838
2,841
Stock-based compensation expense, including tax benefit of $31
306,350
3,061
243
3,307
(645,300
(6
(7,841
(7,847
Dividends paid ($0.42 per share)
(38,876
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)
OPERATING ACTIVITIES:
Adjustments to reconcile net income to net cash provided by operating activities:
Net gain on sale of assets
(559
(4,681
Net depreciation, amortization and accretion
4,791
6,975
Decrease in other assets
37,533
6,621
Decrease in other liabilities
(8,993
(3,839
Net amortization on marketable securities
536
288
Noncash write-down of real estate owned
2,340
1,844
Origination of loans held for sale
(371
(758
Proceeds from sale of loans held for sale
375
1,023
Noncash compensation expense related to stock benefit plans
3,276
4,263
Net cash provided by operating activities
88,392
75,589
INVESTING ACTIVITIES:
Purchase of marketable securities available-for-sale
(59,980
(34,996
Proceeds from maturities and principal reductions of marketable securities held-to-maturity
56,616
11,152
Proceeds from maturities and principal reductions of marketable securities available-for-sale
183,822
124,856
Proceeds from sale of marketable securities available-for-sale
1,227
7,834
Loan originations
(1,677,913
(1,469,902
Proceeds from loan maturities and principal reductions
1,432,075
1,296,321
Purchase of Federal Home Loan Bank stock
(2,982
(270
Proceeds from sale of real estate owned
10,531
8,602
Sale of real estate owned for investment, net
456
Purchase of premises and equipment
(7,657
(7,290
Acquistions, net of cash received
(61,108
(2,792
Net cash used in investing activities
(124,913
(66,029
CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited) (continued)
FINANCING ACTIVITIES:
Increase/ (decrease) in deposits, net
(28,075
38,844
Proceeds from long-term borrowings
85,000
Repayments of long-term borrowings
(172,539
(40
Net increase/ (decrease) in short-term borrowings
63,480
(3,157
Decrease in advances by borrowers for taxes and insurance
(12,544
(10,402
Cash dividends paid
Purchase of common stock for retirement
Proceeds from stock options exercised
Net cash used in financing activities
(108,560
(107,676
Net decrease in cash and cash equivalents
(145,081
(98,116
Cash and cash equivalents at beginning of period
240,706
391,905
Cash and cash equivalents at end of period
95,625
293,789
Cash and cash equivalents:
83,994
209,161
Total cash and cash equivalents
Cash paid during the period for:
Interest on deposits and borrowings (including interest credited to deposit accounts of $16,092 and $17,276, respectively)
40,961
42,613
Income taxes
10,731
19,343
Business acquistions:
Fair value of assets acquired
1,160,190
2,798
Cash paid, net
Liabilities assumed
1,099,082
Non-cash activities:
Loans foreclosures and repossessions
6,742
7,158
Sale of real estate owned financed by the Company
768
370
7
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS - Unaudited
(1) Basis of Presentation and Informational Disclosures
Northwest Bancshares, Inc. (the “Company”) or (“NWBI”), a Maryland corporation headquartered in Warren, Pennsylvania, is a savings and loan holding company regulated by the Board of Governors of the Federal Reserve System. The primary activity of the Company is the ownership of all of the issued and outstanding common stock of Northwest Bank, a Pennsylvania-chartered savings bank (“Northwest”). Northwest is regulated by the FDIC and the Pennsylvania Department of Banking. At September 30, 2015, Northwest operated 182 community-banking offices throughout Pennsylvania, western New York, eastern Ohio and Maryland.
The accompanying unaudited consolidated financial statements include the accounts of the Company and its subsidiary, Northwest, and Northwest’s subsidiaries Northwest Settlement Agency, LLC, Northwest Consumer Discount Company, Northwest Financial Services, Inc., Northwest Advisors, Inc., Northwest Capital Group, Inc., Allegheny Services, Inc., Great Northwest Corporation, Boetger & Associates, Inc. and The Bert Company. The unaudited consolidated financial statements have been prepared in accordance with United States generally accepted accounting principles for interim financial information and with the instructions for Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information or footnotes required for complete annual financial statements. In the opinion of management, all adjustments necessary for the fair presentation of the Company’s financial position and results of operations have been included. The consolidated statements have been prepared using the accounting policies described in the financial statements included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2014 updated, as required, for any new pronouncements or changes.
Certain items previously reported have been reclassified to conform to the current year’s reporting format.
The results of operations for the quarter and nine months ended September 30, 2015 are not necessarily indicative of the results that may be expected for the year ending December 31, 2015, or any other period.
Stock-Based Compensation
On May 20, 2015, we awarded employees 600,570 stock options and directors 64,800 stock options with an exercise price of $12.37 and grant date fair value of $1.14 per stock option. On May 20, 2015, we also awarded employees 282,050 restricted common shares and directors 24,300 restricted common shares with a grant date fair value of $12.31. Awarded stock options and common shares vest over a ten-year period with the first vesting occurring on the grant date. Stock-based compensation expense of $1.0 million and $1.3 million for the quarters ended September 30, 2015 and 2014, respectively, and $3.3 million and $4.3 million for the nine months ended September 30, 2015 and 2014, respectively, was recognized in compensation expense relating to our stock benefit plans. At September 30, 2015 there was compensation expense of $4.6 million to be recognized for awarded but unvested stock options and $15.7 million for unvested common shares.
Income Taxes- Uncertain Tax Positions
Accounting standards prescribe a comprehensive model for how a company should recognize, measure, present and disclose in its financial statements uncertain tax positions that the company has taken or expects to take on a tax return. A tax benefit from an uncertain position may be recognized only if it is “more likely than not” that the position is sustainable, based on its technical merits. The tax benefit of a qualifying position is the largest amount of tax benefit that is greater than 50% likely of being realized
upon ultimate settlement with a taxing authority having full knowledge of all relevant information. At September 30, 2015 we had no liability for unrecognized tax benefits.
We recognize interest accrued related to: (1) unrecognized tax benefits in federal and state income taxes and (2) refund claims in other operating income. We recognize penalties (if any) in federal and state income taxes. There is no amount accrued for the payment of interest or penalties at September 30, 2015. We are subject to audit by the Internal Revenue Service and any state in which we conduct business for the tax periods ended December 31, 2014, 2013 and 2012. We are currently under audit by the state of New York for the tax periods ended December 31, 2014, 2013 and 2012.
Impact of New Accounting Standards
In May 2014 the Financial Accounting Standards Board (“FASB”) issued Accounting Standards Update (“ASU”) 2014-09, “Revenue from Contracts with Customers”. This guidance supersedes the revenue recognition requirements in Topic 605, Revenue Recognition, and most industry-specific guidance. The core principle of this guidance requires an entity to recognize revenue upon the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services and provides five steps to be analyzed to accomplish the core principle. This guidance is effective retrospectively for annual reporting periods beginning after December 15, 2017, including interim periods within those years and early adoption is not permitted. We are currently evaluating the impact this standard will have on our results of operations and financial position.
In June 2014 the FASB issued ASU 2014-12, “Compensation—Stock Compensation”. This guidance requires that a performance target that affects vesting and that could be achieved after the requisite service period be treated as a performance condition. Specifically, if the performance target becomes probable of being achieved before the end of the requisite service period, the remaining unrecognized compensation cost should be recognized prospectively over the remaining requisite service period. Further, the total amount of compensation cost recognized during and after the requisite service period should reflect the number of awards that are expected to vest and should be adjusted to reflect those awards that ultimately vest. This guidance is effective for annual periods beginning after December 15, 2015, including interim periods within those years and early adoption is permitted. We do not expect that this standard will have a material impact on our results of operations or financial position.
In February 2015 the FASB issued ASU 2015-02, “Consolidation”. This guidance amends existing standards regarding the evaluation of certain legal entities and their consolidation in the financial statements. The amendments modify the evaluation of whether limited partnerships and similar legal entities are variable interest entities or voting interest entities and eliminate the presumption that a general partner should consolidate a limited partnership. The amendments also affect the consolidation analysis of reporting entities that are involved with variable interest entities and provide a scope exception from consolidation guidance for reporting entities with interests in legal entities that are required to comply with or operate in accordance with requirements that are similar to those in Rule 2a-7 of the Investment Company Act of 1940 for registered money market funds. This guidance is effective for annual periods beginning after December 15, 2015, including interim periods within those years and early adoption is permitted. We do not expect that this standard will have a material impact on our results of operations or financial position.
In September 2015 the FASB issued ASU 2015-16, “Simplifying the Accounting for Measurement-Period Adjustments”. This guidance eliminates the requirement to retrospectively adjust the financial statements for measurement-periods adjustments that occur in periods after a business combination is consummated. This guidance is effective for annual periods beginning after December 15, 2015, including
9
interim periods within those years and early adoption is permitted. We do not expect that this standard will have a material impact on our results of operations or financial position.
(2) Acquisition
On August 14, 2015, the Company acquired all of the outstanding common shares of LNB Bancorp, Inc. (“LNB”), the parent company of The Lorain National Bank, for total consideration of $181.0 million, and thereby acquired LNB’s 21 branch locations in the counties of Lorain, Cuyahoga and Summit in Ohio. The merger with LNB enables the Company to expand its northeastern Ohio presence, improve its core deposit base, and add additional scale in its banking operations. The result of LNB’s operations are included in the Consolidated Statements of Income from the date of acquisition.
Under the terms of the merger agreement, each outstanding share of LNB stock was converted into the right to receive either 1.461 shares of common stock of the Company, or $18.70 in cash. As a result, LNB stockholders received 7,056,074 shares of Company common stock, valued at $90.6 million, based on the $12.84 closing price of the Company’s stock on August 14, 2015, and cash consideration of $90.4 million.
The following table shows the consideration paid, the assets acquired, and the liabilities assumed that were recorded at fair value on the date of acquisition (in thousands):
Consideration paid:
Northwest Bancshares, Inc. common stock issued
Cash paid to LNB Bancorp, Inc. stockholders
90,350
Total consideration paid
180,958
Recognized amounts of identifiable assets acquired and (liabilities assumed), at fair value (1)
Cash and cash equivalents
29,680
Investment securities available for sale
184,169
Loans
928,101
Federal Home Loan Bank stock
3,840
Premises and equipment
12,374
Core deposit intangible
7,375
28,680
(1,016,557
Borrowings
(63,169
(19,356
Total indentifiable net assets
95,137
85,821
(1) - Amounts are estimates and subject to adjustment. Actual amounts are not expected to differ materially from the amounts shown.
We estimated the fair value of loans acquired from LNB by utilizing a methodology wherein similar loans were aggregated into pools. Cash flows for each pool were determined by estimating future credit losses and the rate of prepayments. Projected monthly cash flows were then discounted to present value based on a market rate for similar loans. There was no carryover of LNB’s allowance for loan losses associated with the loans we acquired as the loans were initially recorded at fair value.
10
The following table shows information related to the purchased credit impaired LNB loan portfolio as of August 14, 2015 (in thousands):
Contractually required principal and interest at acquisition
41,175
Contractual cash flows not expected to be collected (nonaccretable discount)
(19,900
Expected cash flows at acquisition
21,275
Interest component of expected cash flows (accretable discount)
(1,672
Fair value of purchased credit impaired loans
19,603
The core deposit intangible asset recognized as part of the LNB merger is being amortized over its estimated useful life of approximately seven years utilizing an accelerated method. The goodwill, which is not amortized for book purposes, was assigned to our Community Banking segment and is not deductible for tax purposes. The fair values of savings and transaction deposit accounts acquired from LNB were assumed to approximate the carrying value as these accounts have no stated maturity and are payable on demand. Certificates of deposit were valued by projecting out the expected cash flows based on the contractual terms of the certificates of deposit. These cash flows were discounted based on a market rate for a certificate of deposit with a corresponding maturity.
Direct costs related to the LNB acquisition were expensed as incurred and amounted to $8.4 million for the nine months ended September 30, 2015 and $8.7 million to date. Technology and communications termination costs comprised more than half of these acquisition expenses, which also included professional services, marketing and advertising, severance costs, and other noninterest expenses.
(3) Business Segments
We operate in two reportable business segments: Community Banking and Consumer Finance. The Community Banking segment provides services traditionally offered by full-service community banks, including business and personal deposit accounts and business and personal loans, as well as insurance, brokerage and investment management and trust services. The Consumer Finance segment, which is comprised of Northwest Consumer Discount Company, a subsidiary of Northwest, operates 51 offices in Pennsylvania and offers personal installment loans for a variety of consumer and real estate products. This activity is funded primarily through an intercompany borrowing relationship with Allegheny Services, Inc., a subsidiary of Northwest. Net income is the primary measure used by management to measure segment performance. The following tables provide financial information for these reportable segments. The “All Other” column represents the parent company and elimination entries necessary to reconcile to the consolidated amounts presented in the financial statements.
11
At or for the quarter ended:
Community
Consumer
September 30, 2015 ($ in 000’s)
Banking
Finance
All other (1)
Consolidated
External interest income
76,357
4,517
217
Intersegment interest income
618
(618
Interest expense
12,991
541
2,666
501
Noninterest income
17,756
362
22
Noninterest expense
59,793
3,151
860
Income tax expense (benefit)
5,617
250
(629
13,664
359
(1,151
8,805,421
111,109
18,378
September 30, 2014 ($ in 000’s)
71,608
4,682
238
610
(610
13,094
483
2,750
716
17,016
264
457
50,048
3,057
249
5,923
234
(231
17,419
329
(416
7,699,696
106,517
20,713
7,826,926
(1) Eliminations consist of intercompany loans, interest income and interest expense.
At or for the nine months ended:
219,961
13,339
641
1,775
(1,775
38,660
1,406
3,766
1,351
48,162
1,043
85
161,915
9,185
1,550
19,835
859
(1,418
45,722
1,212
(2,587
214,013
14,047
781
1,807
(1,807
39,411
1,387
17,100
2,136
49,705
1,034
2,806
150,450
8,926
14,925
918
(238
43,639
1,294
(316
12
(4) Investment securities and impairment of investment securities
The following table shows the portfolio of investment securities available-for-sale at September 30, 2015 (in thousands):
Gross
unrealized
Amortized
holding
Fair
cost
gains
losses
value
Debt issued by the U.S. government and agencies:
Due in one year or less
13
Debt issued by government sponsored enterprises:
500
506
Due after one year through five years
315,488
865
(319
316,034
Due after five years through ten years
27,780
64
(15
27,829
Due after ten years
9,811
58
9,869
Equity securities
1,410
461
1,865
Municipal securities:
1,919
1,930
13,993
152
14,145
12,586
12,836
61,798
1,727
(13
63,512
Corporate debt issues:
14,496
2,500
(295
16,701
Residential mortgage-backed securities:
Fixed rate pass-through
125,378
3,343
(148
128,573
Variable rate pass-through
56,870
2,867
(8
59,729
Fixed rate non-agency CMOs
2,648
294
2,942
Fixed rate agency CMOs
229,338
873
(2,439
227,772
Variable rate agency CMOs
91,937
529
(45
92,421
Total residential mortgage-backed securities
506,171
7,906
(2,640
511,437
Total marketable securities available-for-sale
965,965
14,000
(3,288
The following table shows the portfolio of investment securities available-for-sale at December 31, 2014 (in thousands):
25
310,172
287
(2,672
307,787
25,746
(28
25,718
2,591
682
(116
3,157
810
15
825
7,878
132
8,010
6,965
115
7,080
51,839
2,391
54,230
18,267
2,579
20,427
72,852
3,149
(124
75,877
66,140
69,598
3,162
246
3,408
226,413
685
(5,331
221,767
113,842
(37
114,462
482,409
8,203
(5,500
485,112
906,702
14,404
(8,735
The following table shows the portfolio of investment securities held-to-maturity at September 30, 2015 (in thousands):
3,601
14
3,615
15,811
336
16,147
6,891
433
7,324
3,782
76
3,858
16,242
342
16,584
972
983
27,887
862
28,749
Total marketable securities held-to-maturity
48,511
The following table shows the portfolio of investment securities held-to-maturity at December 31, 2014 (in thousands):
10,207
141
10,348
56,545
1,314
57,859
8,236
8,713
4,273
122
4,395
23,382
531
23,913
1,052
1,064
36,943
1,142
38,085
2,597
106,292
The following table shows the fair value of and gross unrealized losses on investment securities, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position at September 30, 2015 (in thousands):
Less than 12 months
12 months or more
Unrealized
Fair value
loss
U.S. government and agencies
64,730
(171
118,584
(163
183,314
(334
Municipal securities
4,175
Corporate issues
2,130
545
Residential mortgage-backed securities - agency
22,397
(57
234,662
(2,583
257,059
Total temporarily impaired securities
91,847
(247
355,376
(3,041
447,223
The following table shows the fair value of and gross unrealized losses on investment securities, aggregated by investment category and length of time that the individual securities have been in a continuous unrealized loss position at December 31, 2014 (in thousands):
28,878
(67
244,828
(2,633
273,706
(2,700
Corporate debt issues
2,003
20,832
(79
195,505
(5,421
216,337
50,216
(262
442,336
(8,473
492,552
We review our investment portfolio for indications of impairment. This review includes analyzing the length of time and the extent to which amortized costs have exceeded fair values, the financial condition and near-term prospects of the issuer, including any specific events which may influence the operations of the issuer, and the intent to hold the investments for a period of time sufficient to allow for a recovery in value. Certain investments are evaluated using our best estimate of future cash flows. If the estimate of cash flows indicates that an adverse change has occurred, other-than-temporary impairment is recognized for the amount of the unrealized loss that was deemed credit related.
Credit related impairment on all debt securities is recognized in earnings while noncredit related impairment on available-for-sale debt securities, not expected to be sold, is recognized in other comprehensive income.
The table below shows a cumulative roll forward of credit losses recognized in earnings for debt securities held and not intended to be sold for the quarter ended (in thousands):
Beginning balance at July 1, (1)
8,489
10,164
Credit losses on debt securities for which other-than-temporary impairment was not previously recognized
Reduction for losses realized during the quarter
(30
Reduction for securities called realized during the quarter
Additional credit losses on debt securities for which other-than-temporary impairment was previously recognized
Ending balance at September 30,
8,459
10,156
(1) — The beginning balance represents credit losses included in other-than-temporary impairment charges recognized on debt securities in prior periods.
16
The table below shows a cumulative roll forward of credit losses recognized in earnings for debt securities held and not intended to be sold for the nine months ended (in thousands):
Beginning balance at January 1, (1)
8,894
10,342
Reduction for losses realized during the nine months
(75
(186
Reduction for securities called realized during the nine months
(360
(5) Loans receivable
The following table shows a summary of our loans receivable at September 30, 2015 and December 31, 2014 (in thousands):
Originated
Acquired
Personal Banking:
2,657,243
47,604
2,704,847
2,526,240
1,056,186
147,004
277,779
216,935
Total Personal Banking
3,991,208
411,543
4,402,751
3,835,115
Business Banking:
2,034,131
457,978
2,492,109
1,874,944
353,778
69,947
423,725
419,525
Total Business Banking
2,387,909
527,925
2,915,834
2,294,469
Total loans receivable, gross
6,379,117
939,468
7,318,585
6,129,584
Deferred loan costs
18,547
6,095
Undisbursed loan proceeds:
(10,720
(137
(10,857
(10,879
(138,533
(22,712
(161,245
(73,760
(7,743
(5,674
(13,417
(61,149
Total loans receivable, net
6,180,121
910,945
17
Acquired loans were initially measured at fair value and subsequently accounted for under either Accounting Standards Codification (“ASC”) Topic 310-30 or ASC Topic 310-20. The following table provides information related to the outstanding principal balance and related carrying value of acquired loans for the dates indicated (in thousands):
Acquired loans evaluated individually for future credit losses:
Outstanding principal balance
23,516
Carrying value
17,912
Acquired loans evaluated collectively for future credit losses:
901,911
893,033
Total acquired loans:
925,427
The following table provides information related to the changes in the accretable discount, which includes income recognized from contractual cash flows for the dates indicated (in thousands):
Balance at December 31, 2014
LNB Bancorp, Inc. acquisition
1,672
Accretion
(161
Net reclassification from nonaccretable yield
Balance at September 30, 2015
1,511
The following table provides information related to acquired impaired loans by portfolio segment and by class of financing receivable at and for the nine months ended September 30, 2015 (in thousands):
Related impairment reserve
Average recorded investment in impaired loans
Interest income recognized
Residental mortgage loans
2,086
2,739
2,185
2,254
2,959
2,360
328
431
343
4,668
6,129
4,888
12,840
16,857
13,446
47
404
530
423
13,244
17,387
13,869
49
18,757
54
18
At September 30, 2015, we expect to fully collect the carrying value of our acquired loans and have determined that we can reasonably estimate their future cash flows, therefore, no acquired loans were used to calculate the allowance for loan losses.
The following table provides information related to the allowance for loan losses by portfolio segment and by class of financing receivable for the quarter ended September 30, 2015 (in thousands):
Balance September 30, 2015
Current period provision
Charge-offs
Recoveries
Balance June 30, 2015
4,587
(14
(342
51
4,892
3,371
274
(443
95
3,445
7,618
3,000
(2,014
388
6,244
15,576
3,260
(2,799
534
14,581
30,829
111
(558
1,113
30,163
14,142
(204
(595
628
14,313
44,971
(93
(1,153
1,741
44,476
Unallocated (1)
60,547
(3,952
2,275
59,057
(1) - Due to enhancements in our allowance for loan losses process we allocated the previously unallocated allowance using both qualitative and quantitative factors.
The following table provides information related to the allowance for loan losses by portfolio segment and by class of financing receivable for the quarter ended September 30, 2014 (in thousands):
Balance September 30, 2014
Balance June 30, 2014
7,566
(11
(352
162
7,767
6,054
(159
(325
6,516
5,985
1,483
(1,444
320
5,626
19,605
1,313
(2,121
504
19,909
35,105
1,317
(1,981
688
35,081
12,543
785
(580
232
12,106
47,648
2,102
(2,561
920
47,187
4,397
4,346
71,650
(4,682
1,424
71,442
19
The following table provides information related to the allowance for loan losses by portfolio segment and by class of financing receivable for the nine months ended September 30, 2015 (in thousands):
Balance December 31, 2014
(220
(955
181
5,581
(126
(1,327
4,550
6,135
(5,713
1,078
6,118
5,789
(7,995
1,533
16,249
(1,205
(5,110
3,755
33,389
4,898
(7,675
3,404
13,515
3,693
(12,785
7,159
46,904
(4,365
4,365
(20,780
8,692
67,518
The following table provides information related to the allowance for loan losses by portfolio segment and by class of financing receivable for the nine months ended September 30, 2014 (in thousands):
Balance December 31, 2013
(1,694
7,875
(50
(1,290
149
7,245
4,162
(4,610
946
5,487
5,278
(7,594
20,607
3,002
(5,491
2,395
35,199
11,221
(10,866
1,308
10,880
14,223
(16,357
3,703
46,079
(265
4,662
(23,951
5,017
71,348
20
At September 30, 2015, we expect to fully collect the carrying value of our acquired loans and have determined that we can reasonably estimate their future cash flows including those loans that are 90 days or more delinquent. As a result, we do not consider our acquired loans that are 90 days or more delinquent to be nonaccrual or impaired and continue to recognize interest income on these loans, including the loans’ accretable discount.
The following table provides information related to the loan portfolio by portfolio segment and by class of financing receivable at September 30, 2015 (in thousands):
Total loans receivable
Nonaccrual loans (1)
Loans past due 90 days or more and still accruing (2)
TDRs
Allowance related to TDRs
Additional commitments to customers with loans classified as TDRs
19,507
6,319
6,669
2,421
263
3,694
550
29,870
555
8,740
1,286
30,942
124
30,360
2,329
7,093
10,238
1,146
623
38,035
125
40,598
3,475
917
67,905
49,338
4,761
(1) - Includes $23.2 million of nonaccrual TDRs.
(2) — Represents loans 90 days past maturity and still accruing.
The following table provides information related to the loan portfolio by portfolio segment and by class of financing receivable at December 31, 2014 (in thousands):
21,194
6,574
1,133
9,569
2,412
229
2,820
206
33,583
214
8,986
1,362
38,647
41,917
4,938
449
7,578
21
10,885
1,095
814
46,225
52,802
6,033
1,263
63,153
79,808
235
61,788
7,395
(1) - Includes $24.5 million of nonaccrual TDRS.
The following table provides geographical and delinquency information related to the loan portfolio by portfolio segment and class of financing receivable at September 30, 2015 (in thousands):
Pennsylvania
New York
Ohio
Loans receivable:
2,286,869
168,029
67,134
130,775
59,730
895,605
122,207
156,117
24,157
5,104
256,351
12,073
85,765
1,801
138,724
3,438,825
302,309
309,016
156,733
203,558
969,787
737,132
447,537
114,522
61,886
267,908
55,751
70,138
5,927
10,584
1,237,695
792,883
517,675
120,449
72,470
4,676,520
1,095,192
826,691
277,182
276,028
Percentage of total loans receivable
65.3
%
15.3
11.6
3.9
100.0
Loans 90 or more days delinquent: (1)
11,249
1,255
1,570
1,394
17,209
2,762
621
1,183
988
5,554
2,958
80
102
3,156
16,969
2,442
2,454
2,558
1,496
25,919
7,026
1,103
5,787
474
508
14,898
1,873
446
2,319
8,899
6,233
17,217
25,868
3,545
8,687
3,032
2,004
43,136
Percentage of total loans 90 or more days delinquent
60.1
8.2
20.1
7.0
4.6
(1) — Includes $6.3 million of acquired loans considered to accruing.
The following table provides geographical and delinquency information related to the loan portfolio by portfolio segment and class of financing receivable at December 31, 2014 (in thousands):
2,151,361
161,445
18,486
134,228
55,936
909,139
115,459
9,087
27,203
5,243
225,088
9,961
3,132
1,328
3,235
3,285,588
286,865
30,705
162,759
64,414
1,013,632
590,934
24,901
114,850
56,867
243,159
83,252
15,826
7,817
8,322
1,256,791
674,186
40,727
122,667
65,189
4,542,379
961,051
71,432
285,426
129,603
75.8
16.0
1.2
4.8
2.2
Loans 90 or more days delinquent:
12,282
1,237
710
1,678
1,789
17,696
4,474
35
1,058
103
6,606
2,388
55
2,450
19,144
2,228
752
2,736
1,892
26,752
8,827
1,072
270
930
11,099
2,659
284
207
325
11,486
1,356
14,574
30,630
3,584
3,213
3,147
41,326
74.1
8.7
1.8
7.8
7.6
23
The following table provides information related to the composition of originated impaired loans by portfolio segment and by class of financing receivable at and for the nine months ended September 30, 2015 (in thousands):
Nonaccrual loans 90 or more days delinquent
Nonaccrual loans less than 90 days delinquent
Loans less than 90 days delinquent reviewed for impairment
TDRs less than 90 days delinquent not included elsewhere
Total impaired loans
Interest income recognized on impaired loans
16,510
2,997
5,029
24,536
24,506
667
4,546
2,123
1,767
8,436
9,580
357
562
71
24,188
5,682
6,796
36,666
36,892
10,565
20,377
16,292
13,078
60,312
78,432
2,445
2,074
5,019
1,708
4,736
13,537
16,876
520
12,639
25,396
18,000
17,814
73,849
95,308
2,965
36,827
31,078
24,610
110,515
132,200
4,060
The following table provides information related to the composition of originated impaired loans by portfolio segment and by class of financing receivable at and for the year ended December 31, 2014 (in thousands):
3,498
5,845
27,039
28,227
817
2,963
1,706
11,275
11,753
485
2,383
66
6,831
7,551
41,134
42,363
1,368
27,548
26,400
12,128
77,175
90,187
3,589
4,103
5,266
6,026
18,870
27,088
914
31,651
31,666
18,154
96,045
117,275
4,503
38,482
25,705
137,179
159,638
5,871
24
The following table provides information related to the evaluation of impaired loans by portfolio segment and by class of financing receivable at September 30, 2015 (in thousands):
Loans collectively evaluated for impairment
Loans individually evaluated for impairment
Loans individually evaluated for impairment for which there is a related impairment reserve
Loans individually evaluated for impairment for which there is no related
reserve
2,705,427
7,110
1,200,769
494,590
28
4,400,786
9,655
2,278,363
52,501
30,053
2,813
22,448
399,470
10,838
10,075
763
2,677,833
63,339
40,128
3,796
23,211
7,078,619
72,994
49,783
5,110
No acquired loans were individually evaluated for impairment at September 30, 2015.
The following table provides information related to the evaluation of impaired loans by portfolio segment and by class of financing receivable at December 31, 2014 (in thousands):
Loans individually evaluated for
impairment for which there is no related
2,514,060
7,396
1,116
1,063,741
2,390
242,678
3,820,479
9,852
1,363
1,734,864
66,320
42,869
6,189
23,451
343,416
14,960
10,938
1,378
4,022
2,078,280
81,280
53,807
7,567
27,473
5,898,759
91,132
63,659
8,930
Our loan portfolios include loans that have been modified in a troubled debt restructuring (TDR), where concessions have been granted to borrowers who have experienced financial difficulties. These concessions typically result from our loss mitigation activities and could include: extending the note’s maturity date, permitting interest only payments, reducing the interest rate to a rate lower than current market rates for new debt with similar risk, reducing the principal payment, principal forbearance or other actions. These concessions are applicable to all loan segments and classes. Certain TDRs are classified as nonperforming at the time of restructuring and may be returned to performing status after considering the borrower’s sustained repayment performance for a reasonable period of at least six months.
When we modify loans in a TDR, we evaluate any possible impairment similar to other impaired loans based on the present value of expected future cash flows, discounted at the contractual interest rate of the original loan agreement, the loan’s observable market price or the current fair value of the collateral, less selling costs, for collateral dependent loans. If we determine that the value of the modified loan is less than the recorded investment in the loan (net of previous charge-offs, deferred loan fees or costs and unamortized premium or discount), impairment is recognized through an allowance estimate or a charge-off to the allowance. In periods subsequent to modification, we evaluate all TDRs, including those that have payment defaults, for possible impairment, using ASC 310-10. As a result, loans modified in a TDR may have the financial effect of increasing the specific allowance associated with the loan.
Loans modified in a TDR are closely monitored for delinquency as an early indicator of possible future default. If loans modified in a TDR subsequently default, we evaluate the loan for possible further impairment. The allowance may be increased, adjustments may be made in the allocation of the allowance, partial charge-offs may be taken to further write-down the carrying value of the loan, or the loan may be charged-off completely.
26
The following table provides a roll forward of troubled debt restructurings for the periods indicated (in thousands):
For the quarters ended September 30,
Number of contracts
Beginning TDR balance:
231
56,184
248
63,793
New TDRs
2,273
3,124
Re-modified TDRs
6,316
2,178
Net paydowns
(7,096
(5,411
Charge-offs:
(60
(5
(346
(38
Paid-off loans:
(35
(8,122
(633
(77
(766
Ending TDR balance:
224
61,866
Accruing TDRs
26,154
39,995
Non-accrual TDRs
23,184
21,871
For the nine months ended September 30,
262
79,166
2,772
5,779
6,446
2,334
(11,537
(12,431
(130
(377
(387
(8,289
(53
(81
(74
(9,127
(1,471
(296
(2,641
27
The following table provides information related to troubled debt restructurings (including re-modified TDRs) by portfolio segment and by class of financing receivable during the periods indicated (dollars in thousands):
For the quarter ended September 30, 2015
For the nine months ended September 30, 2015
Recorded investment at the time of modification
Current recorded investment
Current allowance
Troubled debt restructurings:
228
319
313
8,563
8,511
980
8,575
8,522
981
324
31
8,589
8,536
8,835
1,012
9,218
9,148
Troubled debt restructurings modified within the previous twelve months that have subsequently defaulted:
251
269
For the quarter ended September 30, 2014
For the nine months months ended September 30, 2014
145
108
37
2,067
1,964
221
136
106
30
512
451
32
281
67
2,415
253
454
453
543
533
61
4,567
3,777
1,198
4,991
4,209
1,233
5,021
4,230
1,228
5,534
4,742
5,302
4,444
1,295
8,113
7,157
1,547
128
126
7,444
378
7,572
29
The following table provides information as of September 30, 2015 for troubled debt restructurings (including re-modified TDRs) by type of modification, by portfolio segment and class of financing receivable for modifications during the quarter ended September 30, 2015 (dollars in thousands):
Type of modification
Rate
Payment
Maturity date
180
8,331
8,356
The following table provides information as of September 30, 2014 for troubled debt restructurings (including re-modified TDRs) by type of modification, by portfolio segment and class of financing receivable for modifications during the quarter ended September 30, 2014 (dollars in thousands):
203
1,453
2,522
255
1,667
The following table provides information as of September 30, 2015 for troubled debt restructurings (including re-modified TDRs) by type of modification, by portfolio segment and class of financing receivable for modifications during the nine months ended September 30, 2015 (dollars in thousands):
73
110
83
156
112
8,342
8,655
8,767
The following table provides information as of September 30, 2014 for troubled debt restructurings (including re-modified TDRs) by type of modification, by portfolio segment and class of financing receivable for modifications during the nine months ended September 30, 2014 (dollars in thousands):
1,856
345
2,201
273
1,563
327
600
1,777
4,780
The following table provides information related to re-modified troubled debt restructurings by portfolio segment and by class of financing receivable for the quarter ended September 30, 2015 (dollars in thousands):
Number of
Type of re-modification
re-modified TDRs
6,270
114
2,064
The following table provides information related to re-modified troubled debt restructurings by portfolio segment and by class of financing receivable for the nine months ended September 30, 2015 (dollars in thousands):
6,398
The following table provides information related to re-modified troubled debt restructurings by portfolio segment and by class of financing receivable for the nine months ended September 30, 2014 (dollars in thousands):
171
189
2,069
2,235
2,258
2,311
33
The following table provides information related to loan payment delinquencies at September 30, 2015 (in thousands):
30-59 Days delinquent
60-89 Days delinquent
90 Days or greater delinquent
Total delinquency
Current
90 Days or greater delinquent and accruing (1)
Originated loans
3,548
5,095
16,383
25,026
2,640,044
2,665,070
4,120
1,373
4,372
9,865
1,046,321
5,612
2,317
3,080
11,009
266,770
13,280
8,785
23,835
45,900
3,953,135
3,999,035
4,618
6,035
9,468
20,121
1,875,477
1,895,598
819
391
3,284
342,751
346,035
5,437
6,426
11,542
23,405
2,218,228
2,241,633
Total originated loans
18,717
15,211
35,377
69,305
6,171,363
6,240,668
Acquired loans
96
98
826
1,020
46,447
47,467
699
1,650
1,182
3,175
143,829
1,009
712
276
215,871
2,458
717
2,084
5,259
406,147
411,406
1,732
2,845
2,333
5,430
10,608
424,658
435,266
4,333
560
245
815
63,458
64,273
3,405
2,343
5,675
11,423
488,116
499,539
4,578
Total acquired loans
5,863
3,060
7,759
16,682
894,263
6,310
24,580
18,271
85,987
7,065,626
(1) — Represents acquired loans that were originally recorded at fair value upon acquisition. These loans are considered to be accruing because we can reasonably estimate future cash flows on and expect to fully collect the carrying value of these loans. Therefore, we are accreting the difference between the carrying value and their expected cash flows into interest income.
34
The following table provides information related to loan payment delinquencies at December 31, 2014 (in thousands):
27,443
6,970
52,109
2,469,347
5,752
14,030
1,052,101
5,572
2,435
10,457
232,287
38,767
11,077
76,596
3,753,735
4,956
2,038
18,093
1,783,091
2,262
209
5,946
352,430
7,218
2,247
24,039
2,135,521
45,985
13,324
100,635
5,889,256
Credit quality indicators: We categorize loans into risk categories based on relevant information about the ability of borrowers to service their debt such as: current financial information, historical payment experience, credit documentation, public information, and current economic trends, among other factors. We analyze loans individually by classifying the loans by credit risk. Credit relationships greater than or equal to $1.0 million classified as special mention or substandard are reviewed quarterly for deterioration or improvement to determine if the loan is appropriately classified. We use the following definitions for risk ratings other than pass:
Special mention — Loans designated as special mention have specific, well-defined risk issues, which create a high level of uncertainty regarding the long-term viability of the business. Loans in this class are considered to have high-risk characteristics. A special mention loan exhibits material negative financial trends due to company-specific or systemic conditions. If these potential weaknesses are not mitigated, they threaten the borrower’s capacity to meet its debt obligations. Special mention loans still demonstrate sufficient financial flexibility to react to and positively address the root cause of the adverse financial trends without significant deviations from their current business strategy. Their potential weaknesses deserve our close attention and warrant enhanced monitoring.
Substandard — Loans classified as substandard are inadequately protected by the current net worth and payment capacity of the obligor or of the collateral pledged, if any. Loans so classified have a well-defined weakness or weaknesses that jeopardize the liquidation of the debt. They are characterized by the distinct possibility that we will sustain some loss if the deficiencies are not corrected.
Doubtful — Loans classified as doubtful have all the weaknesses inherent in those classified as substandard. In addition, those weaknesses make collection or liquidation in full highly questionable and improbable. A loan classified as doubtful exhibits discernible loss potential, but a complete loss seems very unlikely. The possibility of a loss on a doubtful loan is high, but because of certain important and reasonably specific pending factors that may strengthen the loan, its classification as an estimated loss is deferred until a more exact status can be determined.
Loss — Loans classified as loss are considered uncollectible and of such value that the continuance as a loan is not warranted. A loss classification does not mean that the loan has no recovery or
salvage value; instead, it means that it is not practical or desirable to defer writing off all or a portion of a basically worthless loan even though partial recovery may be possible in the future.
The following table sets forth information about credit quality indicators updated during the quarter ended September 30, 2015 (in thousands):
Pass
Special mention
Substandard
Doubtful
Loss
2,652,330
11,385
1,355
1,051,948
4,238
275,140
2,639
3,979,418
18,262
1,737,644
32,815
125,139
289,609
19,355
36,906
165
2,027,253
52,170
162,045
6,006,671
180,307
47,340
127
146,831
173
216,883
411,054
352
416,795
524
17,947
63,757
507
480,552
18,454
891,606
18,806
6,898,277
52,703
199,113
36
The following table sets forth information about credit quality indicators, which were updated during the year ended December 31, 2014 (in thousands):
2,507,269
12,763
1,059,525
240,947
1,797
3,807,741
21,166
1,618,269
36,908
145,502
505
286,234
23,690
46,280
2,172
1,904,503
60,598
191,782
2,677
5,712,244
212,948
(6) Goodwill and Other Intangible Assets
The following table provides information for intangible assets subject to amortization at the dates indicated (in thousands):
Amortizable intangible assets:
Core deposit intangibles — gross
30,578
Acquisitions
Less: accumulated amortization
(30,731
(30,578
Core deposit intangibles — net
7,222
Customer and Contract intangible assets — gross
8,234
6,197
2,037
(6,007
(5,201
Customer and Contract intangible assets — net
2,490
The following table shows the actual aggregate amortization expense for the quarters and nine months ended September 30, 2015 and 2014, as well as the estimated aggregate amortization expense, based upon current levels of intangible assets, for the current fiscal year and each of the five succeeding fiscal years (in thousands):
For the nine months ended September 30, 2014
For the year ending December 31, 2015
1,688
For the year ending December 31, 2016
For the year ending December 31, 2017
2,090
For the year ending December 31, 2018
1,658
For the year ending December 31, 2019
1,226
For the year ending December 31, 2020
794
The following table provides information for the changes in the carrying amount of goodwill (in thousands):
Balance at December 31, 2013
173,031
1,613
174,644
Goodwill acquired
679
Impairment losses
173,710
85,996
259,706
We performed our annual goodwill impairment test as of June 30, 2015 and concluded that goodwill was not impaired. At September 30, 2015, there were no changes in our operations or other factors that would cause us to update that test. See the Overview of Critical Accounting Policies Involving Estimates section for a description of our testing procedures.
(7) Guarantees
We issue standby letters of credit in the normal course of business. Standby letters of credit are conditional commitments issued by the Company to guarantee the performance of a customer to a third party. Standby letters of credit generally are contingent upon the failure of the customer to perform according to the terms of the underlying contract with the third party. We are required to perform under a standby letter of credit when drawn upon by the guaranteed third party in the case of nonperformance by our customer. The credit risk associated with standby letters of credit is essentially the same as that involved in extending loans to customers and is subject to normal loan underwriting procedures. Collateral may be obtained based on management’s credit assessment of the customer. At September 30, 2015, the maximum potential amount of future payments we could be required to make under these standby letters of credit was $32.4 million, of which $23.6 million is fully collateralized. At September 30, 2015, we had a liability, which represents deferred income, of $1.2 million related to the standby letters of credit. There are no recourse provisions that would enable us to recover any amounts from third parties.
38
(8) Earnings Per Share
Basic earnings per common share (EPS) is computed by dividing net income available to common shareholders by the weighted-average number of common shares outstanding for the period, without considering any dilutive items. Diluted EPS reflects the potential dilution that could occur if securities or other contracts to issue common stock were exercised or converted into common stock or resulted in the issuance of common stock that then shared in the earnings of the Company. Stock options to purchase 534,482 shares of common stock with a weighted average exercise price of $13.15 per share were outstanding during the quarter ended September 30, 2015 but were not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares of $12.76. Stock options to purchase 1,712,746 shares of common stock with a weighted average exercise price of $12.63 per share were outstanding during the nine months ended September 30, 2015 but were not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares of $12.33. Stock options to purchase 584,711 shares of common stock with a weighted average exercise price of $13.15 per share were outstanding during the quarter ended September 30, 2014 but were not included in the computation of diluted earnings per share because the options’ exercise price was greater than the average market price of the common shares of $12.63. All stock options outstanding during the nine months ended September 30, 2014 were included in the computation of diluted earnings per share because the stock options’ exercise price was less than the average market price of the common shares of $13.60.
The computation of basic and diluted earnings per share follows (in thousands, except share data and per share amounts):
Reported net income
Weighted average common shares outstanding
95,256,807
91,745,512
92,822,720
91,465,986
Dilutive potential shares due to effect of stock options
568,991
372,642
433,379
867,124
Total weighted average common shares and dilutive potential shares
95,825,798
92,118,154
93,256,099
92,333,110
Basic earnings per share:
Diluted earnings per share:
39
(9) Pension and Other Post-retirement Benefits
The following table sets forth the net periodic costs for the defined benefit pension plans and post retirement healthcare plans for the periods indicated (in thousands):
Components of net periodic benefit cost
Quarter ended September 30,
Pension benefits
Other post-retirement benefits
Service cost
1,430
1,035
Interest cost
1,531
1,457
Expected return on plan assets
(2,593
(2,416
Amortization of prior service cost
(581
Amortization of the net loss
925
Net periodic (benefit)/ cost
Nine months ended September 30,
4,290
3,105
4,593
4,371
44
(7,779
(7,248
(1,743
2,775
1,070
(445
89
We anticipate making a contribution to our defined benefit pension plan of $4.0 million to $8.0 million during the year ending December 31, 2015.
(10) Disclosures About Fair Value of Financial Instruments
Fair value information about financial instruments, whether or not recognized in the consolidated statement of financial condition, is required to be disclosed. These requirements exclude certain financial instruments and all nonfinancial instruments. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company.
Financial assets and liabilities recognized or disclosed at fair value on a recurring basis and certain financial assets and liabilities on a non-recurring basis are accounted for using a three-level hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. This hierarchy gives the highest priority to quoted prices with readily available independent data in active markets for identical assets or liabilities (Level 1) and the lowest priority to unobservable market inputs (Level 3). When various inputs for measurement fall within different levels of the fair value hierarchy, the lowest level input that has a significant impact on fair value measurement is used.
Financial assets and liabilities are categorized based upon the following characteristics or inputs to the valuation techniques:
· Level 1 — Financial assets and liabilities for which inputs are observable and are obtained from reliable quoted prices for identical assets or liabilities in actively traded markets. This is the
40
most reliable fair value measurement and includes, for example, active exchange-traded equity securities.
· Level 2 — Financial assets and liabilities for which values are based on quoted prices in markets that are not active or for which values are based on similar assets or liabilities that are actively traded. Level 2 also includes pricing models in which the inputs are corroborated by market data, for example, matrix pricing.
· Level 3 — Financial assets and liabilities for which values are based on prices or valuation techniques that require inputs that are both unobservable and significant to the overall fair value measurement. Level 3 inputs include the following:
· Quotes from brokers or other external sources that are not considered binding;
· Quotes from brokers or other external sources where it cannot be determined that market participants would in fact transact for the asset or liability at the quoted price;
· Quotes and other information from brokers or other external sources where the inputs are not deemed observable.
We are responsible for the valuation process and as part of this process may use data from outside sources in establishing fair value. We perform due diligence to understand the inputs used or how the data was calculated or derived. We also corroborate the reasonableness of external inputs in the valuation process.
The carrying amounts reported in the consolidated statement of financial condition approximate fair value for the following financial instruments: cash on hand, interest-earning deposits in other institutions, federal funds sold and other short-term investments, accrued interest receivable, accrued interest payable, and marketable securities available-for-sale.
Marketable Securities
Where available, market values are based on quoted market prices, dealer quotes, and prices obtained from independent pricing services.
Debt securities — available for sale - Generally, debt securities are valued using pricing for similar securities, recently executed transactions and other pricing models utilizing observable inputs. The valuation for most debt securities is classified as Level 2. Securities within Level 2 include corporate bonds, municipal bonds, mortgage-backed securities and US government obligations. Certain corporate debt securities do not have an active market and as such the broker pricing received uses alternative methods. The fair value of these corporate debt securities is determined by using a discounted cash flow model using market assumptions, which generally include cash flow, collateral and other market assumptions. As such, these securities are included herein as Level 3 assets.
Equity securities — available for sale - Level 1 securities include publicly traded securities valued using quoted market prices. We consider the financial condition of the issuer to determine if the securities have indicators of impairment.
Debt securities — held to maturity - The fair value of debt securities held to maturity is determined in the same manner as debt securities available for sale.
Loans Receivable
Loans with comparable characteristics including collateral and re-pricing structures are segregated for valuation purposes. Characteristics include remaining term, coupon interest, and estimated prepayment speeds. Delinquent loans are separately evaluated given the impact delinquency has on the projected future cash flow of the loan and the approximate discount or market rate. Each loan pool is separately
41
valued utilizing a discounted cash flow analysis. Projected monthly cash flows are discounted to present value using a market rate for comparable loans, which is not considered an exit price.
Federal Home Loan Bank (“FHLB”) Stock
Due to the restrictions placed on the transferability of FHLB stock it is not practical to determine the fair value.
Deposit Liabilities
The estimated fair value of deposits with no stated maturity, which includes demand deposits, money market, and other savings accounts, is the amount payable on demand. Although market premiums paid for depository institutions reflect an additional value for these low-cost deposits, adjusting fair value for any value expected to be derived from retaining those deposits for a future period of time or from the benefit that results from the ability to fund interest-earning assets with these deposit liabilities is prohibited. The fair value estimates of deposit liabilities do not include the benefit that results from the low-cost funding provided by these deposits compared to the cost of borrowing funds in the market. Fair values for time deposits are estimated using a discounted cash flow calculation that applies contractual cost currently being offered in the existing portfolio to current market rates being offered locally for deposits of similar remaining maturities. The valuation adjustment for the portfolio consists of the present value of the difference of these two cash flows, discounted at the assumed market rate of the corresponding maturity.
Borrowed Funds
Fixed rate advances are valued by comparing their contractual cost to the prevailing market cost. The carrying amount of collateralized borrowings approximates the fair value.
Junior Subordinated Debentures
The fair value of junior subordinated debentures is calculated using the discounted cash flows at the prevailing rate of interest.
Cash flow hedges — Interest rate swap agreements (“swaps”)
The fair value of the swaps is the amount we would expect to pay to terminate the agreements and is based upon the present value of the expected future cash flows using the LIBOR swap curve, the basis for the underlying interest rate.
Off-Balance Sheet Financial Instruments
These financial instruments generally are not sold or traded, and estimated fair values are not readily available. However, the fair value of commitments to extend credit and standby letters of credit is estimated using the fees currently charged to enter into similar agreements. Commitments to extend credit are generally short-term in nature and, if drawn upon, are issued under current market terms. At September 30, 2015 and December 31, 2014, there was no significant unrealized appreciation or depreciation on these financial instruments.
42
The following table sets forth the carrying amount and estimated fair value of our financial instruments included in the consolidated statement of financial condition at September 30, 2015 (in thousands):
Carrying
Estimated
amount
fair value
Level 1
Level 2
Level 3
Financial assets:
Securities available-for-sale
965,815
8,997
Securities held-to-maturity
Loans receivable, net
7,485,278
FHLB Stock
Total financial assets
8,272,880
8,668,304
119,588
1,014,326
7,494,275
Financial liabilities:
Savings and checking deposits
4,882,669
1,777,847
957,883
132,862
825,021
Junior subordinated debentures
124,789
Cash flow hedges - swaps
5,385
Total financial liabilities
7,698,494
7,750,389
5,017,347
2,727,657
The following table sets forth the carrying amount and estimated fair value of our financial instruments included in the consolidated statement of financial condition at December 31, 2014 (in thousands):
898,617
10,597
6,240,079
7,231,061
7,551,364
262,486
1,004,909
6,250,676
Savings and checking accounts
4,154,228
1,498,539
919,612
162,714
756,898
109,435
6,273
6,630,954
6,689,023
4,317,878
2,364,872
43
Fair value estimates are made at a point-in-time, based on relevant market data and information about the instrument. The methods and assumptions detailed above were used in estimating the fair value of financial instruments at both September 30, 2015 and December 31, 2014. There were no transfers of financial instruments between Level 1 and Level 2 during the nine months ended September 30, 2015.
The following table represents assets and liabilities measured at fair value on a recurring basis at September 30, 2015 (in thousands):
assets at
Debt securities:
Government sponsored enterprises
354,238
States and political subdivisions
92,423
Corporate
7,704
Total debt securities
454,378
463,375
GNMA
28,471
FNMA
105,574
FHLMC
53,644
Non-agency
613
Collateralized mortgage obligations:
11,586
135,572
164,547
SBA
8,488
Total mortgage-backed securities
Interest rate swaps
(5,385
Total assets and liabilities
960,430
971,292
The following table represents assets and liabilities measured at fair value on a recurring basis at December 31, 2014 (in thousands):
333,505
70,145
9,830
413,505
424,102
29,216
73,497
42,119
643
8,329
139,150
178,698
10,052
(6,273
892,344
906,098
The table below presents a reconciliation of all assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) for the periods indicated (in thousands):
September 30, 2015
September 30, 2014
Beginning balance
9,223
12,251
Total net realized investment gains/ (losses) and net change in unrealized appreciation/ (depreciation):
Included in net income as OTTI
Included in other comprehensive income
(226
(1,677
(1,600
(1,385
Purchases
Sales
Transfers in to Level 3
Transfers out of Level 3
Ending balance
10,866
Certain assets and liabilities are measured at fair value on a nonrecurring basis after initial recognition such as loans measured for impairment and real estate owned. The following table represents the fair value measurement for nonrecurring assets at September 30, 2015 (in thousands):
Loans measured for impairment
44,673
Real estate owned
55,064
46
Certain assets and liabilities are measured at fair value on a nonrecurring basis after initial recognition such as loans measured for impairment and real estate owned. The following table represents the fair value measurement for nonrecurring assets at December 31, 2014 (in thousands):
54,729
71,488
Impaired loans — A loan is considered to be impaired as described in the Overview of Critical Accounting Policies Involving Estimates, Allowance for Loan Losses section. We classify loans individually evaluated for impairment that require a specific reserve as nonrecurring Level 3.
Real Estate Owned — Real estate owned is comprised of property acquired through foreclosure or voluntarily conveyed by delinquent borrowers. These assets are recorded on the date acquired at the lower of the related loan balance or fair value, less estimated disposition costs, with the fair value being determined by appraisal. Subsequently, foreclosed assets are valued at the lower of the amount recorded at acquisition date or fair value, less estimated disposition costs. We classify all real estate owned as nonrecurring Level 3.
The table presents additional quantitative information about assets measured at fair value on a recurring and nonrecurring basis and for which we have utilized Level 3 inputs to determine fair value at September 30, 2015 (dollar amounts in thousands):
Valuation techniques
Significant unobservable inputs
Range (weighted average)
Debt securities
Discounted cash
Discount margin
0.35% to 2.10% (0.69%)
flow
Default rates
1.00%
Prepayment speeds
1.00% annually
Appraisal
Estimated cost to sell
10%
value (1)
Discount rate
3.75% to 6.50% (5.13%)
(1) Fair value is generally determined through independent appraisals of the underlying collateral, which may include level 3 inputs that are not identifiable, or by using the discounted cash flow method if the loan is not collateral dependent.
The significant unobservable inputs used in the fair value measurement of our debt securities are discount margins, default rates and prepayment speeds. Significant increases in any of those rates would result in a significantly lower fair value measurement.
(11) Guaranteed Preferred Beneficial Interests in the Company’s Junior Subordinated Deferrable Interest Debentures (Trust Preferred Securities) and Interest Rate Swaps
We have two statutory business trusts: Northwest Bancorp Capital Trust III, a Delaware statutory business trust and Northwest Bancorp Statutory Trust IV, a Connecticut statutory business trust (“Trusts”). These trusts exist solely to issue preferred securities to third parties for cash, issue common securities to the Company in exchange for capitalization of the Trusts, invest the proceeds from the sale of the trust securities in an equivalent amount of debentures of the Company, and engage in other activities that are incidental to those previously listed.
Northwest Bancorp Capital Trust III (Trust III) issued 50,000 cumulative trust preferred securities in a private transaction to a pooled investment vehicle on December 5, 2006 (liquidation value of $1,000 per preferred security or $50,000,000) with a stated maturity of December 30, 2035. These securities carry a floating interest rate, which is reset quarterly, equal to three-month LIBOR plus 1.38%. Northwest Bancorp Statutory Trust IV (Trust IV) issued 50,000 cumulative trust preferred securities in a private transaction to a pooled investment vehicle on December 15, 2006 (liquidation value of $1,000 per preferred security or $50,000,000) with a stated maturity of December 15, 2035. These securities carry a floating interest rate, which is reset quarterly, equal to three-month LIBOR plus 1.38%. The Trusts have invested the proceeds of the offerings in junior subordinated deferrable interest debentures issued by the Company. The structure of these debentures mirrors the structure of the trust-preferred securities. Trust III holds $51,547,000 of the Company’s junior subordinated debentures and Trust IV holds $51,547,000 of the Company’s junior subordinated debentures. These subordinated debentures are the sole assets of the Trusts. Cash distributions on the trust securities are made on a quarterly basis to the extent interest on the debentures is received by the Trusts. We have the right to defer payment of interest on the subordinated debentures at any time, or from time-to-time, for periods not exceeding five years. If interest payments on the subordinated debentures are deferred, the distributions on the trust preferred securities are also deferred. Interest on the subordinated debentures and distributions on the trust securities is cumulative. To date, there have been no interest deferrals. Our obligation constitutes a full, irrevocable, and unconditional guarantee on a subordinated basis of the obligations of the trust under the preferred securities.
As a result of the LNB acquisition we acquired two statutory business trusts: LNB Trust I and LNB Trust II; both are Delaware statutory business trusts. At September 30, 2015 LNB Trust I had 7,875 cumulative trust preferred securities outstanding (liquidation value of $1,000 per preferred security or $7,875,000) with a stated maturity of June 15, 2037. These securities carry a floating interest rate, which is reset quarterly, equal to three-month LIBOR plus 1.48%. At September 30, 2015 LNB Trust II had 7,875 cumulative trust preferred securities outstanding (liquidation value of $1,000 per preferred security or $7,875,000) with a stated maturity of June 15, 2037. These securities carry a fixed interest rate of 6.64% through June 15, 2017, then becomes a floating interest rate, which is reset quarterly, equal to three-month LIBOR plus 1.48%. The Trusts have invested the proceeds of the offerings in junior subordinated deferrable interest debentures acquired by the Company. The structure of these debentures mirrors the structure of the trust-preferred securities. LNB Trust I holds $8,119,000 of junior subordinated debentures and LNB Trust II holds $8,119,000 of junior subordinated debentures. These subordinated debentures are the sole assets of the Trusts. Cash distributions on the trust securities are made on a quarterly basis to the extent interest on the debentures is received by the Trusts.
We are currently a counterparty to three interest rate swap agreements (swaps), designating the swaps as cash flow hedges. The swaps are intended to protect against the variability of cash flows associated with Trust III and Trust IV. The first swap modifies the re-pricing characteristics of Trust III, wherein for a ten year period expiring in September 2018, the Company receives interest of three-month LIBOR from a counterparty and pays a fixed rate of 4.61% to the same counterparty calculated on a notional amount of $25.0 million. The other two swaps modify the re-pricing characteristics of Trust IV,
48
wherein (i) for a seven year period expiring in December 2015, the Company receives interest of three-month LIBOR from a counterparty and pays a fixed rate of 3.85% to the same counterparty calculated on a notional amount of $25.0 million and (ii) for a ten year period expiring in December 2018, the Company receives interest of three-month LIBOR from a counterparty and pays a fixed rate of 4.09% to the same counterparty calculated on a notional amount of $25.0 million. The swap agreements were entered into with a counterparty that met our credit standards and the agreements contain collateral provisions protecting the at-risk party. We believe that the credit risk inherent in the contracts is not significant. At September 30, 2015, $7.5 million of cash was pledged as collateral to the counterparty.
At September 30, 2015, the fair value of the swap agreements was $(5.4) million and was the amount we would have expected to pay if the contracts were terminated. There was no material hedge ineffectiveness for these swaps.
The following table shows liability derivatives, included in other liabilities, at September 30, 2015 and December 31, 2014 (in thousands):
Notional amount
75,000
Collateral posted
5,705
6,805
(12) Legal Proceedings
We establish accruals for legal proceedings when information related to the loss contingencies represented by those matters indicates both that a loss is probable and that the amount of loss can be reasonably estimated. As of September 30, 2015 we have not accrued for any legal proceedings based on our analysis of currently available information which is subject to significant judgment and a variety of assumptions and uncertainties. Any such accruals are adjusted thereafter as appropriate to reflect changes in circumstances. Due to the inherent subjectivity of assessments and unpredictability of outcomes of legal proceedings, any amounts accrued may not represent the ultimate loss to us from legal proceedings.
(13) Changes in Accumulated Other Comprehensive Income
The following table shows the changes in accumulated other comprehensive income by component for the periods indicated (in thousands):
Unrealized gains and (losses) on securities available- for-sale
Change in fair value of interest rate swaps
Change in defined benefit pension plans
Balance as of June 30, 2015
4,278
(3,546
(23,315
Other comprehensive income before reclassification adjustments
2,424
Amounts reclassified from accumulated other comprehensive income (1), (2)
Net other comprehensive loss
Balance as of September 30, 2015
6,537
(3,501
(23,096
Balance as of June 30, 2014
3,378
(4,875
(3,719
(890
Amounts reclassified from accumulated other comprehensive income (3), (4)
(557
Net other comprehensive income
Balance as of September 30, 2014
1,389
(4,195
(3,857
(1) Consists of realized gains on securities (gain on sales of investments, net) of $197, net of tax (income tax expense) of $(77).
(2) Consists of amortization of prior service cost (compensation and employee benefits) of $581 and amortization of net loss (compensation and employee benefits) of $(940), net of tax (income tax expense) of $140. See note 8.
(3) Consists of realized gains on securities (gain on sales of investments, net) of $687, net of tax (income tax expense) of $(268).
(4) Consists of amortization of prior service cost (compensation and employee benefits) of $581 and amortization of net loss (compensation and employee benefits) of $(369), net of tax (income tax expense) of $(74). See note 8.
50
Balance as of December 31, 2014
3,461
(4,078
(23,753
190
Balance as of December 31, 2013
(3,233
(5,224
(3,443
8,178
(2,941
(1) Consists of realized gains on securities (gain on sales of investments, net) of $766, net of tax (income tax expense) of $(299).
(2) Consists of amortization of prior service cost (compensation and employee benefits) of $1,743 and amortization of net loss (compensation and employee benefits) of $(2,820), net of tax (income tax expense) of $420. See note 8.
(3) Consists of realized gains on securities (gain on sales of investments, net) of $4,143, net of tax (income tax expense) of $(1,616).
(4) Consists of amortization of prior service cost (compensation and employee benefits) of $1,743 and amortization of net loss (compensation and employee benefits) of $(1,106), net of tax (income tax expense) of $(223). See note 8.
ITEM 2. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Forward-Looking Statements:
In addition to historical information, this document may contain certain forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995. These forward-looking statements contained herein are subject to certain risks and uncertainties that could cause actual results to differ materially from those expressed or implied in the forward-looking statements. Readers are cautioned not to place undue reliance on these forward-looking statements, as they reflect management’s analysis only as of the date of this report. We have no obligation to revise or update these forward-looking statements to reflect events or circumstances that arise after the date of this report.
Important factors that might cause such a difference include, but are not limited to:
· changes in laws, government regulations or policies affecting financial institutions, including regulatory fees and capital requirements;
· general economic conditions, either nationally or in our market areas, that are different than expected;
· competition among other financial institutions and non-depository entities;
· inflation and changes in the interest rate environment that impact our margins or the fair value of financial instruments;
· changes in the securities markets;
· cyber security concerns, including an interruption or breach in the security of our information systems;
· our ability to enter new markets successfully, capitalize on growth opportunities and our ability to successfully integrate acquired entities;
· managing our internal growth and acquisitions, particularly our recent acquisition of LNB Bancorp;
· the possibility that the anticipated benefits from the recent LNB acquisition and any other future acquisitions cannot be fully realized in a timely manner or at all, or that integrating the operations of LNB or future acquired operations will be more difficult, disruptive or costly than anticipated;
· changes in consumer spending, borrowing and savings habits;
· our ability to continue to increase and manage our business and personal loans;
· possible impairments of securities held by us, including those issued by government entities and government sponsored enterprises;
· the impact of the economy on our loan portfolio (including cash flow and collateral values), investment portfolio, customers and capital market activities;
· the impact of the current governmental effort to restructure the U.S. financial and regulatory system;
· changes in the financial performance and/or condition of our borrowers; and
· the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies, as well as the Securities and Exchange Commission, the Public Company Accounting Oversight Board, the Financial Accounting Standards Board and other accounting standard setters.
Overview of Critical Accounting Policies Involving Estimates
Please refer to Note 1 of the Notes to Consolidated Financial Statements in Item 8 of Part II of our 2014 Annual Report on Form 10-K.
Acquired loans are recorded at fair value with no carryover of the related allowance for loan losses. Determining the fair value of the loans involves estimating the amount and timing of principal and interest cash flows expected to be collected on the loans and discounting those cash flows at a market rate of interest.
The excess of cash flows expected at acquisition over the estimated fair value is referred to as the accretable discount and is recognized into interest income over the remaining life of the loan. The difference between contractually required payments at acquisition and the cash flows expected to be collected at acquisition is referred to as the nonaccretable discount. The nonaccretable discount represents estimated future credit losses expected to be incurred over the life of the loan. Subsequent decreases to the expected cash flows require us to evaluate the need for an allowance for loan losses. Subsequent improvements in expected cash flows result in the reversal of a corresponding amount of the nonaccretable discount which we then reclassify as accretable discount that is recognized into interest income over the remaining life of the loan using the interest method. Our evaluation of the amount of future cash flows that we expect to collect is performed in a similar manner as that used to determine our allowance for loan losses. Charge-offs of the principal amount on acquired loans would be first applied to the nonaccretable discount portion of the fair value adjustment.
Acquired loans that met the criteria for nonaccrual of interest prior to the acquisition may be considered performing upon acquisition, regardless of whether the customer is contractually delinquent, if we can reasonably estimate the timing and amount of the expected cash flows on such loans and if we expect to fully collect the new carrying value of the loans. As such, we may no longer consider the loan to be nonaccrual or nonperforming and may accrue interest on these loans, including the impact of any accretable discount. We have determined that we can reasonably estimate future cash flows on our current portfolio of acquired loans that are past due 90 days or more and on which we are accruing interest and we expect to fully collect the carrying value of the loans.
Executive Summary and Comparison of Financial Condition
On August 14, 2015, we acquired all of the outstanding common shares of LNB, the parent company of The Lorain National Bank, for total consideration of $181.0 million, and thereby acquired LNB’s 21 branch locations in the counties of Lorain, Cuyahoga and Summit in northeastern Ohio. As a result, we acquired assets with a fair value of $1.194 billion, including investment securities with a fair value of $184.2 million, loans with a fair value of $928.1 million, and we assumed deposits of $1.012 billion and borrowings of $63.2 million. Under the terms of the merger agreement LNB stockholders received 7,056,074 shares of Company common stock valued at $90.6 million and cash consideration of $90.4 million.
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The following table shows certain assets and liabilities at the dates indicated for comparative purposes (in thousands):
LNB acquired,
Legacy
Balance at
at fair value
balance at
August 14,
U.S. government agencies and sponsored enterprises
354,251
41,330
312,921
333,530
33,455
58,968
66,653
61,920
42,731
185,041
792,508
19,412
66,752
Total marketable securities
1,023,976
839,807
1,016,066
48,128
2,664,409
153,986
1,049,204
Other consumer loams
222,708
272,006
424,822
3,985,619
429,039
1,901,825
74,240
336,068
503,279
2,237,893
6,223,512
Liabilities
Noninterest-bearing demand deposits
142,087
985,777
Interest-bearing demand deposits
168,414
929,555
142,878
1,135,000
127,532
1,251,426
435,646
1,326,427
1,016,557
5,628,185
FHLB term advances
700,356
62,500
637,856
725,395
FHLB overnight advances
103,000
Collateralized borrowings
123,863
669
123,194
Total borrowed funds
63,169
864,050
Total assets at September 30, 2015 were $8.935 billion, an increase of $1.160 billion, or 14.9%, from $7.775 billion at December 31, 2014. This increase in assets was due primarily to the addition of $1.194 billion, at fair value, of assets related to the LNB acquisition. Additionally, originated net loans receivable increased by $240.6 million during 2015. Partially offsetting these increases were decreases in interest-earning deposits in other financial institutions and marketable securities held-to-maturity of
$149.5 million and $56.4 million, respectively, as these funds were used in the LNB acquisition and to payoff FHLB term advances.
Total loans receivable increased by $1.162 billion, or 19.4%, to $7.152 billion at September 30, 2015, from $5.990 billion at December 31, 2014. This increase was due primarily to the addition of $928.1 million, at fair value, of loans related to the LNB acquisition. Loans funded during the nine months ended September 30, 2015, of $1.678 billion exceeded loan maturities, principal repayments and mortgage loan sales of $1.432 billion, exclusive of acquired loans. Our originated business banking loan portfolio increased by $78.3 million, or 3.6%, to $2.238 billion at September 30, 2015 from $2.160 billion at December 31, 2014, as we continue to emphasize the origination of commercial and commercial real estate loans. Our originated personal banking loan portfolio increased by $155.3 million, or 11.9%, to $3.986 billion at September 30, 2015 from $3.830 billion at December 31, 2014. This increase is primarily attributable to an increase in residential mortgage loans of $143.0 million as a result of the success of our wholesale lending division and improvements made to the retail application and underwriting processes which we implemented in the second half of last year.
Total deposits increased by $1.012 billion, or 18.0%, to $6.645 billion at September 30, 2015 from $5.633 billion at December 31, 2014, due to the addition of $1.017 billion of deposits, at fair value, related to the LNB acquisition. The following amounts exclude acquired deposits, these legacy deposits, decreased by $4.4 million. Noninterest-bearing demand deposits increased by $94.6 million, or 10.6%, to $985.8 million at September 30, 2015 from $891.2 million at December 31, 2014. Interest-bearing demand deposits increased by $55.0 million, or 6.3%, to $929.6 million at September 30, 2015 from $874.6 million at December 31, 2014. Savings deposits increased by $42.2 million, or 3.5%, to $1.251 billion at September 30, 2015 from $1.209 billion at December 31, 2014. Partially offsetting these increases was a decrease in time deposits of $151.9 million, or 10.3%, to $1.326 billion at September 30, 2015 from $1.478 billion at December 31, 2014. Additionally, money market deposit accounts decreased by $44.1 million, or 3.7%, to $1.135 billion at September 30, 2015 from $1.179 billion at December 31, 2014. We believe the increase in more liquid deposit accounts is due primarily to customers’ continued reluctance to lock in time deposits at these historically low rates. In addition, our checking account marketing campaign has been successful in attracting new customers.
Borrowed funds increased by $39.1 million, or 4.4%, to $927.2 million at September 30, 2015, from $888.1 million at December 31, 2014. During the first quarter of 2015 we borrowed $85.0 million from the FHLB with an average maturity of 8.2 years and an average interest rate of 2.40%. Our intention was to lock in long-term, low-cost borrowings before market interest rates increase in order to fund the FHLB advances that mature during 2015. Additionally, at September 30, 2015 we had $103.0 million outstanding in FHLB overnight advances that were used to fund loan growth. Partially offsetting this increase was a decrease of $38.8 million in collateralized borrowings and the maturity of $110.0 million of FHLB advances, add the payoff of $62.5 million of acquired LNB FHLB advances.
Total shareholders’ equity at September 30, 2015 was $1.161 billion, or $11.42 per share, an increase of $98.7 million, or 9.3%, from $1.063 billion, or $11.22 per share, at December 31, 2014. This increase in equity was primarily the result of the issuance of 7,056,704 shares of our common stock at $12.84 per share for the LNB acquisition. Equity also increased due to net income during the nine months ended September 30, 2015 of $44.3 million and a decrease in accumulated other comprehensive loss of $4.3 million due to an improvement in the net unrealized gain of the investment securities portfolio. Partially offsetting these increases was the payment of cash dividends of $38.9 million and the repurchase of 645,300 shares of common stock for $7.8 million during the nine months ended September 30, 2015.
Regulatory Capital
Financial institutions and their holding companies are subject to various regulatory capital requirements. Failure to meet minimum capital requirements can initiate certain mandatory, and possibly additional discretionary actions by the regulators that, if undertaken, could have a direct material effect on a company’s financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, financial institutions must meet specific capital guidelines that involve quantitative measures of its assets, liabilities and certain off-balance sheet items as calculated under regulatory accounting guidelines. Capital amounts and classifications are also subject to qualitative judgments made by the regulators about components, risk-weighting and other factors.
In July 2013, the FDIC and the other federal regulatory agencies issued a final rule that revised their leverage and risk-based capital requirements and the method for calculating risk-weighted assets to make them consistent with agreements that were reached by the Basel Committee on Banking Supervision and certain provisions of the Dodd-Frank Act. Among other things, the rule establishes a new Common Equity Tier 1 (“CET1”) minimum capital requirement (4.5% of risk-weighted assets) and increases the minimum Tier 1 capital to risk-based assets requirement (from 4% to 6% of risk-weighted assets). The rule limits an organization’s capital distributions and certain discretionary bonus payments if the organization does not hold a “capital conservation buffer” consisting of 2.5% of CET1 capital to risk-weighted assets in addition to the amount necessary to meet its minimum risk-based capital requirements.
The final rule became effective for Northwest on January 1, 2015. The capital conservation buffer requirement will be phased in beginning January 1, 2016 and ending January 1, 2019, when the full capital conservation buffer requirement will be effective. The final rule also officially implements these consolidated capital requirements for savings and loan holding companies, such as the Company, effective January 1, 2015.
Quantitative measures, established by regulation to ensure capital adequacy, require financial institutions to maintain minimum amounts and ratios (set forth in the table below) of Total, CET1 and Tier 1 capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier 1 capital to average assets (as defined). Capital ratios are presented in the tables below. Dollar amounts in the accompanying tables are in thousands.
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At September 30, 2015
Minimum capital
Well capitalized
Actual
requirements
Ratio
Total capital (to risk weighted assts)
Northwest Bancshares, Inc.
1,104,713
16.81
525,739
8.00
657,173
10.00
Northwest Bank
987,513
15.05
524,760
655,950
Tier 1 capital (to risk weighted assets)
1,043,961
15.89
394,304
6.00
926,960
14.13
393,570
CET1 capital (to risk weighted assets)
928,211
14.12
295,728
4.50
427,163
6.50
295,177
426,367
Tier 1 capital (leverage) (to average assets)
12.80
326,181
4.00
407,726
5.00
11.34
326,947
408,683
At December 31, 2014
requirements (1)
1,062,802
20.29
945,652
18.09
418,104
522,629
Tier I capital (to risk weighted assets)
997,049
19.04
880,290
16.84
209,052
313,578
Tier I capital (leverage) (to average assets)
11.55
304,883
381,104
(1) The Federal Reserve did not have formal capital requirements established for savings and loan holding companies at December 31, 2014.
Liquidity
We are required to maintain a sufficient level of liquid assets, as determined by management and reviewed for adequacy by the FDIC and the Pennsylvania Department of Banking during their regular examinations. Northwest monitors its liquidity position primarily using the ratio of unencumbered available-for-sale liquid assets as a percentage of deposits and borrowings (“liquidity ratio”). Northwest’s liquidity ratio at September 30, 2015 was 9.8%. We adjust liquidity levels in order to meet funding needs for deposit outflows, payment of real estate taxes and insurance on mortgage loan escrow accounts, repayment of borrowings and loan commitments. At September 30, 2015 Northwest had $1.853 billion of additional borrowing capacity available with the FHLB, including $150.0 million on an overnight line of credit with $47.0 million of availability, as well as $154.1 million of borrowing capacity available with the Federal Reserve Bank and $80.0 million with two correspondent banks.
Dividends
We paid $13.0 million and $12.1 million in cash dividends during the quarters ended September 30, 2015 and 2014, respectively, and $38.9 million and $137.9 million for the nine months ended September
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30, 2015 and 2014, respectively. The common stock dividend payout ratio (dividends declared per share divided by net income per share) was 107.7% and 68.4% for the quarters ended September 30, 2015 and 2014, respectively, on regular dividends of $0.14 per share for the quarter ended September 30, 2015 and on regular dividends of $0.13 per share for the quarter ended September 30, 2014. The common stock dividend payout ratio was 87.5% and 310.4% for the nine months ended September 30, 2015 and 2014, respectively, on regular dividends of $0.42 per share for the nine months ended September 30, 2015 and on regular dividends of $0.39 per share and special dividends of $1.10 per share for the nine months ended September 30, 2014. On October 14, 2015, the Board of Directors declared a dividend of $0.14 per share payable on November 19, 2015 to shareholders of record as of November 5, 2015. This represents the 84th consecutive quarter we have paid a cash dividend.
Nonperforming Assets
The following table sets forth information with respect to nonperforming assets. Nonaccrual loans are those loans on which the accrual of interest has ceased. Generally, when a loan is 90 days past due, we fully reverse all accrued interest thereon and cease to accrue interest thereafter. Exceptions are made for loans that have contractually matured, are in the process of being modified to extend the maturity date and are otherwise current as to principal and interest, and well secured loans that are in process of collection. Loans may also be placed on nonaccrual before they reach 90 days past due if conditions exist that call into question our ability to collect all contractual interest. Other nonperforming assets represent property acquired through foreclosure or repossession. Foreclosed property is carried at the lower of its fair value less estimated costs to sell, or the principal balance of the related loan.
(Dollars in thousands)
Nonaccrual loans 90 days or more delinquent:
4,545
10,215
4,359
Total loans 90 days or more delinquent
36,826
Total real estate owned (REO)
Total nonaccrual loans 90 days or more delinquent and REO
47,217
58,085
Total nonaccrual loans 90 days or more delinquent to net loans receivable
0.61
0.70
Total nonaccrual loans 90 days or more delinquent and REO to total assets
0.60
0.75
Nonperforming assets:
Nonaccrual loans - loans 90 days or more delinquent
Nonaccrual loans - loans less than 90 days delinquent
Loans 90 days or more past maturity and still accruing
Total nonperforming loans
68,584
80,043
Total nonperforming assets
78,975
96,802
Nonaccrual troubled debt restructured loans (1)
24,459
Accruing troubled debt restructured loans
37,329
Total troubled debt restructured loans
(1) - Included in nonaccurual loans above.
A loan is considered to be impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement including both contractual principal and interest payments. The amount of impairment is required to be measured using one of three methods: (1) the present value of expected future cash flows discounted at the loan’s effective interest rate; (2) the loan’s observable market price; or (3) the fair value of collateral if the loan is collateral dependent. If the measure of the impaired loan is less than the recorded investment
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in the loan, a specific allowance is allocated for the impairment. Impaired loans at September 30, 2015 and December 31, 2014 were $110.5 million and $137.2 million, respectively.
Allowance for Loan Losses
Our Board of Directors has adopted an “Allowance for Loan and Lease Losses” (“ALL”) policy designed to provide management with a systematic methodology for determining and documenting the ALL each reporting period. This methodology was developed to provide a consistent process and review procedure to ensure that the ALL is in conformity with GAAP, our policies and procedures and other supervisory and regulatory guidelines.
On an ongoing basis, the Credit Administration department, as well as loan officers, branch managers and department heads, review and monitor the loan portfolio for problem loans. This portfolio monitoring includes a review of the monthly delinquency reports as well as historical comparisons and trend analysis. In addition, a meeting is held every quarter with each region to monitor the performance and status of loans on an internal watch list. On an on-going basis the loan officer in conjunction with a portfolio manager grades or classifies problem loans or potential problem loans based upon their knowledge of the lending relationship and other information previously accumulated. This rating is also reviewed independently by our Loan Review department on a periodic basis. Our loan grading system for problem loans is consistent with industry regulatory guidelines which classify loans as “substandard”, “doubtful” or “loss.” Loans that do not expose us to risk sufficient to warrant classification in one of the previous categories, but which possess some weaknesses, are designated as “special mention”. A “substandard” loan is any loan that is 90 days or more contractually delinquent or is inadequately protected by the current net worth and paying capacity of the obligor or of the collateral pledged, if any. Loans classified as “doubtful” have all the weaknesses inherent in those classified as “substandard” with the added characteristic that the weaknesses present make collection or liquidation in full, on the basis of currently existing facts, conditions or values, highly questionable and improbable. Loans classified as “loss” are considered uncollectible so that their continuance as assets without the establishment of a specific loss allowance is not warranted.
Credit relationships that have been classified as substandard or doubtful and are greater than or equal to $1.0 million are reviewed by the Credit Administration department for possible impairment. A loan is considered impaired when, based on current information and events, it is probable that we will be unable to collect all amounts due according to the contractual terms of the loan agreement, including both contractual principal and interest payments.
If an individual loan is deemed to be impaired, the Credit Administration department determines the proper measure of impairment for each loan based on one of three methods: (1) the present value of expected future cash flows discounted at the loan’s effective interest rate; (2) the loan’s observable market price; or (3) the fair value of the collateral if the loan is collateral dependent, less costs of sale or disposal. If the measurement of the impaired loan is more or less than the recorded investment in the loan, the Credit Administration department adjusts the specific allowance associated with that individual loan accordingly.
If a substandard or doubtful loan is not considered individually for impairment, it is grouped with other loans that possess common characteristics for impairment evaluation and analysis. This segmentation is accomplished by grouping loans of similar product types, risk characteristics and industry concentration into homogeneous pools. Historical loss ratios are analyzed and adjusted based on delinquency trends as well as the current economic, political, regulatory, and interest rate environment and used to estimate the current measure of impairment.
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The individual impairment measures along with the estimated loss for each homogeneous pool are consolidated into one summary document. This summary schedule along with the support documentation used to establish this schedule is presented to management’s Credit Committee on a quarterly basis. The Credit Committee reviews the processes and documentation presented, reviews the concentration of credit by industry and customer, lending products and activity, competition and collateral values, as well as economic conditions in general and in each of our market areas. Based on this review and discussion, the appropriate amount of ALL is estimated and any adjustments to reconcile the actual ALL with this estimate are determined. In addition, the Credit Committee considers if any changes to the methodology are needed. The Credit Committee also reviews and discusses delinquency trends, nonperforming asset amounts and ALL levels and ratios compared to our peer group as well as state and national statistics. Similarly, following the Credit Committee’s review and approval, a review is performed by the Risk Management Committee of the Board of Directors on a quarterly basis.
In addition to the reviews by management’s Credit Committee and the Board of Directors’ Risk Management Committee, regulators from either the FDIC or the Pennsylvania Department of Banking perform an extensive review on an annual basis for the adequacy of the ALL and its conformity with regulatory guidelines and pronouncements. Any recommendations or enhancements from these independent parties are considered by management and the Credit Committee and implemented accordingly.
We acknowledge that this is a dynamic process and consists of factors, many of which are external and out of our control that can change often, rapidly and substantially. The adequacy of the ALL is based upon estimates using all the information previously discussed as well as current and known circumstances and events. There is no assurance that actual portfolio losses will not be substantially different than those that were estimated.
We utilize a structured methodology each period when analyzing the adequacy of the allowance for loan losses and the related provision for loan losses, which the Credit Committee assesses regularly for appropriateness. As part of the analysis as of September 30, 2015, we considered the economic conditions in our markets, such as unemployment and bankruptcy levels as well as changes in estimates of real estate collateral values. In addition, we considered the overall trends in asset quality, specific reserves already established for criticized loans, historical loss rates and collateral valuations. As a result of this analysis, the allowance for loan losses decreased by $7.0 million, or 10.3%, to $60.5 million, or 0.85% of total loans and 0.95% of originated loans, at September 30, 2015 from $67.5 million, or 1.13% of total loans, at December 31, 2014. This decrease is primarily attributable to the continued improvement in overall asset quality as classified loans and non-accrual loans delinquent 90 days or more decreased by $9.1 million and $16.4 million, respectively, compared to December 31, 2014. Additionally, we have enhanced the procedures for determining environmental reserves and the loss emergence period eliminating the unallocated portion of the allowance for loan losses. This resulted in the allocation of previously unallocated reserves.
We also consider how the levels of non-accrual loans and historical charge-offs have influenced the required amount of allowance for loan losses. Nonaccrual loans of $67.9 million or 0.95% of total loans receivable at September 30, 2015 decreased by $21.9 million, or 24.4%, from $79.8 million, or 1.33% of total loans receivable, at December 31, 2014. As a percentage of average loans, annualized net charge-offs decreased to 0.26% for the nine months ended September 30, 2015 compared to 0.41% for the year ended December 31, 2014 despite charge-offs in the current year totaling $8.1 million on two business banking loans.
At September 30, 2015, we expect to fully collect the carrying value of our acquired loans and have determined that we can reasonably estimate their future cash flows including those loans that are 90 days or more delinquent, therefore, no acquired loans were used to calculate the allowance for loan losses.
RESULTS OF OPERATIONS
Overview
The following table (in thousands) summarizes our results from operations on a GAAP basis and on an operating (non-GAAP) basis for the periods indicated. Our operating results exclude acquisition and integration expenses. We believe this non-GAAP presentation provides a meaningful comparison of our operational performance and facilitates a more effective evaluation and comparison of our results to assess performance in relation to our ongoing operations:
Opreating results (non-GAAP):
56,214
164,246
7,844
22,128
Net operating income (non-GAAP)
17,856
49,899
Diluted earnings per share (non-GAAP)
0.54
Reconciliation of net operating income to net income:
Nonoperating expenses, net of tax:
Acquisition and integration expenses
(4,984
(5,552
Net income (GAAP)
Diluted earnings per share (GAAP)
Comparison of Operating Results for the Quarters Ended September 30, 2015 and 2014
Net income for the quarter ended September 30, 2015 was $12.9 million, or $0.13 per diluted share, a decrease of $4.4 million, or 25.7%, from $17.3 million, or $0.19 per diluted share, for the quarter ended September 30, 2014. The decrease in net income resulted from an increase in noninterest expense of $10.4 million, or 19.6%. Partially offsetting this increase in noninterest expense were increases in net interest income of $4.6 million, or 7.4%, and noninterest income of $403,000, or 2.3% as well as decreases in income tax expense of $688,000, or 11.6% and provision for loan losses of $299,000, or 8.6%. Annualized, net income for the quarter ended September 30, 2015 represents returns on average equity and average assets of 4.54% and 0.59%, respectively, compared to 6.43% and 0.87% for the same quarter last year. A discussion of significant changes follows.
Interest Income
Total interest income increased by $4.6 million, or 6.0%, to $81.1 million for the quarter ended September 30, 2015 from $76.5 million for the quarter ended September 30, 2014. This increase is the result of increases in both the average balance and average yield on interest earning assets. The average balance of interest earning assets increased by $429.0 million, or 5.8%, to $7.768 billion for the quarter ended September 30, 2015 from $7.339 billion for the quarter ended September 30, 2014 while the average yield earned on interest earning assets increased to 4.19% for the quarter ended September 30, 2015 from 4.17% for the quarter ended September 30, 2014.
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Interest income on loans receivable increased by $5.3 million, or 7.4%, to $76.1 million for the quarter ended September 30, 2015 from $70.8 million for the quarter ended September 30, 2014. This increase in interest income on loans receivable can be attributed to an increase in the average balance of loans receivable which increased by $671.8 million, or 11.4%, to $6.585 billion for the quarter ended September 30, 2015 from $5.913 billion for the quarter ended September 30, 2014. This increase is due to the addition of $928.1 million of loan balances, at fair value, from the LNB acquisition, continued success in growing business banking relationships, and the retention of the residential mortgage loan originations. Partially offsetting this increase was a decline in the average yield which decreased to 4.63% for the quarter ended September 30, 2015 from 4.75% for the quarter ended September 30, 2014. The continued decline in average yield is due primarily to the historically low level of market interest rates, as well as the overall lower average yield from the LNB portfolio.
Interest income on mortgage-backed securities decreased by $274,000, or 10.9%, to $2.2 million for the quarter ended September 30, 2015 from $2.5 million for the quarter ended September 30, 2014. The average balance of mortgage-backed securities decreased by $70.7 million, or 12.4%, to $498.8 million for the quarter ended September 30, 2015 from $569.5 million for the quarter ended September 30, 2014 despite the addition of $109.4 million, at fair value, of mortgage-backed security balances from the LNB acquisition. The cash flows from our existing portfolio were redirected to fund the LNB acquisition, payoff FHLB advances, and to fund loan growth. Partially offsetting this decrease was an increase in the average yield on mortgage-backed securities to 1.79% for the quarter ended September 30, 2015 from 1.76% for the quarter ended September 30, 2014 due to the LNB portfolio having higher yields than our existing portfolio.
Interest income on investment securities decreased by $341,000, or 13.3%, to $2.2 million for the quarter ended September 30, 2015 from $2.6 million for the quarter ended September 30, 2014. This decrease is the result of decreases in both the average balance and average yield. The average yield of investment securities decreased to 1.84% for the quarter ended September 30, 2015 from 2.10% for the quarter ended September 30, 2014. This decrease is primarily the result of higher rate, tax-free, municipal securities maturing or being called. The average balance of investment securities decreased by $6.2 million, or 1.3%, to $482.7 million for the quarter ended September 30, 2015 from $488.9 million for the quarter ended September 30, 2014. This decrease is due primarily to the maturity or call of municipal and government agency securities which was partially offset by the addition of $74.7 million, at fair value, of municipal and government agency security balances from the LNB acquisition.
Regular dividends on FHLB stock decreased by just $1,000, or 0.2%, to $451,000 for the quarter ended September 30, 2015 from $452,000 for the quarter ended September 30, 2014. This decrease is attributable to a decrease in the average balance of $4.4 million, or 10.1%, to $39.6 million for the quarter ended September 30, 2015 from $44.0 million for the quarter ended September 30, 2014. This reduction in the average balance lead to an increase in the average yield to 4.52% for the quarter ended September 30, 2015 from 4.11% for the quarter ended September 30, 2014. FHLB dividends are included with taxable investment securities interest income in our Consolidated Statements of Income.
Interest income on interest-earning deposits decreased by $88,000, or 47.1%, to $99,000 for the quarter ended September 30, 2015 from $187,000 for the quarter ended September 30, 2014. This decrease is due to a decrease in the average balance of $161.4 million, or 49.9%, to $162.0 million for the quarter ended September 30, 2015 from $323.4 million for the quarter ended September 30, 2014, due to the utilization of cash for the LNB acquisition, to payoff FHLB advances, and to fund loan growth. The average yield on interest-earning deposits increased slightly to 0.24% for the quarter ended September 30, 2015 from 0.23% for the quarter ended September 30, 2014.
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Interest Expense
Interest expense decreased by $37,000, or 0.3%, to $14.2 million for the quarter ended September 30, 2015 from $14.2 million for the quarter ended September 30, 2014. This decrease in interest expense was due primarily to a decrease in the average cost of interest-bearing liabilities, which decreased to 0.91% for the quarter ended September 30, 2015 from 0.96% for the quarter ended September 30, 2014. The average cost of each funding source declined from the prior year in this low interest rate environment, excluding money market demand accounts which remained flat at 0.27%. Partially offsetting this decrease was an increase in the average balance of $311.8 million, or 5.3%, to $6.159 billion for the quarter ended September 30, 2015 from $5.847 billion for the quarter ended September 30, 2014. This increase was the result of the addition of $1.017 billion, at fair value, of deposit balances from the LNB acquisition. Additionally, the average balance of borrowed funds increased by $30.4 million, or 3.5%, for the quarter ended September 30, 2015. This increase is due to the utilization of $103.0 million of our FHLB overnight advance line, which was partially offset by the maturity of $60.0 million of term FHLB advances during the quarter ended September 30, 2015
Net Interest Income
Net interest income increased by $4.6 million, or 7.4%, to $66.9 million for the quarter ended September 30, 2015 from $62.3 million for the quarter ended September 30, 2014. This increase is attributable to the factors discussed above. Redirecting existing funds and cash flow from investment securities to fund the LNB acquisition which provided $1.140 billion of interest-earning assets improved our net interest spread and margin. Our net interest rate spread increased to 3.28% for the quarter ended September 30, 2015 from 3.21% for the quarter ended September 30, 2014 and our net interest margin increase to 3.45% for the quarter ended September 30, 2015 from 3.40% for the quarter ended September 30, 2014.
Provision for Loan Losses
The provision for loan losses decreased by $299,000, or 8.6%, to $3.2 million for the quarter ended September 30, 2015 from $3.5 million for the quarter ended September 30, 2014. This decrease is due primarily to continued improvements in overall asset quality as classified loans decreased by $9.2 million, or 4.4%, to $200.6 million at September 30, 2015 from $209.8 million at September 30, 2014. In addition, total nonaccrual loans decreased by $21.9 million, or 24.4%, to $67.9 million at September 30, 2015 from $89.8 million at September 30, 2014. Additionally, annualized net charge-offs for the quarter ended September 30, 2015 decreased to 0.10% of total loans compared to 0.22% for the quarter ended September 30, 2014.
In determining the amount of the current period provision, we considered current economic conditions, including unemployment levels and bankruptcy filings, and changes in real estate values and the impact of these factors on the quality of our loan portfolio and historical loss factors. We analyze the allowance for loan losses as described in the section entitled “Allowance for Loan Losses.” The provision that is recorded is sufficient, in our judgment, to bring this reserve to a level that reflects the losses inherent in our loan portfolio relative to loan mix, economic conditions and historical loss experience.
Noninterest Income
Noninterest income increased by $403,000, or 2.3%, to $18.1 million for the quarter ended September 30, 2015 from $17.7 million for the quarter ended September 30, 2014. The increase is primarily attributable to increases in insurance commission income and service charges and fees. Insurance commission income increased by $620,000, or 34.9%, to $2.4 million for the quarter ended September 30, 2015 from $1.8 million for the quarter ended September 30, 2014. This increase is due primarily to the acquisition of our third insurance agency over the past four years which closed on January 1, 2015. Service
charges and fees increased by $280,000, or 2.9%, to $9.9 million for the quarter ended September 30, 2015 from $9.7 million for the quarter ended September 30, 2014 due primarily to the successful growth of checking accounts, as well as the addition of 55,000 LNB customers. Partially offsetting these increases was a decrease in the gain on sale of investments of $592,000, or 69.5% to $260,000 for the quarter ended September 30, 2015 from $852,000 for the quarter ended September 30, 2014 due primarily to the sale of a portion of our bank stock portfolio for a significant gain in the prior year.
Noninterest Expense
Noninterest expense increased by $10.4 million, or 19.6%, to $63.8 million for the quarter ended September 30, 2015 from $53.4 million for the quarter ended September 30, 2014. This increase is primarily the result of increases in acquisition expense, compensation and employee benefits, and processing expenses. Expenses totaling $7.6 million were incurred during the quarter ended September 30, 2015 related to the LNB acquisition. Compensation and employee benefits increased by $3.0 million, or 10.5%, to $31.0 million for the quarter ended September 30, 2015 from $28.0 million for the quarter ended September 30, 2014. This increase is also primarily related to the LNB acquisition. Processing expenses increased by $1.4 million, or 20.9%, to $8.1 million for the quarter ended September 30, 2015 from $6.7 million for the quarter ended September 30, 2014, due primarily to technology upgrades including the implementation of software that provides our customers with enhanced security for online financial transactions and the additional maintenance costs since the LNB acquisition. Partially offsetting these increases was a decrease in other expenses of $1.5 million, or 43.6%, to $1.8 million for the quarter ended September 30, 2015 from $3.3 million for the quarter ended September 30, 2014 due primarily to the timing of charitable contributions and the related state tax credits which are delayed as a result of the current Pennsylvania budget impasse. Marketing expense also declined from the prior year by $520,000, or 23.5%, to $1.7 million for the quarter ended September 30, 2015 from $2.2 million for the quarter ended September 30, 2014 as a result of the timing of loan and checking account campaigns.
Income Taxes
The provision for income taxes decreased by $688,000, or 11.6%, to $5.2 million for the quarter ended September 30, 2015 from $5.9 million for the quarter ended September 30, 2014. This decrease in income tax expense is primarily the result of a decrease in pretax income of $5.1 million, or 22.1%, and a reduction in tax-free income from municipal bonds as well as a lower amount of Pennsylvania state tax credits anticipated for 2015. Partially offsetting this decrease was an increase in our effective tax rate for the quarter ended September 30, 2015 to 28.9% compared to 25.5% for the quarter ended September 30, 2014. We anticipate our effective tax rate to be between 30.0% and 32.0% for all of 2015.
Comparison of Operating Results for the Nine Months Ended September 30, 2015 and 2014
Net income for the nine months ended September 30, 2015 was $44.3 million, or $0.48 per diluted share, a decrease of $270,000, or 0.6%, from $44.6 million, or $0.48 per diluted share, for the nine months ended September 30, 2014. The decrease in net income resulted from increases in noninterest expense of $12.4 million, or 7.7%, and income tax expense of $3.7 million, or 23.5% and a decrease in noninterest income of $4.2 million, or 7.9%. Partially offsetting these factors was a decrease in provision for loan losses of $14.1 million, or 73.4% and an increase in net interest income of $5.9 million, or 3.1%. Annualized, net income for the nine months ended September 30, 2015 represents returns on average equity and average assets of 5.47% and 0.73%, respectively, compared to 5.44% and 0.75% for the same nine month period last year. A discussion of significant changes follows.
Total interest income increased by $5.1 million, or 2.2%, to $233.9 million for the nine months ended September 30, 2015 from $228.8 million for the nine months ended September 30, 2014. This increase is the result of increases in both the average balance and average yield earned on interest earning
65
assets. The average balance on interest earning assets increased by $109.2 million, or 1.5%, to $7.461 billion for the nine months ended September 30, 2015 from $7.351 billion for the nine months ended September 30, 2014. Additionally, the average yield on interest-earning assets increased to 4.17% for the nine months ended September 30, 2015 from 4.15% for the nine months ended September 30, 2014.
Interest income on loans receivable increased by $6.9 million, or 3.3%, to $217.8 million for the nine months ended September 30, 2015 from $210.9 million for the nine months ended September 30, 2014. This increase in interest income on loans receivable can be attributed to an increase in the average balance of loans receivable of $371.1 million, or 6.3%, to $6.228 billion for the nine months ended September 30, 2015 from $5.857 billion for the nine months ended September 30, 2014. This increase is due to continued success in growing business banking relationships, the retention of the residential mortgage loan originations, and the LNB acquisition. Partially offsetting this increase was a decline in the average yield which decreased to 4.68% for the nine months ended September 30, 2015 from 4.81% for the nine months ended September 30, 2014. The continued decline in average yield is due primarily to the historically low level of market interest rates.
Interest income on mortgage-backed securities decreased by $1.5 million, or 18.1%, to $6.5 million for the nine months ended September 30, 2015 from $8.0 million for the nine months ended September 30, 2014. This decrease is the result of decreases in both the average balance and average yield. The average balance of mortgage-backed securities decreased by $102.6 million, or 17.2%, to $494.4 million for the nine months ended September 30, 2015 from $597.0 million for the nine months ended September 30, 2014 due primarily to redirecting cash flows from these securities to fund the LNB acquisition, payoff FHLB advances, and fund loan growth. The average yield on mortgage-backed securities decreased to 1.76% for the nine months ended September 30, 2015 from 1.78% for the nine months ended September 30, 2014 due primarily to the pay-down of higher rate securities.
Interest income on investment securities decreased by $1.0 million, or 12.9%, to $6.9 million for the nine months ended September 30, 2015 from $7.9 million for the nine months ended September 30, 2014. This decrease is the result of decreases in both the average balance and average yield. The average yield on investment securities decreased to 1.90% for the nine months ended September 30, 2015 from 2.11% for the nine months ended September 30, 2014. This decrease is primarily the result of higher rate, tax-free, municipal securities maturing or being called and if replaced, being replaced by lower yielding, shorter duration government agency securities. The average balance of investment securities decreased by $17.3 million, or 3.5%, to $483.8 million for the nine months ended September 30, 2015 from $501.1 million for the nine months ended September 30, 2014. This decrease is due primarily to the maturity or call of municipal and government agency securities and the use of these proceeds to fund the LNB acquisition, payoff FHLB advances, and fund loan growth.
Dividends on FHLB stock increased by $904,000, or 63.4%, to $2.3 million for the nine months ended September 30, 2015 from $1.4 million for the nine months ended September 30, 2014. This increase is due a $1.0 million special dividend paid in the first quarter of 2015. Additionally, the average yield, exclusive of the special dividend, increased to 4.64% for the nine months ended September 30, 2015 from 4.33% for the nine months ended September 30, 2014. Partially offsetting these factors was a decrease in the average balance of $6.8 million, or 15.4%, to $37.1 million for the nine months ended September 30, 2015 from $43.9 million for the nine months ended September 30, 2014. Required FHLB stock holdings fluctuate with, among other things, the utilization of our borrowing capacity as well as capital requirements established by the FHLB. FHLB dividends are included with taxable investment securities interest income in our Consolidated Statements of Income.
Interest income on interest-earning deposits decreased by $255,000, or 37.9%, to $418,000 for the nine months ended September 30, 2015 from $673,000 for the nine months ended September 30, 2014. This decrease is due to a decrease in the average balance of $135.2 million, or 38.4%, to $217.2 million for the nine months ended September 30, 2015 from $352.4 million for the nine months ended September 30, 2014, due to the utilization of cash for the LNB acquisition, to payoff FHLB advances, and fund loan growth. The average yield on interest-earning deposits remained unchanged at 0.25% for the nine months ended September 30, 2015 and 2014.
Interest expense decreased by $764,000, or 1.8%, to $41.8 million for the nine months ended September 30, 2015 from $42.6 million for the nine months ended September 30, 2014. This decrease in interest expense was due to a decline in the average cost of interest-bearing liabilities which decreased to 0.95% for the nine months ended September 30, 2015 from 0.97% for the nine months ended September 30, 2014. The average cost of each funding source, excluding money market demand accounts, declined from the prior year. In addition, there was a shift in deposit mix from time deposits to lower cost non-maturity deposits. Partially offsetting this decrease was an increase in the balance of interest-bearing liabilities, which increased by $41.7 million, or 0.7%, to $5.909 billion for the nine months ended September 30, 2015 from $5.868 billion for the nine months ended September 30, 2014. The increase in average interest-bearing liabilities resulted primarily from an increase in borrowed funds of $55.5 million, or 6.3% and an increase in non-maturity deposit accounts of $187.1 million, or 5.7%. Partially offsetting these increases was a decrease in time deposits of $203.7 million, or 12.7% as customers continue to move funds to more liquid accounts.
Net interest income increased by $5.9 million, or 3.1%, to $192.1 million for the nine months ended September 30, 2015 from $186.2 million for the nine months ended September 30, 2014. This increase is attributable to the factors discussed above. Loan growth enabled us to redirect cash flows from lower yielding cash and investments which helped offset overall lower market interest rates and increase our net interest spread and margin. Our net interest rate spread increased to 3.22% for the nine months ended September 30, 2015 from 3.18% for the nine months ended September 30, 2014 and our net interest margin increased to 3.41% for the nine months ended September 30, 2015 from 3.38% for the nine months ended September 30, 2014.
The provision for loan losses decreased by $14.1 million, or 73.4%, to $5.1 million for the nine months ended September 30, 2015 from $19.2 million for the nine months ended September 30, 2014. This decrease is due primarily to continued improvements in overall asset quality as classified loans decreased by $9.2 million, or 4.4%, to $200.6 million at September 30, 2015 from $209.8 million at September 30, 2014. In addition, total nonaccrual loans decreased by $21.9 million, or 24.4%, to $67.9 million at September 30, 2015 from $89.8 million at September 30, 2014. Annualized net charge-offs declined as well to 0.26% in the current year from 0.43% last year. Additionally, during the prior year period two troubled business banking loans required combined provisions of $8.2 million.
Noninterest income decreased by $4.2 million, or 7.9%, to $49.3 million for the nine months ended September 30, 2015 from $53.5 million for the nine months ended September 30, 2014. The decrease is primarily attributable to a decrease in the gain on sale of investments and an increase in loss on real estate owned. Gain on sale of investments decreased by $3.6 million, or 79.8%, to $921,000 for the nine months ended September 30, 2015 from $4.5 million for the nine months ended September 30, 2014 as a result of the sale of equity securities during 2014 for a substantial gain. Loss on real estate owned increased by $896,000, or 95.6%, to $1.8 million for the nine months ended September 30, 2015 from $937,000 for the nine months ended September 30, 2014. This increase is due primarily to the additional write-down of one foreclosed commercial property in the first quarter of 2015. Partially offsetting these factors was an increase in services charges and fees of $717,000, or 2.6%, to $27.8 million for the nine months ended September 30, 2015 from $27.1 million for the nine months ended September 30, 2014. This increase is due primarily to an increase in the number of loan and transaction deposit customers as well as adjustments to deposit account fees made in late 2014. In addition, insurance commission income increased by $457,000, or 6.9%, to $7.0 million for the nine months ended September 30, 2015 from $6.6 million for the nine months ended September 30, 2014, due primarily to the acquisition of another insurance agency as of January 1, 2015.
Noninterest expense increased by $12.4 million, or 7.7%, to $172.7 million for the nine months ended September 30, 2015 from $160.3 million for the nine months ended September 30, 2014. This increase is primarily the result of increases in acquisition expense, compensation and employee benefits, and processing expenses. Expenses totaling $8.4 million were incurred during the nine months ended September 30, 2015 related to the LNB acquisition. Compensation and employee benefits increased by $3.2 million, or 3.8%, to $87.8 million for the nine months ended September 30, 2015 from $84.6 million for the nine months ended September 30, 2014. This increase is the result of the LNB acquisition and normal annual increases in compensation. Processing expense increased by $2.7 million, or 13.9%, to $22.7 million for the nine months ended September 30, 2015 from $20.0 million for the nine months ended September 30, 2014, due primarily to technology upgrades including the implementation of software that provides our customers with enhanced security for online financial transactions and the additional maintenance costs attributable to the addition of the LNB operations. Partially offsetting these increases was a decrease in other expenses of $1.6 million, or 21.2%, to $6.1 million for the nine months ended September 30, 2015 from $7.6 million for the nine months ended September 30, 2014 due primarily to the timing of charitable contributions and the related state tax credits which are delayed as a result of the current Pennsylvania budget impasse. Professional services also declined from the prior year by $718,000, or 12.6%, to $5.0 million for the nine months ended September 30, 2015 from $5.7 million for the nine months ended September 30, 2014 as a result of the completion of a third party engagement to review our compliance management system during 2014.
The provision for income taxes increased by $3.7 million, or 23.5%, to $19.3 million for the nine months ended September 30, 2015 from $15.6 million for the nine months ended September 30, 2014. This increase in income tax expense is primarily the result of an increase in pretax income of $3.4 million, or 5.6%, and a reduction in tax free income from municipal bonds as well as a lower amount of Pennsylvania state tax credits anticipated for 2015. Additionally, the prior year benefited from the tax deductibility of the special common stock dividends paid on shares held by our benefit plans. Our effective tax rate for the nine months ended September 30, 2015 was 30.3% compared to 25.9% for the nine months ended September 30, 2014. We anticipate our effective tax rate to be between 30.0% and 32.0% for all of 2015.
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Average Balance Sheet
The following table sets forth certain information relating to the Company’s average balance sheet and reflects the average yield on interest-earning assets and average cost of interest-bearing liabilities for the periods indicated. Such yields and costs are derived by dividing income or expense by the average balance of assets or liabilities, respectively, for the periods presented. Average balances are calculated using daily averages.
Avg.
Average
yield/
balance
Interest
cost (f)
Assets:
Interest-earning assets:
Loans receivable (a) (b) (includes FTE adjustments of $496 and $486, respectively)
6,584,664
76,583
4.66
5,912,890
71,306
4.78
Mortgage-backed securities (c)
498,757
1.79
569,482
1.76
Investment securities (c) (includes FTE adjustments of $530 and $840, respectively)
482,666
2,754
2.28
488,893
2.79
FHLB stock
39,552
4.52
43,986
452
4.11
Other interest-earning deposits
162,041
0.24
323,447
0.23
Total interest-earning assets (includes FTE adjustments of $1,026 and $1326, respectively)
7,767,680
82,117
4.24
7,338,698
77,854
Noninterest earning assets (d)
846,439
537,065
8,614,119
7,875,763
Liabilities and shareholders’ equity:
Interest-bearing liabilities:
1,324,620
0.26
1,228,105
834
0.27
1,022,585
0.06
899,231
0.07
1,217,122
1,187,024
802
1,577,159
4,324
1.09
1,553,867
1.15
Borrowed funds (e)
906,410
6,713
2.94
876,034
6,700
3.03
111,213
1,274
4.48
4.49
Total interest-bearing liabilities
6,159,109
0.91
5,847,355
0.96
1,054,270
891,842
Noninterest-bearing liabilities
275,435
66,432
7,488,814
6,805,629
Shareholders’ equity
1,125,305
1,070,134
Net interest income/ Interest rate spread
67,967
3.33
63,667
3.28
Net interest-earning assets/ Net interest margin
1,608,571
3.50
1,491,343
3.47
Ratio of interest-earning assets to interest-bearing liabilities
1.26
X
(a) Average gross loans includes loans held as available-for-sale and loans placed on nonaccrual status.
(b) Interest income includes accretion/ amortization of deferred loan fees/ expenses, which were not material.
(c) Average balances do not include the effect of unrealized gains or losses on securities held as available-for-sale.
(d) Average balances include the effect of unrealized gains or losses on securities held as available-for-sale.
(e) Average balances include FHLB borrowings and collateralized borrowings.
(f) Annualized. Shown on a fully tax-equivalent basis (“FTE”). The FTE basis adjusts for the tax benefit of income on certain tax exempt loans and investments using the federal statutory rate of 35% for each period presented. We believe this measure to be the preferred industry measurement of net interest income and provides relevant comparison between taxable and non-taxable amounts. GAAP basis yields were: Loans — 4.63% and 4.75%, respectively; Investment securities — 1.84% and 2.10%, respectively; interest-earning assets — 4.19% and 4.17%, respectively. GAAP basis net interest rate spreads were 3.28% and 3.21%, respectively; and GAAP basis net interest margins were 3.45% and 3.40%, respectively.
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Rate/ Volume Analysis
(Dollars in Thousands)
The following table represents the extent to which changes in interest rates and changes in the volume of interest-earning assets and interest-bearing liabilities have affected interest income and interest expense during the periods indicated. Information is provided in each category with respect to (i) changes attributable to changes in volume (changes in volume multiplied by prior rate), (ii) changes attributable to changes in rate (changes in rate multiplied by prior volume), and (iii) net change. Changes that cannot be attributed to either rate or volume have been allocated to both rate and volume.
Quarters ended September 30, 2015 and 2014
Net
Volume
Change
Interest earning assets:
(2,258
7,535
5,277
(274
Investment securities
(616
(651
(46
(98
(88
Total interest-earning assets
(2,777
7,040
(32
(21
(3
(261
(193
(212
225
93
92
(524
487
Net change in net interest income
(2,253
6,553
4,300
Nine months endedSeptember 30,
Loans receivable (a) (b) (includes FTE adjustments of $1,427 and $1,569, respectively)
6,228,049
219,210
4.71
5,856,940
212,437
4.85
494,416
597,042
1.78
Investment securities (c) (includes FTE adjustments of $1,872 and $2,592, respectively)
483,792
8,761
2.41
501,120
10,504
FHLB stock (g)
37,112
1,289
4.64
43,882
1,425
4.33
217,232
0.25
352,370
Total interest-earning assets (includes FTE adjustments of $3,299 and $4,161, respectively)
7,460,601
236,200
4.23
7,351,354
233,002
664,830
563,902
8,125,431
7,915,256
1,273,724
2,516
1,225,411
2,459
940,814
411
882,465
440
1,176,446
2,349
1,181,056
2,376
1,480,247
12,344
1.11
1,598,870
13,941
1.17
932,123
20,617
2.96
876,606
19,880
105,800
3,604
3,509
5,909,154
0.95
5,867,502
0.97
975,904
853,294
156,247
98,877
7,041,305
6,819,673
1,084,126
1,095,583
194,359
190,397
3.26
1,551,447
1,483,852
3.45
1.25
(f) Annualized. Shown on a fully tax-equivalent basis (“FTE”). The FTE basis adjusts for the tax benefit of income on certain tax exempt loans and investments using the federal statutory rate of 35% for each period presented. We believe this measure to be the preferred industry measurement of net interest income and provides relevant comparison between taxable and non-taxable amounts. GAAP basis yields were: Loans – 4.68% and 4.81%, respectively; Investment securities – 1.90% and 2.11%, respectively; interest-earning assets – 4.17% and 4.15%, respectively. GAAP basis net interest rate spreads were 3.22% and 3.18%, respectively; and GAAP basis net interest margins were 3.41% and 3.38%, respectively.
(g) Excludes the $1.0 million special dividend paid in February 2015 from the average yield calculation.
Nine months ended September 30, 2015 and 2014
(6,406
13,179
6,773
(87
(1,354
(1,441
(1,380
(363
100
(236
(136
(260
(255
(7,768
10,966
3,198
(54
(29
(18
(9
(27
(563
(1,034
(1,597
(491
737
(1,161
397
(764
(6,607
10,569
3,962
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
As the holding company for a savings bank, one of our primary market risks is interest rate risk. Interest rate risk is the sensitivity of net interest income to variations in interest rates over a specified time period. The sensitivity results from differences in the time periods in which interest rate sensitive assets and liabilities mature or re-price. We attempt to control interest rate risk by matching, within acceptable limits, the re-pricing periods of assets and liabilities. We have attempted to limit our exposure to interest sensitivity by increasing core deposits, enticing customers to extend certificates of deposit maturities, borrowing funds with fixed-rates and longer maturities and by shortening the maturities of our assets by emphasizing the origination of more short-term fixed rate loans and adjustable rate loans. We also continue to sell a portion of the long-term, fixed-rate mortgage loans that we originate. In addition, we purchase shorter term or adjustable-rate investment securities and mortgage-backed securities.
We have an Asset/Liability Committee consisting of members of management which meets monthly to review market interest rates, economic conditions, the pricing of interest-earning assets and interest-bearing liabilities and the balance sheet structure. On a quarterly basis, this Committee also reviews the interest rate risk position and cash flow projections.
The Board of Directors has a Risk Management Committee which meets quarterly and reviews interest rate risk and trends, our interest sensitivity position, the liquidity position and the market risk inherent in the investment portfolio.
In an effort to assess interest rate risk and market risk, we utilize a simulation model to determine the effect of immediate incremental increases and decreases in interest rates on net income and the market value of equity. Certain assumptions are made regarding loan prepayments and decay rates of savings and interest-bearing demand accounts. Because it is difficult to accurately project the market reaction of depositors and borrowers, the effect of actual changes in interest rates on these assumptions may differ from simulated results. We have established the following guidelines for assessing interest rate risk:
Net interest income simulation. Given a non-parallel shift of 100 basis points (“bps”), 200 bps and 300 bps in interest rates, the estimated net income may not decrease by more than 5%, 10% and 15%, respectively, within a one-year period.
Net income simulation. Given a non-parallel shift of 100 basis points (“bps”), 200 bps and 300 bps in interest rates, the estimated net income may not decrease by more than 10%, 20% and 30%, respectively, within a one-year period.
Market value of equity simulation. The market value of equity is the present value of assets and liabilities. Given a non-parallel shift of 100 bps, 200 bps and 300 bps in interest rates, the market value of equity may not decrease by more than 15%, 30% and 35%, respectively, from the computed economic value at current interest rate levels.
The following table illustrates the simulated impact of a 100 bps, 200 bps or 300 bps upward or a 100 bps downward movement in interest rates on net income, return on average equity, earnings per share and market value of equity. This analysis was prepared assuming that interest-earning asset and interest-bearing liability levels at September 30, 2015 remain constant. The impact of the rate movements was computed by simulating the effect of an immediate and sustained shift in interest rates over a twelve-month period from September 30, 2015 levels.
Increase
Decrease
Non-parallel shift in interest rates over the next 12 months
100 bps
200 bps
300 bps
Projected percentage increase/ (decrease) in net interest income
(1.0
)%
(1.6
(2.9
(3.4
Projected percentage increase/ (decrease) in net income
(1.5
(3.8
(9.9
Projected increase/ (decrease) in return on average equity
(1.7
(3.7
(9.7
Projected increase/ (decrease) in earnings per share
(0.01
(0.03
(0.08
Projected percentage increase/ (decrease) in market value of equity
(8.1
(13.5
(0.7
The figures included in the table above represent projections that were computed based upon certain assumptions including prepayment rates and decay rates. These assumptions are inherently uncertain and, as a result, cannot precisely predict the impact of changes in interest rates. Actual results may differ significantly due to timing, magnitude and frequency of interest rate changes and changes in market conditions.
ITEM 4. CONTROLS AND PROCEDURES
Under the supervision of and with the participation of management, including the Principal Executive Officer and Principal Financial Officer, we evaluated the effectiveness of the design and operation of its disclosure controls and procedures (as defined in Rule 13a-15(e) under the Exchange Act) as of the end of the period covered by this quarterly report (the “Evaluation Date”). Based upon that evaluation, the Principal Executive Officer and Principal Financial Officer concluded that, as of the Evaluation Date, these disclosure controls and procedures were effective.
There were no changes in the internal controls over financial reporting during the period covered by this report or in other factors that have materially affected, or are reasonably likely to materially affect the internal control over financial reporting.
PART II. OTHER INFORMATION
Item 1. Legal Proceedings
We are subject to a number of asserted and unasserted claims encountered in the normal course of business. We believe that any additional liability, other than that which has already been accrued, that may result from such potential litigation will not have a material adverse effect on the financial statements. However, we cannot presently determine whether or not any claims against us will have a material adverse effect on our results of operations in any future reporting period. See note 12.
Item 1A. Risk Factors
There are no material changes to the risk factors as previously discussed in Item 1A, to Part I of our 2014 Annual Report on Form 10-K.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds
a.) Not applicable.
b.) Not applicable.
c.) The following table discloses information regarding the repurchase of shares of common stock during the quarter ending September 30, 2015:
Month
Number of shares purchased
Average price paid per share
Total number of shares purchased as part of a publicly announced repurchase plan (1)
Maximum number of shares yet to be purchased under the plan (1)
July
127,489
12.51
August
September
Total number of shares purchased as part of a publicly announced repurchase plan (2)
Maximum number of shares yet to be purchased under the plan (2)
20,011
4,979,989
(1) Reflects the program for 4,750,000 shares announced September 26, 2011. This program does not have an expiration date.
(2) Reflects the program for 5,000,000 shares announced December 13, 2012. This program does not have an expiration date.
Item 3. Defaults Upon Senior Securities
Not applicable.
Item 4. Mine Safety Disclosures
Item 5. Other Information
Item 6. Exhibits
31.1
Certification of the Chief Executive Officer pursuant to Rule 13a-15 or 15d-15 of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2
Certification of the Chief Financial Officer pursuant to Rule 13a-15 or 15d-15 of the Securities Exchange Act of 1934, as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32.1
Certification of the Chief Executive Officer and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
101.INS
XBRL Instance Document
101.SCH
XBRL Taxonomy Extension Schema Document
101.CAL
XBRL Taxonomy Extension Calculation Linkbase Document
101.DEF
XBRL Taxonomy Extension Definition Linkbase Document
101.LAB
XBRL Taxonomy Extension Label Linkbase
101.PRE
XBRL Taxonomy Extension Presentation Linkbase Document
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed by the undersigned thereunto duly authorized.
(Registrant)
Date:
November 9, 2015
By:
/s/ William J. Wagner
William J. Wagner
President and Chief Executive Officer
(Duly Authorized Officer)
/s/ Gerald J. Ritzert
Gerald J. Ritzert
Controller
(Principal Accounting Officer)