UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(MARK ONE)
S QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarter Ended March 31, 2012
OR
£ TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File No. 001-16197
PEAPACK-GLADSTONE FINANCIAL CORPORATION
(Exact name of registrant as specified in its charter)
500 Hills Drive, Suite 300
Bedminster, New Jersey 07921-1538
(Address of principal executive offices, including zip code)
(908) 234-0700
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
YesS No £.
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulations S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).
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 definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (check one):
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes£ No S.
Number of shares of Common Stock outstanding as of May 1, 2012:
8,872,334
PART 1 FINANCIAL INFORMATION
Item 1. Financial Statements (Unaudited)
CONSOLIDATED STATEMENTS OF CONDITION
(Dollars in thousands)
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENTS OF INCOME
(Dollars in thousands, except share data)
(Unaudited)
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
Comprehensive income (loss) components and related tax effects were as follows:
CONSOLIDATED STATEMENT OF CHANGES IN SHAREHOLDERS’ EQUITY
Three Months Ended March 31, 2012
CONSOLIDATED STATEMENTS OF CASH FLOWS
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Certain information and footnote disclosures normally included in the unaudited consolidated financial statements prepared in accordance with U.S. generally accepted accounting principles have been condensed or omitted pursuant to the rules and regulations of the Securities and Exchange Commission. These unaudited consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto included in the Annual Report on Form 10-K for the period ended December 31, 2011 for Peapack-Gladstone Financial Corporation (the “Corporation”). In the opinion of the Management of the Corporation, the accompanying unaudited Consolidated Interim Financial Statements contain all adjustments (consisting of only normal recurring adjustments) necessary to present fairly the financial position as of March 31, 2012 and the results of operations for the three months ended March 31, 2012 and 2011 and cash flows for the three months ended March 31, 2012 and 2011.
Principles of Consolidation: The Corporation considers that all adjustments necessary for a fair presentation of the statement of the financial position and results of operations in accordance with U.S. generally accepted accounting principles for these periods have been made. Results for such interim periods are not necessarily indicative of results for a full year.
The consolidated financial statements of Peapack-Gladstone Financial Corporation are prepared on the accrual basis and include the accounts of the Corporation and its wholly owned subsidiary, Peapack-Gladstone Bank. All significant intercompany balances and transactions have been eliminated from the accompanying consolidated financial statements.
Securities:Debt securities are classified as held to maturity and carried at amortized cost when Management has the positive intent and ability to hold them to maturity. Debt securities are classified as available for sale when they might be sold before maturity. Equity securities with readily determinable fair values are classified as available for sale. Securities available for sale are carried at fair value, with unrealized holding gains and losses reported in other comprehensive income, net of tax.
Interest income includes amortization of purchase premium or discount. Premiums and discounts on securities are amortized on the level-yield method without anticipating prepayments, except for mortgage-backed securities where prepayments are anticipated. Gains and losses on sales are recorded on the trade date and determined using the specific identification method.
Management evaluates securities for other-than-temporary impairment on at least a quarterly basis, and more frequently when economic or market conditions warrant such an evaluation. For securities in an unrealized loss position, Management considers the extent and duration of the unrealized loss and the financial condition and near-term prospects of the issuer. Management also assesses whether it intends to sell, or it is more likely than not that it will be required to sell, a security in an unrealized loss position before recovery of its amortized cost basis. If either of the criteria regarding intent or requirement to sell is met, the entire difference between amortized cost and fair value is recognized as impairment through earnings. For debt securities that do not meet the aforementioned criteria, the amount of impairment is split into two components as follows: 1) other-than-temporary impairment related to credit loss, which must be recognized in the income statement and 2) other-than-temporary impairment related to other factors, which is recognized in other comprehensive income. The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis. For equity securities, the entire amount of impairment is recognized through earnings.
Loans:Loans are considered past due when they are not paid in accordance with contractual terms. The accrual of income on loans, including impaired loans, is discontinued if, in the opinion of Management, principal or interest is not likely to be paid in accordance with the terms of the loan agreement, or when principal or interest is past due 90 days or more and collateral, if any, is insufficient to cover principal and interest. All interest accrued but not received for loans placed on nonaccrual is reversed against interest income. A non-accrual loan is returned to accrual status only when interest and principal payments are brought current and future payments are reasonably assured. Commercial loans are generally charged off after an analysis is completed which indicates that collectability of the full principal balance is in doubt. Consumer loans are generally charged off after they become 120 days past due. Subsequent payments are credited to income only if collection of principal is not in doubt. If principal and interest payments are brought contractually current and future collectability is reasonably assured, loans are returned to accrual status. Mortgage loans are generally charged off when the value of the underlying collateral does not cover the outstanding principal balance. The majority of the Corporation’s loans are secured by real estate in the State of New Jersey.
Allowance for Loan Losses: The allowance for loan losses is a valuation allowance for probable incurred credit losses. Loan losses are charged against the allowance when Management believes the uncollectibility of a loan balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Management estimates the allowance balance required using past loan loss experience, the nature and volume of the portfolio, information about specific borrower situations and estimated collateral values, economic conditions and other factors. Allocations of the allowance may be made for specific loans, but the entire allowance is available for any loan that, in Management’s judgment, should be charged off.
The allowance consists of specific and general components. The specific component of the allowance relates to loans that are individually classified as impaired.
A loan is impaired when, based on current information and events, it is probable that the Corporation will be unable to collect all amounts due according to the contractual terms of the loan agreement. Loans for which the terms have been modified resulting in a concession, and for which the borrower is experiencing financial difficulties, are considered troubled debt restructurings and are evaluated for impairment. Factors considered by Management in determining impairment include payment status, collateral value and the probability of collecting scheduled principal and interest payments when due. Loans that experience insignificant payment delays and payment shortfalls generally are not classified as impaired. Management determines the significance of payment delays and payment shortfalls on a case-by-case basis, taking into consideration all of the circumstances surrounding the loan and the borrower, including the length of the delay, the reasons for the delay, the borrower’s prior payment record, and the amount of the shortfall in relation to the principal and interest owed.
All loans are individually evaluated for impairment when loans are classified as substandard by Management. If a loan is considered impaired, a portion of the allowance is allocated so that the loan is reported, net, at the present value of estimated future cash flows using the loan’s existing rate or at the fair value of collateral less estimated disposition costs if repayment is expected solely from the collateral. Large groups of smaller balance homogeneous loans, such as consumer and residential real estate loans, are collectively evaluated for impairment while they are performing assets. If and when a residential mortgage is placed on nonaccrual status and in the process of collection, such as through a foreclosure action, then they are evaluated for impairment on an individual basis and the loan is reported, net, at the fair value of the collateral less estimated disposition costs.
A troubled debt restructuring is a renegotiated loan with concessions made by the lender to a borrower who is experiencing financial difficulty. Troubled debt restructurings are separately identified for impairment and are measured at the present value of estimated future cash flows using the loan’s effective rate at inception. If a troubled debt restructuring is considered to be a collateral dependent loan, the loan is reported, net, at the fair value of the collateral, less estimated disposition costs. For troubled debt restructurings that subsequently default, the Corporation determines the amount of reserve in accordance with the accounting policy for the allowance for loan losses.
The general component of the allowance covers loans collectively evaluated for impairment and is based primarily on the Bank’s historical loss experience adjusted for current factors. The historical loss experience is determined by portfolio segment and is based on the actual loss history experienced by the Corporation on a weighted average basis over the previous two years. This actual loss experience is adjusted by other qualitative factors based on the risks present for each portfolio segment. These economic factors include consideration of the following: levels of and trends in delinquencies and impaired loans; levels of and trends in charge-offs and recoveries; trends in volume and terms of loans; effects of any changes in risk selection and underwriting standards; other changes in lending policies, procedures, and practices; experience, ability, and depth of lending management and other relevant staff; national and local economic trends and conditions; industry conditions; and effects of changes in credit concentrations.
In determining an appropriate amount for the allowance, the Bank segments and evaluates the loan portfolio based on Federal call report codes. The following portfolio segments have been identified:
Stock-Based Compensation: The Corporation has stock option plans that allow the granting of shares of the Corporation’s common stock as incentive stock options, nonqualified stock options, restricted stock awards and stock appreciation rights to directors, officers, employees and independent contractors of the Corporation and its subsidiaries. The options granted under these plans are exercisable at a price equal to the fair market value of common stock on the date of grant and expire not more than ten years after the date of grant. Stock options may vest during a period of up to five years after the date of grant.
For the three months ended March 31, 2012 and 2011, the Corporation recorded total compensation cost for stock options of $85 thousand and $107 thousand respectively, with a recognized tax benefit of $15 thousand for the quarter ended March 31, 2012 and $18 thousand for the March 31, 2011 quarter.
There was approximately $764 thousand of unrecognized compensation cost related to non-vested share-based compensation arrangements granted under the Corporation’s stock incentive plans at March 31, 2012. That cost is expected to be recognized over a weighted average period of 1.5 years.
For the Corporation’s stock option plans, changes in options outstanding during the three months ended March 31, 2012 were as follows:
(1) Does not include shares which are not expected to vest as a result of anticipated forfeitures.
The aggregate intrinsic value represents the total pre-tax intrinsic value (the difference between the Corporation’s closing stock price on the last trading day of the first quarter of 2012 and the exercise price, multiplied by the number of in-the-money options). The Corporation’s closing stock price on March 31, 2012 was $13.52.
For the first quarter of 2012, the per share weighted-average fair value of stock options granted was $3.82 as compared to $3.91 for the same quarter of 2011 on the date of grant using the Black Scholes option-pricing model with the following weighted average assumptions:
In January 2012 and 2011, the Corporation issued 36,263 and 28,732 restricted stock awards, respectively, at a fair value equal to the market price of the Corporation’s common stock at the date of the grant. The awards vest 40 percent after two years and 20 percent each year after until fully vesting on the fifth anniversary of the grant date. The Corporation recorded total compensation cost for restricted stock awards of $111 thousand for the first quarter of 2012 and $58 thousand for the same quarter of 2011.
As of March 31, 2012, there was approximately $1.1 million of unrecognized compensation cost related to non-vested restricted stock awards granted under the Corporation’s stock incentive plans. That cost is expected to be recognized over a weighted average period of 1.6 years.
Changes in nonvested shares for 2012 were as follows:
Earnings per Common Share – Basic and Diluted: The following is a reconciliation of the calculation of basic and diluted earnings per share. Basic net income per common share is calculated by dividing net income available to common shareholders by the weighted average common shares outstanding during the reporting period. Diluted net income per common share is computed similarly to that of basic net income per common share, except that the denominator is increased to include the number of additional common shares that would have been outstanding if all common shares underlying potentially dilutive stock options were issued during the reporting period utilizing the Treasury stock method.
Stock options and restricted stock totaling 618,779 and 666,267 shares were not included in the computation of diluted earnings per share in the first quarters of 2012 and 2011, respectively, because they were considered antidilutive.
Income Taxes: The Corporation files a consolidated Federal income tax return and separate state income tax returns for each subsidiary based on current laws and regulations.
The Corporation is no longer subject to examination by the U.S. Federal tax authorities for years prior to 2008 or by New Jersey tax authorities for years prior to 2007.
The Corporation recognizes interest related to income tax matters as interest expense and penalties related to income tax matters as other expense. The Corporation did not have any amounts accrued for interest and penalties at March 31, 2012.
Reclassification:Certain reclassifications have been made in the prior periods’ financial statements in order to conform to the 2012 presentation.
2. INVESTMENT SECURITIES HELD TO MATURITY
A summary of amortized cost and estimated fair value of investment securities held to maturity included in the consolidated statements of condition as of March 31, 2012 and December 31, 2011 follows:
The following tables present the Corporation’s investment securities held to maturity with continuous unrealized losses and the estimated fair value of these investments as of March 31, 2012 and December 31, 2011.
The trust preferred pooled securities within the Corporation’s held to maturity investment portfolio are collateralized by trust preferred securities issued primarily by individual bank holding companies, but also by insurance companies and real estate investment trusts. There has been little or no active trading in these securities for several years; therefore the Corporation believes in most cases it is more appropriate to estimate fair value using discounted cash flow analysis. As of December 31, 2008, to estimate fair value, and determine whether the securities were other-than-temporarily impaired, the Corporation retained and worked with a third party to review the issuers (the collateral) underlying each of the securities. Among the factors analyzed were the issuers’ profitability, credit quality, asset mix, capital adequacy, leverage and liquidity position, as well as an overall assessment of credit, profitability and capital trends within the portfolio’s issuer universe. These factors provided an assessment of the portion of the collateral of each security which was likely to default in future periods. The cash flows associated with the collateral likely to default, together with the cash flows associated with collateral which had already deferred or defaulted, were then eliminated. In addition, the Corporation assumed constant rates of default in excess of those based upon the historic performance of the underlying collateral. The resulting cash flows were then discounted to the current period to determine fair value for each security. The discount rate utilized was based on a risk-free rate (LIBOR) plus spreads appropriate for the product, which include consideration of liquidity and credit uncertainty.
Each quarter since December 2008, to periodically assess the credit assumptions and related input data that could affect the fair value of each security, Management compared actual deferrals and defaults to the assumed deferrals and defaults included in the valuation model.
As of each year end since December 2008, the Corporation again worked with a third party to model the securities and review its valuation. The modeling process and related assumptions were similar to the process and related assumptions employed as of December 31, 2008. No additional impairment charges were recorded for the three months ended March 31, 2012.
Further significant downturns in the real estate markets and/or the economy could cause additional issuers to defer paying dividends on these securities and/or ultimately default. Such occurrences, if beyond those assumed in the current valuation, could cause an additional write-down of the portfolio, with a negative impact on earnings; however, the Corporation has already recorded a substantial write-down of its trust preferred pooled securities portfolio. We do not expect that an additional write-down would have a material effect on the cash flows from the securities or on our liquidity position.
3. INVESTMENT SECURITIES AVAILABLE FOR SALE
A summary of amortized cost and approximate fair value of securities available for sale included in the consolidated statements of condition as of March 31, 2012 and December 31, 2011 follows:
The following tables present the Corporation’s available for sale securities with continuous unrealized losses and the approximate fair value of these investments as of March 31, 2012 and December 31, 2011.
Management believes that the unrealized losses on investment securities available for sale are temporary and due to interest rate fluctuations and/or volatile market conditions rather than the creditworthiness of the issuers. The Corporation does not intend to sell these securities nor is it likely that it will be required to sell the securities before their anticipated recovery; however, Management also closely monitors market conditions and may sell the securities if it determines it would be beneficial to do so.
At March 31, 2012, the unrealized loss on other securities, $895 thousand, is primarily related to a debt security issued by a large bank holding company that has experienced declines in all its securities due to the turmoil in the financial markets and a merger. The security, a single-issuer trust preferred security, was downgraded to below investment grade by Moody’s and is currently rated Ba1. Management monitors the performance of the issuer on a quarterly basis to determine if there are any credit events that could result in deferral or default of the security. Management believes the depressed valuation is a result of the nature of the security, a trust preferred bond, and the bond’s very low yield. As Management does not intend to sell this security nor is it likely that it will be required to sell the security before its anticipated recovery, the security is not considered other-than-temporarily impaired at March 31, 2012.
4. LOANS
Loans outstanding, by general ledger classification, as of March 31, 2012 and December 31, 2011, consisted of the following:
In determining an appropriate amount for the allowance, the Bank segments and evaluates the loan portfolio based on Federal call report codes. The following portfolio classes have been identified as of March 31, 2012 and December 31, 2011:
Included in the totals above for March 31, 2012 are $523 thousand of unamortized discount as compared to $691 thousand of unamortized discount for December 31, 2011.
The following tables present the loan balances by portfolio class, based on impairment method, and the corresponding balances in the allowance for loan losses as of March 31, 2012 and December 31, 2011:
Impaired loans include non-accrual loans of $18.6 million at March 31, 2012 and $18.9 million at December 31, 2011. Impaired loans also includes performing commercial mortgage and commercial troubled debt restructured loans of $7.8 million at March 31, 2012 and $7.3 million at December 31, 2011. The allowance allocated to troubled debt restructured loans which are nonaccrual totaled $280 thousand as of March 31, 2012 and December 31, 2011, respectively. All accruing troubled debt restructured loans were paying in accordance with restructured terms as of March 31, 2012. The Corporation has not committed to lend additional amounts as of March 31, 2012 to customers with outstanding loans that are classified as loan restructurings.
The following tables present loans individually evaluated for impairment by class of loans as of March 31, 2012 and December 31, 2011:
The Corporation did not recognize any income on nonaccruing impaired loans for the three months ended March 31, 2012.
The following tables present the recorded investment in nonaccrual and loans past due over 90 days still on accrual by class of loans as of March 31, 2012 and December 31, 2011:
Nonaccrual loans and loans past due 90 days still on accrual include both smaller balance homogeneous loans that are collectively evaluated for impairment and individually classified impaired loans.
The following tables present the aging of the recorded investment in past due loans as of March 31, 2012 and December 31, 2011 by class of loans, excluding nonaccrual loans:
Credit Quality Indicators:
The Corporation categorizes 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. The Corporation analyzes loans individually by classifying the loans as to credit risk. The risk rating analysis of loans is performed (i) when the loan is initially underwritten, (ii) annually for loans in excess of $500,000, (iii) on a random quarterly basis from either internal reviews with the Senior Credit Officer or externally through an independent loan review firm, or (iv) whenever Management otherwise identifies a potentially negative trend or issue relating to a borrower. In addition, for all loan types the Corporation evaluates credit quality based on the aging status of the loan, which was previously presented.
The Corporation uses the following definitions for risk ratings:
Special Mention: Loans subject to special mention have a potential weakness that deserves management’s close attention. If left uncorrected, these potential weaknesses may result in deterioration of the repayment prospects for the loans or of the institution’s credit position at some future date.
Substandard:Loans classified as substandard are inadequately protected by the current net worth and paying 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 the institution will sustain some loss if the deficiencies are not corrected.
Doubtful:Loans classified as doubtful have all the weakness inherent in those classified as substandard, with the added characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, conditions, and values, highly questionable and improbable.
Loans not meeting the criteria above that are analyzed individually as part of the above described process are considered to be pass-rated loans. As of March 31, 2012, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:
As of December 31, 2011, and based on the most recent analysis performed, the risk category of loans by class of loans is as follows:
At March 31, 2012, $26.6 million of the $48.5 million of the substandard loans were also considered impaired as compared to December 31, 2011, when $26.2 million of the $49.1 million of the classified loans were also considered impaired.
The Corporation considers the performance of the loan portfolio and its impact on the allowance for loan losses. For residential and consumer loans, the Corporation also evaluated credit quality based on the aging status of the loan, which was previously presented.
The activity in the allowance for loan losses for the three months ended March 31, 2012 is summarized below:
The activity in the allowance for loan losses for the three months ended March 31, 2011 is summarized below:
Troubled Debt Restructurings:
The Corporation has allocated $758 thousand and $707 thousand of specific reserves to customers whose loan terms have been modified in troubled debt restructurings as of March 31, 2012 and December 31, 2011, respectively. There were no unfunded commitments to lend additional amounts to customers with outstanding loans that are classified as troubled debt restructurings.
During the three-month period ending March 31, 2012, the terms of certain loans were modified as troubled debt restructurings. The modification of the terms of such loans included one or a combination of the following: a reduction of the stated interest rate of the loan; an extension of the maturity date at a stated rate of interest lower that the current market rate for new debt with similar risk; or a permanent reduction of the recorded investment in the loan.
The following table presents loans by class modified as troubled debt restructurings that occurred during the three month period ending March 31, 2012:
The identification of the troubled debt restructured loans did not have a significant impact on the allowance for loan losses. In addition, there were no charge-offs as a result of the classification of these loans as troubled debt restructuring during the quarter ended March 31, 2012.The primary residential mortgages were modified by reducing the interest rates. The junior lien on residence loan was modified through the deferral of certain scheduled principal payments. The owner-occupied commercial real estate loan was modified through a rate change, revised amortization and partial forgiveness of principal, which had previously been charged off. The Bank did not forgive any principal or interest on any of these loans and expects to collect the full amount that is contractually owed.
The following table presents loans by class modified as troubled debt restructurings that occurred from April 1, 2011 through March 31, 2012:
The primary residential mortgages were modified by reducing the interest rates or extending the maturity date. The junior lien on residence loan was modified through the deferral of certain scheduled principal payments. The owner-occupied commercial real estate loans were modified with rate reductions and revised amortization schedules; one also had a partial forgiveness of principal which had been previously charged off. The investment commercial real estate loan was modified through rate reduction and deferral of principal amortization.
The following table presents loans by class modified as troubled debt restructurings on accrual as of March 31, 2012:
There are six loans totaling $6.0 million that have been categorized as troubled debt restructurings that are also included in loans that are on nonaccrual. Four of these loans consist of owner-occupied commercial real estate and total $5.5 million. One is a residential first mortgage totaling $194 thousand and one is a commercial mortgage totaling $299 thousand on a mixed use investment property.
The following table presents loans by class modified as troubled debt restructurings from April 1, 2011 through March 31, 2012 for which there was a payment default during the same period:
For troubled debt restructured loans identified during the quarter ended March 31, 2012, there were no payment defaults during the three months ended March 31, 2012.
The terms of certain other potential problem loans were modified during the three-month period ending March 31, 2012 that did not meet the definition of a troubled debt restructuring. These loans have a total recorded investment at March 31, 2012 of $484 thousand. The modification of these loans involved either a modification of the terms of a loan to borrowers who were not experiencing financial difficulties or a delay in a payment that was considered to be insignificant.
In order to determine whether a borrower is experiencing financial difficulty, an evaluation is performed of the probability that the borrower will be in payment default on any of its debt in the foreseeable future without the modification. This evaluation is performed under the Corporation’s internal underwriting policy.
5. FEDERAL HOME LOAN BANK ADVANCES AND OTHER BORROWINGS
Advances from the Federal Home Loan Bank of New York (FHLB) totaled $17.6 million and $17.7 million at March 31, 2012 and December 31, 2011, respectively, with a weighted average interest rate of 3.52 percent and 3.41 percent, respectively. Advances totaling $1.0 million with a weighted average interest rate of 3.88 percent at March 31, 2012, have fixed maturity dates, while advances totaling $566 thousand with a weighted average interest rate of 3.73 percent were amortizing advances with monthly payments of principal and interest. These advances are secured by blanket pledges of certain 1-4 family residential mortgages totaling $62.2 million at March 31, 2012.
Also at March 31, 2012, the Corporation had $16.0 million in variable rate advances, with a weighted average interest rate of 3.45 percent, that are noncallable for one, two or three years and then callable quarterly with final maturities of five, seven or ten years from the original date of the advance. All of these advances are beyond their initial noncallable periods. These advances are secured by pledges of investment securities totaling $17.0 million at March 31, 2012.
There were overnight borrowings of $22.9 million at March 31, 2012. There were no overnight borrowings at December 31, 2011. Overnight borrowings from the FHLB averaged $19.6 million with a weighted average interest rate of 0.36 percent for the three months ended March 31, 2012.
The final maturity dates of the advances and other borrowings are scheduled as follows:
6. BUSINESS SEGMENTS
The Corporation assesses its results among two operating segments, Banking and PGB Trust and Investments. Management uses certain methodologies to allocate income and expense to the business segments. A funds transfer pricing methodology is used to assign interest income and interest expense. Certain indirect expenses are allocated to segments. These include support unit expenses such as technology and operations and other support functions. Taxes are allocated to each segment based on the effective rate for the period shown.
Banking
The Banking segment includes commercial, commercial real estate, residential and consumer lending activities; deposit generation; operation of ATMs; telephone and internet banking services; merchant credit card services and customer support and sales.
PGB Trust & Investments
PGB Trust & Investments includes asset management services provided for individuals and institutions; personal trust services, including services as executor, trustee, administrator, custodian and guardian; corporate trust services including services as trustee for pension and profit sharing plans; and other financial planning and advisory services.
The following table presents the statements of income and total assets for the Corporation’s reportable segments for the three months ended March 31, 2012 and 2011.
7. FAIR VALUE
Fair value is the exchange price that would be received for an asset or paid to transfer a liability (exit price) in the principal or most advantageous market for the asset or liability in an orderly transaction between market participants on the measurement date. There are three levels of inputs that may be used to measure fair values:
The Corporation used the following methods and significant assumptions to estimate the fair value:
Investment Securities: The fair values for investment securities are determined by quoted market prices, if available (Level 1). For securities where quoted prices are not available, fair values are calculated based on market prices of similar securities (Level 2). For securities where quoted prices or market prices of similar securities are not available, fair values are calculated using discounted cash flows or other market indicators (Level 3). The fair values of Level 3 investment securities (Trust Preferred Pooled Securities, held to maturity) are determined by Management based on non-binding broker quotes. Discussions are regularly held with third-party brokers and other thirdparty experts to validate the estimated fair value for these Level 3 securities.
Loans Held for Sale, at Fair Value: The fair value of loans held for sale is determined using quoted prices for similar assets, adjusted for specific attributes of that loan or other observable market data, such as outstanding commitments from third party investors (Level 2).
Impaired Loans: The fair value of impaired loans with specific allocations of the allowance for loan losses is generally based on recent real estate appraisals. These appraisals may utilize a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.
Other Real Estate Owned: Nonrecurring adjustments to certain commercial and residential real estate properties classified as other real estate owned (OREO) are measured at fair value, less costs to sell. Fair values are based on recent real estate appraisals. These appraisals may use a single valuation approach or a combination of approaches including comparable sales and the income approach. Adjustments are routinely made in the appraisal process by the independent appraisers to adjust for differences between the comparable sales and income data available. Such adjustments are usually significant and typically result in a Level 3 classification of the inputs for determining fair value.
Appraisals for both collateral-dependent impaired loans and other real estate owned are performed by certified general appraisers (for commercial properties) or certified residential appraisers (for residential properties) whose qualifications and licenses have been reviewed and verified by Management. Once received, a member of the Credit Department reviews the assumptions and approaches utilized in the appraisal as well as the overall resulting fair value in comparison with independent data sources such as recent market data or industry-wide statistics. On an annual basis, Management compares the actual selling price of collateral that has been sold to the most recent appraised value to determine what additional adjustment should be made to the appraisal value to arrive at fair value. The most recent analysis performed indicated that a discount up to 15 percent should be applied to appraisals on properties. The discount is determined based on the nature of the underlying properties, aging of appraisal and other factors.
The following table summarizes, for the periods indicated, assets measured at fair value on a recurring basis, including financial assets for which the Corporation has elected the fair value option:
Loans held for sale totaled $3.2 million and $2.8 million as of March 31, 2012 and December 31, 2011 and were determined to be Level 2.
There were no transfers between Level 1 and Level 2 during the three months ended March 31, 2012.
The following table summarizes, for the periods indicated, assets measured at fair value on a non-recurring basis:
Impaired loans that are measured for impairment using the fair value of the collateral for collateral dependent loans, had a recorded investment of $2.1 million, with a valuation allowance of $761 thousand at March 31, 2012. Impaired loans that are measured for impairment using the fair value of the collateral for collateral dependent loans, had a recorded investment of $4.6 million, with a valuation allowance of $1.3 million at December 31, 2011.
The carrying amounts and estimated fair values of financial instruments at March 31, 2012 are as follows:
The carrying amounts and estimated fair values for financial instruments at December 31, 2011 are as follows:
The methods and assumptions, not previously presented, used to estimate fair values are described as follows:
Cash and cash equivalents: The carrying amounts of cash and short-term instruments approximate fair values and are classified as either Level 1 or Level 2.
FHLB and FRB stock: It is not practicable to determine the fair value of FHLB or FRB stock due to restrictions placed on its transferability.
Loans:For variable rate loans that reprice frequently and with no significant change in credit risk, fair values are based on carrying values resulting in a Level 3 classification. Fair values for other loans are estimated using discounted cash flow analyses, using interest rates currently being offered for loans with similar terms to borrowers of similar credit quality resulting in a Level 3 classification. Impaired loans are valued at the lower of cost or fair value as described previously. The methods utilized to estimate the fair value of loans do not necessarily represent an exit price.
Deposits:The fair values disclosed for demand deposits (e.g., interest and non-interest checking, savings and money market accounts) are, by definition, equal to the amount payable on demand at the reporting date, (i.e., the carrying amount) resulting in a Level 1 classification. The carrying amounts of certificates of deposit approximate the fair values at the reporting date resulting in Level 2 classification. Fair values for fixed rate certificates of deposit are estimated using a discounted cash flow calculation that applies interest rates currently being offered on certificates to a schedule of aggregated expected monthly maturities on time deposits resulting in a Level 2 classification.
Overnight borrowings: The carrying amounts of overnight borrowings, generally maturing within ninety days, approximate their fair values resulting in a Level 2 classification.
Federal Home Loan Bank advances: The fair values of the Corporation’s loan-term borrowings are estimated using discounted cash flow analyses based on the current borrowing rates for similar types of borrowing arrangements resulting in a Level 2 classification.
Accrued interest receivable/payable: The carrying amounts of accrued interest approximate fair value resulting in a Level 2 or Level 3 classification.
Off-balance sheet instruments: Fair values for off-balance sheet, credit-related financial instruments are based on fees currently charged to enter into similar agreements, taking into account the remaining terms of the agreements and the counterparties’ credit standing. The fair value of commitments is not material.
8. OTHER OPERATING EXPENSES
The following table presents the major components of other operating expenses for the periods indicated:
9. PREFERRED STOCK
On January 9, 2009, as part of the U.S. Department of the Treasury (the “Treasury”) Troubled Asset Relief Program (“TARP”) Capital Purchase Program, the Corporation sold 28,685 shares of the Corporation’s Fixed Rate Cumulative Perpetual Preferred Stock, Series A, having a liquidation preference of $1,000 per share, and a ten-year warrant to purchase up to 150,296 shares of the Corporation’s common stock, no par value at an exercise price of $28.63 per share, after adjusting for the five percent stock dividend declared on June 18, 2009, for an aggregate purchase price of $28.7 million in cash, allocated $1.6 million to warrants and $27.1 million to preferred stock.
On January 6, 2010 and March 2, 2011, the Corporation redeemed 25 percent of the preferred shares issued under the Treasury’s CPP, each time repaying approximately $7.2 million to the Treasury, including accrued and unpaid dividends of approximately $51 thousand and $17 thousand, respectively. As a result of the repurchase, the accretion related to the preferred stock was accelerated and approximately $330 thousand and $246 thousand was recorded as a reduction to retained earnings in the first quarters of 2010 and 2011, respectively. The Corporation’s redemption of the shares was not subject to additional conditions or stipulations from the Treasury.
On January 11, 2012, the Corporation redeemed the remaining 50 percent of the preferred shares issued under the Treasury’s CPP, repaying approximately $14.5 million to the Treasury, including accrued and unpaid dividends of approximately $112 thousand. The Corporation’s redemption of the shares was not subject to additional conditions or stipulations from the Treasury. As a result of the repurchase, the accretion related to the preferred stock was accelerated and approximately $362 thousand was recorded as a reduction to retained earnings in the first quarter of 2012.
The 150,296 common share warrant remained outstanding after the redemption; however, the Corporation paid $110 thousand to the U.S. Treasury on April 5, 2012 to repurchase it.
10. ACCUMULATED OTHER COMPREHENSIVE INCOME
The following is a summary of the accumulated other comprehensive income balances, net of tax:
Item 2
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
GENERAL:The following discussion and analysis contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Such statements are not historical facts and include expressions about management’s view of future interest income and net loans, management’s confidence and strategies and management’s expectations about new and existing programs and products, relationships, opportunities and market conditions. These statements may be identified by such forward-looking terminology as “expect”, “look”, “believe”, “anticipate”, “may”, “will”, or similar statements or variations of such terms. Actual results may differ materially from such forward-looking statements. Factors that may cause actual results to differ materially from those contemplated by such forward-looking statements include, among others, those risk factors identified in the Corporation’s Form 10-K for the year ended December 31, 2011 and the following:
The Corporation assumes no responsibility to update such forward-looking statements in the future even if experience shows that the indicated results or events will not be realized. Although we believe that the expectations reflected in the forward-looking statements are reasonable, the Corporation cannot guarantee future results, levels of activity, performance, or achievements.
CRITICAL ACCOUNTING POLICIES AND ESTIMATES: Management’s Discussion and Analysis of Financial Condition and Results of Operations is based upon the Corporation’s consolidated financial statements, which have been prepared in accordance with U.S. generally accepted accounting principles. The preparation of these financial statements requires the Corporation to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses. Note 1 to the Corporation’s Audited Consolidated Financial Statements for the year ended December 31, 2011, contains a summary of the Corporation’s significant accounting policies.
Management believes that the Corporation’s policy with respect to the methodology for the determination of the allowance for loan losses involves a higher degree of complexity and requires management to make difficult and subjective judgments, which often requires assumptions or estimates about highly uncertain matters. Changes in these judgments, assumption or estimates could materially impact results of operations. This critical policy and its application are periodically reviewed with the Audit Committee and the Board of Directors.
The provision for loan losses is based upon management’s evaluation of the adequacy of the allowance, including an assessment of known and inherent risks in the portfolio, giving consideration to the size and composition of the loan portfolio, actual loan loss experience, level of delinquencies, detailed analysis of individual loans for which full collectability may not be assured, the existence and estimated fair value of any underlying collateral and guarantees securing the loans, and current economic and market conditions.
Although management uses the best information available, the level of the allowance for loan losses remains an estimate, which is subject to significant judgment and short-term change. Various regulatory agencies, as an integral part of their examination process, periodically review the Corporation’s allowance for loan losses. Such agencies may require the Corporation to make additional provisions for loan losses based upon information available to them at the time of their examination. Furthermore, the majority of the Corporation’s loans are secured by real estate in the State of New Jersey. Accordingly, the collectability of a substantial portion of the carrying value of the Corporation’s loan portfolio is susceptible to changes in local market conditions and may be adversely affected should real estate values continue to decline or New Jersey experiences continuing adverse economic conditions. Future adjustments to the allowance for loan losses may be necessary due to economic, operating, regulatory and other conditions beyond the Corporation’s control.
The Corporation accounts for its securities in accordance with “Accounting for Certain Investments in Debt and Equity Securities,” which was codified into ASC 320. Debt securities are classified as held to maturity and carried at amortized cost when management has the positive intent and ability to hold them to maturity. Debt securities are classified as available for sale when they might be sold before maturity due to changes in interest rates, prepayment, risk, liquidity or other factors. Equity securities with readily determinable fair values are classified as available for sale. Securities available for sale are carried at fair value, with unrealized holding gains and losses reported in other comprehensive income, net of tax.
For declines in the fair value of securities below their cost that are other-than-temporary, the amount of impairment is split into two components – other-than-temporary impairment related to other factors, which is recognized in other comprehensive income and other-than-temporary impairment related to credit loss, which must be recognized in the income statement. The credit loss is defined as the difference between the present value of the cash flows expected to be collected and the amortized cost basis. In estimating other-than-temporary losses on a quarterly basis, management considers the length of time and extent that fair value has been less than cost; the financial condition and near-term prospects of the issuer; and whether the Corporation has the intent to sell these securities or it is likely that it will be required to sell the securities before their anticipated recovery.
Securities are evaluated on at least a quarterly basis to determine whether a decline in their values is other-than-temporary. To determine whether a loss in value is other-than-temporary, management utilizes criteria such as the reasons underlying the decline, the magnitude and the duration of the decline and whether the Corporation intends to sell or is likely to be required to sell the security before its anticipated recovery. “Other-than-temporary” is not intended to indicate that the decline is permanent, but indicates that the prospects for a near-term recovery of value is not necessarily favorable, or that there is a lack of evidence to support a realizable value equal to or greater than the carrying value of the investment. The Corporation recognized no other-than-temporary impairment charges in the first quarters of 2012 and 2011.
EXECUTIVE SUMMARY: For the first quarter of 2012, the Corporation recorded net income of $3.1 million, an increase of $942 thousand, compared to the same quarter of 2011. Diluted earnings per common share, after giving effect for the preferred dividend, were $0.30 in the first quarter of 2012 and $0.18 in the same quarter of 2011. For the three months ended March 31, 2012, annualized return on average assets was 0.78 percent and annualized return on average common equity was 9.47 percent. The increase in 2012 earnings per share was due to an increase in net interest income, net gains on securities transactions and trust fee income, a decline in the provision for loan losses, a decrease in operating expenses and a decline in the dividends and accretion on preferred stock as a result of the 2012 redemption of the remaining preferred shares issued under the Treasury’s CPP, offset by a decline in noninterest income.
Net interest income, on a fully tax-equivalent basis, was $12.9 million and $12.2 million for the first quarters of 2012 and 2011, respectively, an increase of $670 thousand or 5.5 percent. The net interest margin, on a fully tax-equivalent basis, was 3.54 percent for both quarters ended March 31, 2012 and 2011.
Average loans totaled $1.05 billion for the first quarter of 2012, increasing $115.9 million or 12.4 percent from $937.1 million for the same quarter of 2011. The yield on loans was 4.53 percent and 5.01 percent for the quarters ended March 31, 2012 and 2011, respectively, a decline of 48 basis points from the 2011 quarter to the 2012 quarter.
For the three months ended March 31, 2012, average deposits were $1.42 billion, as compared to $1.34 billion for the same quarter of 2011, rising almost $72.4 million or 5.4 percent. The average cost of interest-bearing deposits declined 26 basis points to 0.37 percent for the first quarter of 2012 from 0.63 percent for the same quarter in 2011.
CONTRACTUAL OBLIGATIONS: For a discussion of our contractual obligations, see the information set forth in the Corporation’s 2011 Annual Report under the heading “Management’s Discussion and Analysis – Contractual Obligations” which is incorporated herein by reference.
OFF-BALANCE SHEET ARRANGEMENTS: For a discussion of our off-balance sheet arrangements, see the information set forth in the Corporation’s 2011 Annual Report under the heading “Management’s Discussion and Analysis – Off-Balance Sheet Arrangements” which is incorporated herein by reference.
EARNINGS ANALYSIS
NET INTEREST INCOME: For the first quarter of 2012, the Corporation recorded net interest income, on a tax-equivalent basis, of $12.9 million as compared to $12.2 million for the same quarter of 2011, an increase of $670 thousand or 5.5 percent. For both of the quarters ended March 31, 2012 and 2011, the net interest margin was 3.54 percent. During the first quarter of 2012, rates were lower on new loans, compared to the rates on loans that are maturing or paying down; however, the growth in the loan portfolio contributed to a steady margin. Additionally, the Corporation continued to lower average funding costs in core deposits, as well as certificates of deposits repricing at lower market rates or transferred to other, lower-costing deposit products.
Average investments, federal funds sold and interest-earning deposits totaled $422.2 million for the first quarter of 2012, declining $39.5 million, or 8.6 percent, from the $461.7 million recorded for the same quarter in 2011. The decline in these categories primarily funded loan growth.
Loans averaged $1.05 billion and $937.1 million for the first quarters of 2012 and 2011, respectively, increasing $115.9 million, or 12.4 percent, when compared to last year’s quarter. During the first quarter of 2012, much of the growth was in residential mortgages as the portfolio averaged $511.8 million, increasing $82.4 million or 19.2 percent over the first quarter of 2011. The commercial mortgage portfolio averaged $337.9 million, increasing $52.3 million or 18.3 percent when compared to the year ago period. The Corporation has increased its emphasis on multi-family lending as well as continuing to provide mortgage loans on a variety of commercial properties to creditworthy borrowers. For the first quarters of 2012 and 2011, home equity loans averaged $49.0 million and $46.0 million, respectively, rising $3.0 million or 6.6 percent. The commercial construction portfolio averaged $13.4 million for the first three months of 2012, declining $10.5 million, or 43.9 percent, from the same period in 2011, due to the conversion of some loans to permanent loans and also due to the resolution of some problem loans. The commercial loan portfolio averaged $120.5 million and $132.0 million, for the first quarters of 2012 and 2011, respectively, declining $11.4 million, or 8.7 percent, from the prior year, while the installment loan portfolio averaged $19.6 million for the both of the first quarter of 2012 and 2011. Management is encouraged to have shown increases in the loan portfolio for the last five quarters.
Total deposits averaged $1.42 billion and $1.34 billion, for the three months ended March 31, 2012 and 2011, respectively, increasing $72.4 million, or 5.4 percent, when comparing the 2012 period to the 2011 period. For the first quarter of 2012, interest-bearing checking accounts averaged $336.5 million as compared to $298.0 million for the same quarter in 2011, an increase of $38.5 million, or 12.9 percent. Non-interest bearing demand deposits averaged $275.2 million and $222.4 million for the first quarters of 2012 and 2011, respectively, increasing of $52.7 million, or 23.7 percent. Checking growth is attributable to the Corporation’s continual focus on business and personal core deposit growth coupled with the Corporation’s focus on select municipalities within its branch market areas. Money market accounts decreased $6.1 million to an average of $516.4 million for the three months ended March 31, 2012 as compared to an average of $522.5 million for the same period in 2011. For the first quarter of 2012, savings accounts averaged $94.7 million, increasing $12.6 million or 15.3 percent from the same quarter of 2011. In a lower or uncertain interest rate environment, certain customers tend to deposit funds in savings and money market accounts to wait for a higher or a more certain rate environment, resulting in increases to the savings and money market balances. Certificates of deposit averaged $194.0 million for the first quarter of 2012 as compared to $219.4 million for the same 2011 period, declining $25.4 million, or 11.6 percent. The Corporation has opted not to pay higher rates on maturing certificates of deposit. The Corporation believes it has ample liquidity from core deposits, principal pay downs on loans and maturing or called investments. Average overnight borrowings at the Federal Home Loan Bank increased to $19.6 million in the first three months of 2012, while other borrowings decreased $6.4 million to $17.6 million for the first quarter of 2012, in each case, compared to the first quarter of 2011.
On a tax-equivalent basis, average yields on interest-earning assets declined 22 basis points to 3.90 percent for the first quarter of 2012, from 4.12 percent for the same quarter of 2011. For the first quarter of 2012, average yields earned on investment securities were 2.43 percent as compared to 2.49 percent for the same period in the prior year, a decline of six basis points. Average yields on the loan portfolio were 4.53 percent and 5.01 percent, for the first quarters of 2012 and 2011, respectively, reflecting a 48 basis point decline.
The cost of funds, including the effect of noninterest-bearing demand deposits, was 0.36 percent and 0.59 percent for the first quarters of 2012 and 2011, respectively, decreasing 23 basis points. For the first quarter of 2012, the average cost of interest-bearing checking deposits was 0.13 percent, declining 28 basis points from the same period in 2011. The cost of money market products averaged 0.24 percent for the three months ended March 31, 2012, declining 24 basis points, while certificates of deposit costs averaged 1.23 percent, declining 19 basis points, each as compared to the same period in 2011.
The effect of the sustained low rate environment on market rates and the Corporation’s repricing of its assets and liabilities contributed to the decline in yields and costs of the Corporation’s interest-bearing assets and liabilities. The growth of the loan portfolio funded by the decline in lower yielding investments and interest-earning deposits enabled the Corporation to maintain its margin at 3.54 percent for the first quarter of 2012 compared to the first quarter of 2011.
The following tables reflect the components of net interest income for the periods indicated:
Average Balance Sheet
Unaudited
Three Months Ended
(Tax-Equivalent Basis, Dollars in Thousands)
OTHER INCOME: Other income, excluding fee income from PGB Trust and Investments, totaled $1.55 million for the first quarter of 2012, as compared to $1.45 million for the same quarter in 2011. Net securities gains from strategic sales of securities of $390 thousand and $196 thousand were recorded for the first quarters of 2012 and 2011, respectively. For the first quarter of 2012, income earned on bank owned life insurance was $264 thousand, an increase of $13 thousand or 5.2 percent, from the income earned in the same quarter of 2011, which was attributable to an additional purchase of $3.0 million in the first quarter of 2012.
OPERATING EXPENSES: For the first quarters of 2012 and 2011, the Corporation recorded operating expenses of $11.1 million and $11.2 million, respectively, a decline of $163 thousand or 1.4 percent. Salary and benefit expense was $6.1 million for the quarter ended March 31, 2012, as compared to $6.0 million in the same quarter of 2011, an increase of $140 thousand or 2.3 percent, due to normal salary increases and additional health insurance costs. For the first quarter of 2012, FDIC expense decreased $252 thousand to $352 thousand as compared to $604 thousand for the same quarter of 2011 due to a regulatory change in the calculation of the assessment, which became effective during the second quarter of 2011. Professional and legal fees declined approximately $65 thousand or 21.8 percent from $298 thousand in the first quarter of 2011 to $233 thousand in the same quarter of 2012. Loan expense, which includes costs associated with problem loan expense, increased by approximately $86 thousand or 87.8 percent from the first quarter of 2011 to the first quarter of 2012; while the Corporation recorded expense on other real estate owned of $149 thousand and $7 thousand for the first three months of 2012 and 2011, respectively, as the Corporation continued to work out various problem assets. Expenses for telephone, advertising, stationery and supplies and postage declined, in part, due to cost-saving initiatives.
The following table presents the components of operating expenses for the periods indicated:
PGB TRUST AND INVESTMENTS: PGB Trust and Investments, a division of the Bank, has served in the roles of executor and trustee while providing investment management, custodial, tax, retirement and financial services to its growing client base. Officers from PGB Trust and Investments are available to provide trust and investment services at the Bank’s corporate headquarters in Bedminster, New Jersey, and its Clinton, Morristown and Summit, New Jersey branches as well as at an office located in Bethlehem, Pennsylvania.
The market value of trust assets under administration for PGB Trust and Investments was approximately $2.06 billion at March 31, 2012 as compared to $1.99 billion at March 31, 2011.
PGB Trust and Investments generated fee income of $3.2 million for the first quarter of 2012 as compared to $2.7 million for the same quarter of 2011, an increase of $458 thousand or 16.9 percent. The increase reflects increased relationships, a greater mix of higher margin business and improvement in the market value of assets under management.
While the “Operating Expenses” section above offers an overall discussion of the Corporation’s expenses including the Trust Division, other expenses relative to PGB Trust and Investments totaled $2.3 million and $2.5 million for the first quarters of 2012 and 2011, respectively, a decrease of $216 thousand or 8.5 percent. For the first quarter of 2012, salaries and benefits expense increased $30 thousand, or 2.5 percent when compared to the same period in 2011. Also, during the same time periods, operating expenses decreased $246 thousand, or 18.6 percent, due to various operating efficiencies.
PGB Trust and Investments currently generates adequate revenue to support the salaries, benefits and other expenses of the Division; however, Management believes that the Bank generates adequate liquidity to support the expenses of the Division should it be necessary.
NONPERFORMING ASSETS: Other real estate owned (OREO), loans past due in excess of 90 days and still accruing, and nonaccrual loans are considered nonperforming assets. These assets totaled $22.0 million and $26.3 million at March 31, 2012 and December 31, 2011, respectively. The decline is due to the sale of the Corporation’s largest commercial OREO property, which was completed during the first quarter of 2012.
The following table sets forth asset quality data on the dates indicated (in thousands):
(A) At March 31, 2012, $26.6 million, December 31, 2011, $26.2 million, September 30, 2011, $27.5 million, June 30, 2011, $23.1 million and at March 31, 2011, $26.1 million of the classified loans were also considered impaired.
We do not hold, have not made nor invested in subprime loans or “Alt-A” type mortgages.
PROVISION FOR LOAN LOSSES: The provision for loan losses was $1.5 million and $2.0 million for the first quarters of 2012 and 2011, respectively. The amount of the loan loss provision and the level of the allowance for loan losses are based upon a number of factors including Management’s evaluation of probable losses inherent in the portfolio, after consideration of appraised collateral values, financial condition and past credit history of the borrowers as well as prevailing economic conditions. Commercial credits carry a higher risk profile, which is reflected in Management’s determination of the proper level of the allowance for loan losses.
The provision for loan losses was primarily made for the changes in the specific reserves on impaired loans, net charge-offs and for the impact of the net charge-off trends and environmental factors on the general reserve.
Of the $1.5 million quarterly provision for loan losses, $926 thousand was made for net charge-offs as approximately $301 thousand of the $1.2 million in net charge-offs was specifically reserved on impaired loans at December 31, 2011. In addition, approximately $252 thousand was added for specific reserves on impaired loans due to new loans being added to the impaired category and additional information surfacing during the quarter on existing impaired loans. The balance of the quarterly loan loss provision caused the general reserves to increase by $322 thousand, primarily a result of loan growth in the residential mortgage, multifamily and investment commercial real estate loan portfolios. There was a continued decrease in the construction loan portfolio, which required fewer reserves. There was also some adjustment between categories due to updated historical loss information with a required increase in owner-occupied commercial real estate being largely offset by a decrease in the commercial and industrial portfolio.
The overall allowance for loan losses was $13.5 million as of March 31, 2012 as compared to $13.2 million at December 31, 2011. As a percentage of loans, the allowance for loan losses was 1.25 percent as of March 31, 2012 as compared to 1.27 percent at December 31, 2011. The specific reserves on impaired loans have decreased to $1.2 million at March 31, 2012 as compared to $1.3 million as of December 31, 2011. Total impaired loans were $26.6 million and $26.2 million as of March 31, 2012 and December 31, 2011, respectively. The general component of the allowance increased from $11.9 million at December 31, 2011 to $12.3 million at March 31, 2012. As a percentage of non-impaired loans, the general reserve was 1.17 percent and 1.18 percent at March 31, 2012 and December 31, 2011, respectively. Based on its analysis, Management believes the allowance for loan loss is a reasonable estimate for probable incurred losses in the portfolio as of March 31, 2012.
A summary of the allowance for loan losses for the quarterly periods indicated follows:
INCOME TAXES: For the first quarter of 2012, income tax expense as a percentage of pre-tax income was 39 percent as compared to 32 percent for the first quarter of 2011. The increase was due to higher pre-tax income, which totaled $5.0 million and $3.1 million for the first quarters of 2012 and 2011, respectively.
CAPITAL RESOURCES: At March 31, 2012, the Corporation’s total shareholders’ equity was $111.1 million as compared to $123.0 million at December 31, 2011. The primary reason for the decrease is the Corporation’s repayment of the remaining shares of preferred stock issued under the Treasury’s Capital Purchase Program in the first quarter of 2012.
The Corporation, through the Bank, is subject to various regulatory capital requirements administered by the Federal banking regulatory agencies. Failure to meet minimum capital requirements can initiate certain mandatory and possibly additional discretionary actions by regulators that, if undertaken, could have a direct material effect on the Corporation and the Bank’s consolidated financial statements.
Quantitative measures established by regulation to ensure capital adequacy require the Bank to maintain minimum amounts and ratios of Total and Tier I capital to risk-weighted assets and of Tier I capital to average assets. For the first quarter of 2012, the Bank’s capital ratios met or exceeded the minimum to be categorized as well capitalized under the regulatory framework for prompt corrective action.
Tier 1 Capital consists of common stock, retained earnings, minority interests in the equity accounts of consolidated subsidiaries non-cumulative preferred stock, and cumulative preferred stock issued to the U.S. Treasury in the Capital Purchase Program, less goodwill and certain other intangibles. The remainder of capital may consist of other preferred stock, certain other instruments and a portion of the allowance for loan loss. At March 31, 2012, the Bank’s Tier 1 Capital and Total Capital ratios to risk-weighted assets were 11.00 percent and 12.26 percent, respectively, both in excess of the well-capitalized standards of 6.0 percent and 10.0 percent, respectively.
In addition, the Federal Reserve Board has established minimum leverage ratio guidelines. The Bank’s leverage ratio at March 31, 2012, was 6.87 percent, in excess of the well-capitalized standard of 5.0 percent.
At March 31, 2012, the Corporation’s Tier 1 Capital and Total Capital ratios to risk-weighted assets were 11.21 percent and 12.46 percent, respectively, while the Corporation’s leverage ratio was 7.00 percent.
In addition, at March 31, 2012, the Corporation’s common equity ratio was 7.04 percent compared to 6.80 percent at December 31, 2011 and 6.46 percent at March 31, 2011.
LIQUIDITY:Liquidity refers to an institution’s ability to meet short-term requirements including loan fundings, deposit withdrawals and maturing obligations. Principal sources of liquidity include cash, temporary investments, securities available for sale, deposit inflows and loan repayments.
Management actively monitors and manages the Corporation’s liquidity position and feels it is sufficient to meet future needs. Cash and cash equivalents, including federal funds sold and interest-earning deposits, totaled $33.4 million at March 31, 2012. In addition, the Corporation has $281.8 million in securities designated as available for sale at March 31, 2012. These securities can be sold in response to liquidity concerns. In addition, the Corporation generates significant liquidity from scheduled and unscheduled principal repayments of loans and mortgage-backed securities.
Another source of liquidity is borrowing capacity. At March 31, 2012, unused short-term or overnight borrowing commitments totaled $456.3 million from the FHLB and $28.7 million from correspondent banks.
RECENT ACCOUNTING PRONOUNCEMENTS:
The FASB has issued Accounting Standards Update (ASU) No. 2011-05, Comprehensive Income (Topic 220): Presentation of Comprehensive Income. This ASU amends the FASB Accounting Standards CodificationTM (Codification) to allow an entity the option to present the total of comprehensive income, the components of net income, and the components of other comprehensive income either in a single continuous statement of comprehensive income or in two separate but consecutive statements. In both choices, an entity is required to present each component of net income along with total net income, each component of other comprehensive income along with a total for other comprehensive income, and a total amount for comprehensive income. ASU 2011-05 eliminates the option to present the components of other comprehensive income as part of the statement of changes in stockholders’ equity. The amendments to the Codification in the ASU do not change the items that must be reported in other comprehensive income or when an item of other comprehensive income must be reclassified to net income. ASU 2011-05 should be applied retrospectively. For public entities, the amendments are effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The provisions of this update did not have a material impact on the Corporation’s consolidated financial position, results of operations or cash flows; however, new disclosures were added.
The FASB has issued Accounting Standards Update (ASU) No. 2011-04, Fair Value Measurement (Topic 820): Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and IFRSs. This ASU represents the converged guidance of the FASB and the IASB (the Boards) on fair value measurement. The collective efforts of the Boards and their staffs, reflected in ASU 2011-04, have resulted in common requirements for measuring fair value and for disclosing information about fair value measurements, including a consistent meaning of the term “fair value.” The Boards have concluded the common requirements will result in greater comparability of fair value measurements presented and disclosed in financial statements prepared in accordance with U.S. GAAP and IFRSs. The amendments to the FASB Accounting Standards Codification™ (Codification) in this ASU are to be applied prospectively. For public entities, the amendments are effective during interim and annual periods beginning after December 15, 2011. Early application by public entities is not permitted. The provisions of this update did not have a material impact on the Corporation’s consolidated financial position, results of operations or cash flows; however, new disclosures were added.
ITEM 3. Quantitative and Qualitative Disclosures about Market Risk
There have been no material changes to information required regarding quantitative and qualitative disclosures about market risk from the end of the preceding fiscal year to the date of the most recent interim financial statements (March 31, 2012).
ITEM 4. Controls and Procedures
The Corporation’s Chief Executive Officer and Chief Financial Officer, with the assistance of other members of the Corporation’s management, have evaluated the effectiveness of the Corporation’s disclosure controls and procedures (as defined in Rule 13a-15(e) or Rule 15d-15(e) under the Exchange Act) as of the end of the period covered by this Quarterly Report on Form 10-Q. Any controls and procedures, no matter how well designed and operated, can only provide reasonable assurance of achieving the desired control objectives. Based on such evaluation, the Corporation’s Chief Executive Officer and Chief Financial Officer have concluded that the Corporation’s disclosure controls and procedures are effective.
The Corporation’s Chief Executive Officer and Chief Financial Officer have also concluded that there have not been any changes in the Corporation’s internal control over financial reporting during the quarter ended March 31, 2012 that have materially affected, or are reasonably likely to materially affect, the Corporation’s internal control over financial reporting.
The Corporation’s management, including the CEO and CFO, does not expect that our disclosure controls and procedures of our internal controls will prevent all errors and all fraud. A control system, no matter how well conceived and operated, provides reasonable, not absolute, assurance that the objectives of the control system are met. The design of a control system reflects resource constraints; the benefits of controls must be considered relative to their costs. Because there are inherent limitations in all control systems, no evaluation of controls can provide absolute assurance that all control issues and instances of fraud, if any, within the Corporation have been or will be detected. These inherent limitations include the realities that judgments in decision-making can be faulty that breakdowns occur because of simple error or mistake. Controls can be circumvented by the individual acts of some persons, by collusion of two or more people, or by management override of the controls. The design of any system of controls is based in part upon certain assumptions about the likelihood of future events. There can be no assurance that any design will succeed in achieving its stated goals under all future conditions; over time, control may become inadequate because of changes in conditions or deterioration in the degree of compliance with the policies or procedures. Because of the inherent limitations in a cost-effective control system, misstatements due to error or fraud may occur and not be detected.
PART II. OTHER INFORMATION
ITEM 1A. Risk Factors
There were no material changes in the Corporation’s risk factors during the three months ended March 31, 2012 from the risk factors disclosed in Part I, Item 1A of the Corporation’s Annual Report on Form 10-K for the year ended December 31, 2011.
ITEM 2. Unregistered Sales of Equity Securities and Use of Proceeds
There were no repurchases or unregistered sales of the Corporation’s stock during the quarter.
ITEM 6. Exhibits
* As provided in Rule 406T of Regulation S-T, this information is deemed not filed or part of a registration statement or prospectus for purposes of Sections 11 and 12 of the Securities Act of 1933 and is deemed not filed for the purposes of Section 18 of the Securities Exchange Act of 1934, and otherwise is not subject to liability under these sections.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
EXHIBIT INDEX
Certification Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act Of 2002, signed by Frank A. Kissel, Chief Executive Officer of the Corporation, and Jeffrey J. Carfora, Chief Financial Officer of the Corporation.
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