10-K 1 v304291_10k.htm FORM 10-K

  

  

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549



 

FORM 10-K



 

 
(Mark One)     
x   ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934.

For the Fiscal Year Ended December 31, 2011

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: 000-11486



 

CENTER BANCORP, INC.

(Exact Name of Registrant as Specified in Its Charter)

 
New Jersey   52-1273725
(State or Other Jurisdiction of
Incorporation or Organization)
  (IRS Employer
Identification Number)

2455 Morris Avenue, Union, NJ 07083-0007

(Address of Principal Executive Offices, Including Zip Code)

(908) 688-9500

(Registrant’s Telephone Number, Including Area Code)



 

Securities registered pursuant to Section 12(b) of the Exchange Act:

Common Stock, No Par Value

(Title of Class)

Securities registered pursuant to Section 12(g) of the Exchange Act: None



 

Indicate by checkmark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.Yes o No x

Indicate by checkmark if the registrant is not required to file reports pursuant to Section 13 or 15(d) of the Act. Yes o No x

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 Regulation S-T (232,405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant has required to submit and post such files.) Yes x No o

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of the Form 10-K or any amendment to the Form 10-K. 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 Securities Exchange Act of 1934.

     
Large Accelerated Filer o   Accelerated Filer x   Non-Accelerated o   Small Reporting Company o

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act) Yes o or No x

The aggregate market value of the voting and non-voting common equity held by non-affiliates computed by reference to the price at which the common equity was last sold or the average bid and ask price of such common equity, as of the last business day of the registrant’s most recently completed second fiscal quarter — $126.4 million

Shares Outstanding on March 1, 2012
Common Stock, no par value: 16,332,327 shares

DOCUMENTS INCORPORATED BY REFERENCE

Definitive proxy statement in connection with the 2012 Annual Stockholders Meeting to be filed with the Commission pursuant to Regulation 14A will be incorporated by reference in Part III.

 

 


 
 

TABLE OF CONTENTS

CENTER BANCORP, INC.
  
TABLE OF CONTENTS

 
  Page
PART I
 

Item 1.

Business

    1  

Item 1A.

Risk Factors

    16  

Item 1B.

Unresolved Staff Comments

    23  

Item 2.

Properties

    23  

Item 3.

Legal Proceedings

    24  

Item 3A.

Executive Officers of the Registrant

    25  

Item 4.

Mine Safety Disclosures

    26  
PART II
 

Item 5.

Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

    27  

Item 6.

Selected Financial Data

    29  

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

    32  

Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

    65  

Item 8.

Financial Statements and Supplementary Data:

    F-1  
Report of Independent Registered Public Accounting Firm     F-2  
Center Bancorp, Inc. and Subsidiaries:
        
Consolidated Statements of Condition     F-3  
Consolidated Statements of Income     F-4  
Consolidated Statements of Changes in Stockholders’ Equity     F-5  
Consolidated Statements of Cash Flows     F-6  
Notes to Consolidated Financial Statements     F-8  

Item 9.

Changes in and Disagreements With Accountants on Accounting and Financial Disclosure

    66  

Item 9A.

Controls and Procedures

    66  

Item 9B.

Other Information

    69  
PART III
 

Item 10.

Directors, Executive Officers and Corporate Governance

    70  

Item 11.

Executive Compensation

    70  

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

    70  

Item 13.

Certain Relationships and Related Transactions, and Director Independence

    70  

Item 14.

Principal Accountant Fees and Services

    70  
PART IV
 

Item 15.

Exhibits, Financial Statements Schedules

    71  
Signatures     74  

Information included in or incorporated by reference in this Annual Report on Form 10-K, other filings with the Securities and Exchange Commission, the Corporation’s press releases or other public statements, contain or may contain forward looking statements. Please refer to a discussion of the Corporation’s forward looking statements and associated risks in “Item 1 — Business — Historical Development of Business” and “Item 1A — Risk Factors” in this Annual Report on Form 10-K.

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CENTER BANCORP, INC.
FORM 10-K
  
PART I

Item 1. Business

Historical Development of Business

This report, in Item 1, Item 7 and elsewhere, includes forward-looking statements within the meaning of Sections 27A of the Securities Act of 1933, as amended, and 21E of the Securities Exchange Act of 1934, as amended, that involve inherent risks and uncertainties. This report contains certain forward-looking statements with respect to the financial condition, results of operations, plans, objectives, future performance and business of Center Bancorp, Inc. and its subsidiaries, including statements preceded by, followed by or that include words or phrases such as “believes,” “expects,” “anticipates,” “plans,” “trend,” “objective,” “continue,” “remain,” “pattern” or similar expressions or future or conditional verbs such as “will,” “would,” “should,” “could,” “might,” “can,” “may” or similar expressions. There are a number of important factors that could cause future results to differ materially from historical performance and these forward-looking statements. Factors that might cause such a difference include, but are not limited to: (1) competitive pressures among depository institutions may increase significantly; (2) changes in the interest rate environment may reduce interest margins; (3) prepayment speeds, loan origination and sale volumes, charge-offs and loan loss provisions may vary substantially from period to period; (4) general economic conditions may be less favorable than expected; (5) political developments, wars or other hostilities may disrupt or increase volatility in securities markets or other economic conditions; (6) legislative or regulatory changes or actions may adversely affect the businesses in which Center Bancorp, Inc. is engaged; (7) changes and trends in the securities markets may adversely impact Center Bancorp, Inc; (8) a delayed or incomplete resolution of regulatory issues could adversely impact our planning; (9) difficulties in integrating any businesses that we may acquire, which may increase our expenses and delay the achievement of any benefits that we may expect from such acquisitions; (10) the impact of reputation risk created by the developments discussed above on such matters as business generation and retention, funding and liquidity could be significant; and (11) the outcome of regulatory and legal investigations and proceedings may not be anticipated. Further information on other factors that could affect the financial results of Center Bancorp, Inc. are included in Item 1A of this Annual Report on Form 10-K and in Center Bancorp’s other filings with the Securities and Exchange Commission. These documents are available free of charge at the Commission’s website at http://www.sec.gov and/or from Center Bancorp, Inc. Center Bancorp, Inc. assumes no obligation to update forward-looking statements at any time.

Center Bancorp, Inc., a one-bank holding company, was incorporated in the state of New Jersey on November 12, 1982. Upon the acquisition of all outstanding shares of capital stock of Union Center National Bank (the “Bank”), its principal subsidiary, Center Bancorp, Inc. commenced operations on May 1, 1983. The holding company’s sole activity, at this time, is to act as a holding company for the Bank and other subsidiaries. As used herein, the term “Corporation” shall refer to Center Bancorp, Inc. and its direct and indirect subsidiaries and the term “Parent Corporation” shall refer to Center Bancorp, Inc. on an unconsolidated basis.

Center Bancorp, Inc. owns 100 percent of the voting shares of Center Bancorp, Inc. Statutory Trust II, through which it issued trust preferred securities. The trust exists for the exclusive purpose of (i) issuing trust securities representing undivided beneficial interests in the assets of the trust; (ii) investing the gross proceeds of the trust securities in $5.2 million of junior subordinated deferrable interest debentures (subordinated debentures) of the Corporation; and (iii) engaging in only those activities necessary or incidental thereto. These subordinated debentures and the related income effects are not eliminated in the consolidated financial statements as the statutory business trust is not consolidated in accordance with Financial Accounting Standards Board (“FASB”) FASB ASC 810-10 (previously FASB interpretation No. 46(R), “Consolidation of Variable Interest Entities.” Distributions on the subordinated debentures owned by the subsidiary trust have been classified as interest expense in the Consolidated Statements of Income. See Note 10 of the Consolidated Financial Statements.

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Except as described above, the Corporation’s wholly-owned subsidiaries are all included in the consolidated financial statements of Center Bancorp, Inc. These subsidiaries include an advertising subsidiary; an insurance subsidiary offering annuity products, property and casualty, life and health insurance, and various investment subsidiaries which hold, maintain and manage investment assets for the Corporation.

On February 1, 2012, the Bank entered into a Bank Purchase and Assumption Agreement (the “Agreement”) with Saddle River Valley Bancorp and Saddle River Valley Bank (“SRVB”). Under the Agreement, at closing, the Bank will purchase SRVB’s branches, located in Saddle River, New Jersey and Oakland, New Jersey, as well as substantially all of SRVB’s assets and SRVB’s deposit base, for an all-cash purchase price equal to 90% of SRVB’s adjusted stockholders’ equity at closing. The purchase price is expected to be between $10 million and $11 million. The Agreement provides for standard representations and warranties, indemnities and covenants. Closing is subject to customary conditions, including receipt of regulatory approval and approval of the transaction by the stockholders of Saddle River Valley Bancorp. It is anticipated that the transaction will close during the second quarter of 2012. Center Bancorp expects the transaction to be immediately accretive to earnings, excluding restructuring expenses.

SEC Reports and Corporate Governance

The Parent Corporation makes its Annual Report on Form 10-K, Quarterly Reports on Form 10-Q and Current Reports on Form 8-K and amendments thereto available on its website at www.centerbancorp.com without charge as soon as reasonably practicable after filing or furnishing them to the SEC. Also available on the website are the Corporation’s corporate code of ethics that applies to all of the Corporation’s employees, including principal officers and directors, and charters for the Audit Committee, Compensation Committee and Nominating Committee.

The Parent Corporation has filed the certifications of the Chief Executive Officer and Chief Financial Officer required pursuant to Section 302 of the Sarbanes-Oxley Act of 2002 with respect to the Parent Corporation’s Annual Report on Form 10-K as exhibits to this Report. Center Bancorp’s CEO submitted the required annual CEO’s Certification regarding the NASDAQ’s corporate governance listing standards, Section 12(a) CEO Certification, to the NASDAQ within the required time frame after the 2011 annual shareholders’ meeting.

Additionally, the Parent Corporation will provide without charge, a copy of its Annual Report on Form 10-K to any shareholder by mail. Requests should be sent to Center Bancorp, Inc, Attention: Shareholder Relations, 2455 Morris Avenue, Union, New Jersey, 07083.

Narrative Description of the Business

The Bank offers a broad range of lending, depository and related financial services to commercial, industrial and governmental customers. The Bank has full trust powers, enabling it to offer a variety of trust services to its customers. In the lending area, the Bank’s services include short and medium term loans, lines of credit, letters of credit, working capital loans, real estate construction loans and mortgage loans. In the depository area, the Bank offers demand deposits, savings accounts and time deposits. In addition, the Bank offers collection services, wire transfers, night depository and lock box services.

The Bank offers a broad range of consumer banking services, including interest bearing and non-interest bearing checking accounts, savings accounts, money market accounts, certificates of deposit, IRA accounts, Automated Teller Machine (“ATM”) accessibility using Star Systems, Inc. service, secured and unsecured loans, mortgage loans, home equity lines of credit, safe deposit boxes, Christmas club accounts, vacation club accounts, money orders and travelers’ checks.

The Bank, through its subsidiary, Center Financial Group LLC, provides financial services, including brokerage services, insurance and annuities, mutual funds and financial planning.

The Bank offers various money market services. It deals in U.S. Treasury and U.S. Governmental agency securities, certificates of deposit, commercial paper and repurchase agreements.

The Bank entered into a limited liability company operating agreement with Morris Property Company, LLC, a New Jersey limited liability company, during the fourth quarter of 2008. The purpose of Morris Property Company, LLC is to hold foreclosed assets.

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On August 20, 2010, the Bank formed UCNB 1031 Exchange, LLC, for the purpose of providing customers 1031 exchange services. In August of 2011, the Bank liquidated this business.

Competitive pressures affect the Corporation’s manner of conducting business. Competition stems not only from other commercial banks but also from other financial institutions such as savings banks, savings and loan associations, mortgage companies, leasing companies and various other financial service and advisory companies. Many of the financial institutions operating in the Corporation’s primary market are substantially larger and offer a wider variety of products and services than the Corporation.

Supervision and Regulation

The banking industry is highly regulated. Statutory and regulatory controls increase a bank holding company’s cost of doing business and limit the options of its management to deploy assets and maximize income. The following discussion is not intended to be a complete list of all the activities regulated by the banking laws or of the impact of such laws and regulations on the Corporation or its Bank subsidiary. It is intended only to briefly summarize some material provisions.

Bank Holding Company Regulation

Center Bancorp, Inc. is a bank holding company within the meaning of the Bank Holding Company Act of 1956 (the “Holding Company Act”). As a bank holding company, the Parent Corporation is supervised by the Board of Governors of the Federal Reserve System (“FRB”) and is required to file reports with the FRB and provide such additional information as the FRB may require. The Parent Corporation and it subsidiaries are subject to examination by the FRB.

The Holding Company Act prohibits the Corporation, with certain exceptions, from acquiring direct or indirect ownership or control of more than five percent of the voting shares of any company which is not a bank and from engaging in any business other than that of banking, managing and controlling banks or furnishing services to subsidiary banks, except that it may, upon application, engage in, and may own shares of companies engaged in, certain businesses found by the FRB to be so closely related to banking “as to be a proper incident thereto.” The Holding Company Act requires prior approval by the FRB of the acquisition by Center Bancorp, Inc. of more than five percent of the voting stock of any other bank. Satisfactory capital ratios and Community Reinvestment Act ratings and anti-money laundering policies are generally prerequisites to obtaining federal regulatory approval to make acquisitions. The policy of the FRB provides that a bank holding company is expected to act as a source of financial strength to its subsidiary bank and to commit resources to support the subsidiary bank in circumstances in which it might not do so absent that policy.

Acquisitions through Union Center National Bank require approval of the Office of the Comptroller of the Currency of the United States (“OCC”). The Holding Company Act does not place territorial restrictions on the activities of non-bank subsidiaries of bank holding companies. The Gramm-Leach-Bliley Act, discussed below, allows the Corporation to expand into insurance, securities, merchant banking activities, and other activities that are financial in nature.

The Riegle-Neal Interstate Banking and Branching Efficiency Act of 1994 (“Interstate Banking and Branching Act”) enables bank holding companies to acquire banks in states other than their home state, regardless of applicable state law. The Interstate Banking and Branching Act also authorizes banks to merge across state lines, thereby creating interstate banks with branches in more than one state. Under the legislation, each state had the opportunity to “opt-out” of this provision. Furthermore, a state may “opt-in” with respect to de novo branching, thereby permitting a bank to open new branches in a state in which the bank does not already have a branch. Without de novo branching, an out-of-state commercial bank can enter the state only by acquiring an existing bank or branch. The vast majority of states have allowed interstate banking by merger but have not authorized de novo branching.

New Jersey enacted legislation to authorize interstate banking and branching and the entry into New Jersey of foreign country banks. New Jersey did not authorize de novo branching into the state. However, under federal law, federal savings banks which meet certain conditions may branch de novo into a state, regardless of state law. The Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”, described in more detail below) removes the restrictions on interstate branching contained in the Interstate Banking and Branching Act, and allows national banks and state banks to establish branches

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in any state if, under the laws of the state in which the branch is to be located, a state bank chartered by that state would be permitted to establish the branch.

Regulation of Bank Subsidiary

The operations of the Bank are subject to requirements and restrictions under federal law, including requirements to maintain reserves against deposits, restrictions on the types and amounts of loans that may be granted, and limitations on the types of investments that may be made and the types of services which may be offered. Various consumer laws and regulations also affect the operations of the Bank. Approval of the Comptroller of the Currency is required for branching, bank mergers in which the continuing bank is a national bank and in connection with certain fundamental corporate changes affecting the Bank. There are various legal limitations, including Sections 23A and 23B of the Federal Reserve Act, which govern the extent to which a bank subsidiary may finance or otherwise supply funds to its holding company or its holding company’s non-bank subsidiaries. Under federal law, no bank subsidiary may, subject to certain limited exceptions, make loans or extensions of credit to, or investments in the securities of, its parent or the non-bank subsidiaries of its parent (other than direct subsidiaries of such bank which are not financial subsidiaries) or take their securities as collateral for loans to any borrower. Each bank subsidiary is also subject to collateral security requirements for any loans or extensions of credit permitted by such exceptions.

The Dodd-Frank Act

The Dodd-Frank Act, adopted in 2010, is expected to have a broad impact on the financial services industry, as a result of the significant regulatory and compliance changes made by the Dodd-Frank Act, including, among other things, (i) enhanced resolution authority over troubled and failing banks and their holding companies; (ii) increased capital and liquidity requirements; (iii) increased regulatory examination fees; (iv) changes to assessments to be paid to the FDIC for federal deposit insurance; and (v) numerous other provisions designed to improve supervision and oversight of, and strengthening safety and soundness for, the financial services sector. Additionally, the Dodd-Frank Act establishes a new framework for systemic risk oversight within the financial system to be distributed among new and existing federal regulatory agencies, including the Financial Stability Oversight Council, the Federal Reserve, the OCC and the FDIC. A summary of certain provisions of the Dodd-Frank Act is set forth below:

Minimum Capital Requirements.  The Dodd-Frank Act requires new capital rules and the application of the same leverage and risk-based capital requirements that apply to insured depository institutions to most bank holding companies. In addition to making bank holding companies subject to the same capital requirements as their bank subsidiaries, these provisions (often referred to as the Collins Amendment to the Dodd-Frank Act) were also intended to eliminate or significantly reduce the use of hybrid capital instruments, especially trust preferred securities, as regulatory capital. Under the Collins Amendment, trust preferred securities issued by a bank holding company such as Center Bancorp (with total consolidated assets between $500 million and $15 billion) before May 19, 2010 and treated as regulatory capital are grandfathered, but any such securities issued later are not eligible as regulatory capital. On June 14, 2011, the federal banking agencies published a final rule regarding minimum leverage and risk-based capital requirements for banks and bank holding companies consistent with the requirements of the Dodd-Frank Act. The Dodd-Frank Act also requires banking regulators to seek to make capital standards countercyclical, so that the required levels of capital increase in times of economic expansion and decrease in times of economic contraction.
The Consumer Financial Protection Bureau (“Bureau”).  The Dodd-Frank Act created the Bureau within the Federal Reserve. The Bureau is tasked with establishing and implementing rules and regulations under certain federal consumer protection laws with respect to the conduct of providers of certain consumer financial products and services. The Bureau has rulemaking authority over many of the statutes governing products and services offered to bank consumers. In addition, the Dodd-Frank Act permits states to adopt consumer protection laws and regulations that are more stringent than those regulations promulgated by the Bureau and state attorneys general are permitted to enforce consumer protection rules adopted by the Bureau against state-chartered institutions. The

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Consumer Financial Protection Bureau has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets. Institutions with $10 billion or less in assets, such as the Bank, will continue to be examined for compliance with the consumer laws by their primary bank regulators.
Deposit Insurance.  The Dodd-Frank Act makes permanent the $250,000 deposit insurance limit for insured deposits. Amendments to the Federal Deposit Insurance Act also revise the assessment base against which an insured depository institution’s deposit insurance premiums paid to the Deposit Insurance Fund (“DIF”) will be calculated. Under the amendments, the assessment base will no longer be the institution’s deposit base, but rather its average consolidated total assets less its average tangible equity during the assessment period. Additionally, the Dodd-Frank Act makes changes to the minimum designated reserve ratio of the DIF, increasing the minimum from 1.15 percent to 1.35 percent of the estimated amount of total insured deposits and eliminating the requirement that the FDIC pay dividends to depository institutions when the reserve ratio exceeds certain thresholds. In December 2010, the FDIC increased the designated reserve ratio to 2.0 percent.
Shareholder Votes.  The Dodd-Frank Act requires publicly traded companies like Center Bancorp to give shareholders a non-binding vote on executive compensation and so-called “golden parachute” payments in certain circumstances. The Dodd-Frank Act also authorizes the SEC to promulgate rules that would allow shareholders to nominate their own candidates using a company’s proxy materials.
Transactions with Affiliates.  The Dodd-Frank Act enhances the requirements for certain transactions with affiliates under Section 23A and 23B of the Federal Reserve Act, including an expansion of the definition of “covered transactions” and increasing the amount of time for which collateral requirements regarding covered transactions must be maintained. These requirements became effective during 2011.
Transactions with Insiders.  Insider transaction limitations are expanded through the strengthening of loan restrictions to insiders and the expansion of the types of transactions subject to the various limits, including derivative transactions, repurchase agreements, reverse repurchase agreements and securities lending or borrowing transactions. Restrictions are also placed on certain asset sales to and from an insider to an institution, including requirements that such sales be on market terms and, in certain circumstances, approved by the institution’s board of directors. These requirements became effective during 2011.
Enhanced Lending Limits.  The Dodd-Frank Act strengthened the previous limits on a depository institution’s credit exposure to one borrower which limited a depository institution’s ability to extend credit to one person (or group of related persons) in an amount exceeding certain thresholds. The Dodd-Frank Act expanded the scope of these restrictions to include credit exposure arising from derivative transactions, repurchase agreements, and securities lending and borrowing transactions.
Compensation Practices.  The Dodd-Frank Act provides that the appropriate federal regulators must establish standards prohibiting as an unsafe and unsound practice any compensation plan of a bank holding company or other “covered financial institution” that provides an insider or other employee with “excessive compensation” or compensation that gives rise to excessive risk or could lead to a material financial loss to such firm. In June 2010, prior to the Dodd-Frank Act, the bank regulatory agencies promulgated the Interagency Guidance on Sound Incentive Compensation Policies, which set forth three key principles concerning incentive compensation arrangements:
such arrangements should provide employees incentives that balance risk and financial results in a manner that does not encourage employees to expose the financial institution to imprudent risk;
such arrangements should be compatible with effective controls and risk management; and
such arrangements should be supported by strong corporate governance with effective and active oversight by the financial institution’s board of directors.

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Together, the Dodd-Frank Act and the recent guidance on compensation may impact the Corporation’s compensation practices.

Although a significant number of the rules and regulations mandated by the Dodd-Frank Act have been finalized, many of the new requirements called for have yet to be implemented and will likely be subject to implementing regulations over the course of several years. Given the uncertainty associated with the manner in which the provisions of the Dodd-Frank Act will be implemented by the various regulatory agencies, the full extent of the impact such requirements will have on financial institutions’ operations is unclear. The changes resulting from the Dodd-Frank Act may impact the profitability of our business activities, require changes to certain of our business practices, impose upon us more stringent capital, liquidity and leverage ratio requirements or otherwise adversely affect our business. These changes may also require us to invest significant management attention and resources to evaluate and make necessary changes in order to comply with new statutory and regulatory requirements.

Regulation W

Regulation W codifies prior regulations under Sections 23A and 23B of the Federal Reserve Act and interpretative guidance with respect to affiliate transactions. Regulation W incorporates the exemption from the affiliate transaction rules but expands the exemption to cover the purchase of any type of loan or extension of credit from an affiliate. Affiliates of a bank include, among other entities, the bank’s holding company and companies that are under common control with the bank. The Parent Corporation is considered to be an affiliate of the Bank. In general, subject to certain specified exemptions, a bank or its subsidiaries are limited in their ability to engage in “covered transactions” with affiliates:

to an amount equal to 10% of the bank’s capital and surplus, in the case of covered transactions with any one affiliate; and
to an amount equal to 20% of the bank’s capital and surplus, in the case of covered transactions with all affiliates

In addition, a bank and its subsidiaries may engage in covered transactions and other specified transactions only on terms and under circumstances that are substantially the same, or at least as favorable to the bank or its subsidiary, as those prevailing at the time for comparable transactions with nonaffiliated companies. A “covered transaction” includes:

a loan or extension of credit to an affiliate;
a purchase of, or an investment in, securities issued by an affiliate;
a purchase of assets from an affiliate, with some exceptions;
the acceptance of securities issued by an affiliate as collateral for a loan or extension of credit to any party; and
the issuance of a guarantee, acceptance or letter of credit on behalf of an affiliate.

Further, under regulation W:

a bank and its subsidiaries may not purchase a low-quality asset from an affiliate;
covered transactions and other specified transactions between a bank or its subsidiaries and an affiliate must be on terms and conditions that are consistent with safe and sound banking practices; and
with some exceptions, each loan or extension of credit by a bank to an affiliate must be secured by certain types of collateral with a market value ranging from 100% to 130%, depending on the type of collateral, of the amount of the loan or extension of credit

Regulation W generally excludes all non-bank and non-savings association subsidiaries of banks from treatment as affiliates, except to the extent that the Federal Reserve Board decides to treat these subsidiaries as affiliates.

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Capital Adequacy Guidelines

The Federal Reserve Board has adopted risk-based capital guidelines. These guidelines establish minimum levels of capital and require capital adequacy to be measured in part upon the degree of risk associated with certain assets. Under these guidelines all banks and bank holding companies must have a core or Tier 1 capital to risk-weighted assets ratio of at least 4% and a total capital to risk-weighted assets ratio of at least 8%. At December 31, 2011, the Corporation’s Tier 1 capital to risk-weighted assets ratio and total capital to risk-weighted assets ratio were 12.00 percent and 12.89 percent, respectively.

In addition, the Federal Reserve Board and the FDIC have approved leverage ratio guidelines (Tier 1 capital to average quarterly assets, less goodwill) for bank holding companies such as the Parent Corporation. These guidelines provide for a minimum leverage ratio of 3% for bank holding companies that meet certain specified criteria, including that they have the highest regulatory rating. All other holding companies are required to maintain a leverage ratio of 3% plus an additional cushion of at least 100 to 200 basis points. The Parent Corporation’s leverage ratio was 9.29 percent at December 31, 2011.

The OCC has established higher minimum capital ratios for the Bank effective as of December 31, 2009. See “FDICIA”.

Under FDICIA, federal banking agencies have established certain additional minimum levels of capital. See “FDICIA”.

FDICIA

Pursuant to the Federal Deposit Insurance Corporation Improvement Act of 1991 (“FDICIA”), each federal banking agency has promulgated regulations, specifying the levels at which a financial institution would be considered “well capitalized,” “adequately capitalized,” “undercapitalized,” “significantly undercapitalized,” or “critically undercapitalized,” and to take certain mandatory and discretionary supervisory actions based on the capital level of the institution. To qualify to engage in financial activities under the Gramm-Leach-Bliley Act, all depository institutions must be “well capitalized.”

The OCC’s regulations implementing these provisions of FDICIA provide that an institution will be classified as “well capitalized” if it (i) has a total risk-based capital ratio of at least 10.0 percent, (ii) has a Tier 1 risk-based capital ratio of at least 6.0 percent, (iii) has a Tier 1 leverage ratio of at least 5.0 percent, and (iv) meets certain other requirements. An institution will be classified as “adequately capitalized” if it (i) has a total risk-based capital ratio of at least 8.0 percent, (ii) has a Tier 1 risk-based capital ratio of at least 4.0 percent, (iii) has a Tier 1 leverage ratio of (a) at least 4.0 percent or (b) at least 3.0 percent if the institution was rated 1 in its most recent examination, and (iv) does not meet the definition of “well capitalized.” An institution will be classified as “undercapitalized” if it (i) has a total risk-based capital ratio of less than 8.0 percent, (ii) has a 1 risk-based capital ratio of less than 4.0 percent, or (iii) has a Tier 1 leverage ratio of (a) less than 4.0 percent or (b) less than 3.0 percent if the institution was rated 1 in its most recent examination. An institution will be classified as “significantly undercapitalized” if it (i) has a total risk-based capital ratio of less than 6.0 percent, (ii) has a Tier 1 risk-based capital ratio of less than 3.0 percent, or (iii) has a Tier 1 leverage ratio of less than 3.0 percent. An institution will be classified as “critically undercapitalized” if it has a tangible equity to total assets ratio that is equal to or less than 2.0 percent. An insured depository institution may be deemed to be in a lower capitalization category if it receives an unsatisfactory examination rating.

The OCC has established higher minimum capital ratios for the Bank effective as of December 31, 2009: Tier 1 Risk-Based Capital of 10.0 percent, Total Risk-Based Capital of 12.0 percent and Tier 1 Leverage Capital of 8.0 percent. At December 31, 2011, the Bank’s capital ratios were all above the minimum levels required.

In addition, significant provisions of FDICIA required federal banking regulators to impose standards in a number of other important areas to assure bank safety and soundness, including internal controls, information systems and internal audit systems, credit underwriting, asset growth, compensation, loan documentation and interest rate exposure.

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Additional Regulation of Capital

The federal regulatory authorities’ risk-based capital guidelines are based upon the 1988 capital accord (“Basel I”) of the Basel Committee on Banking Supervision (the “Basel Committee”). The Basel Committee is a committee of central banks and bank supervisors/regulators from the major industrialized countries that develops broad policy guidelines for use by each country’s supervisors in determining the supervisory policies and regulations to which they apply. Actions of the Committee have no direct effect on banks in participating countries. In 2004, the Basel Committee published a new capital accord (“Basel II”) to replace Basel I. Basel II provides two approaches for setting capital standards for credit risk — an internal ratings-based approach tailored to individual institutions’ circumstances and a standardized approach that bases risk weightings on external credit assessments to a much greater extent than permitted in existing risk-based capital guidelines. Basel II also would set capital requirements for operational risk and refine the existing capital requirements for market risk exposures. The Corporation is not required to comply with the advanced approaches of Basel II.

In 2009, the United States Treasury Department issued a policy statement (the “Treasury Policy Statement”) entitled “Principles for Reforming the U.S. and International Regulatory Capital Framework for Banking Firms,” which contemplates changes to the existing regulatory capital regime involving substantial revisions to major parts of the Basel I and Basel II capital frameworks and affecting all regulated banking organizations. The Treasury Policy Statement calls for, among other things, higher and stronger capital requirements for all banking firms, with changes to the regulatory capital framework to be phased in over a period of several years.

On December 17, 2009, the Basel Committee issued a set of proposals (the “2009 Capital Proposals”) that would significantly revise the definitions of Tier 1 capital and Tier 2 capital. Among other things, the 2009 Capital Proposals would re-emphasize that common equity is the predominant component of Tier 1 capital. Concurrently with the release of the 2009 Capital Proposals, the Basel Committee also released a set of proposals related to liquidity risk exposure (the “2009 Liquidity Proposals”). The 2009 Liquidity Proposals include the implementation of (i) a “liquidity coverage ratio” or LCR, designed to ensure that a bank maintains an adequate level of unencumbered, high-quality assets sufficient to meet the bank’s liquidity needs over a 30-day time horizon under an acute liquidity stress scenario and (ii) a “net stable funding ratio” or NSFR, designed to promote more medium and long-term funding of the assets and activities of banks over a one-year time horizon.

The Dodd-Frank Act includes certain provisions, often referred to as the “Collins Amendment,” concerning the capital requirements of the United States banking regulators. These provisions are intended to subject bank holding companies to the same capital requirements as their bank subsidiaries and to eliminate or significantly reduce the use of hybrid capital instruments, especially trust preferred securities, as regulatory capital. Under the Collins Amendment, trust preferred securities issued by a company, such as Union Center National Bank, with total consolidated assets of less than $15 billion before May 19, 2010 are treated as regulatory capital, but any such securities issued later are not eligible as regulatory capital. The banking regulators must develop regulations setting minimum risk-based and leverage capital requirements for holding companies and banks on a consolidated basis that are no less stringent than the generally applicable requirements in effect for depository institutions under the prompt corrective action regulations. The banking regulators also must seek to make capital standards countercyclical so that the required levels of capital increase in times of economic expansion and decrease in times of economic contraction.

On December 20, 2011, the Federal Reserve issued a proposed rule designed to implement provisions of the Dodd-Frank Act to establish stricter prudential standards for all bank holding companies with total consolidated assets of $50 billion or more for certain nonbank financial firms. The proposed rule requires firms to develop annual capital plans, conduct stress tests, and maintain adequate capital, including a tier one common risk-based capital ratio greater than 5 percent, under both expected and stressed conditions.

In December 2010 and January 2011, the Basel Committee published the final texts of reforms on capital and liquidity generally referred to as “Basel III.” Although Basel III is intended to be implemented by participating countries for large, internationally active banks, its provisions are likely to be considered by

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United States banking regulators in developing new regulations applicable to other banks in the United States, including Union Center National Bank.

For banks in the United States, among the most significant provisions of Basel III concerning capital are the following:

A minimum ratio of common equity to risk-weighted assets reaching 4.5%, plus an additional 2.5% as a capital conservation buffer, by 2019 after a phase-in period.
A minimum ratio of Tier 1 capital to risk-weighted assets reaching 6.0% by 2019 after a phase-in period.
A minimum ratio of total capital to risk-weighted assets, plus the additional 2.5% capital conservation buffer, reaching 10.5% by 2019 after a phase-in period.
An additional countercyclical capital buffer to be imposed by applicable national banking regulators periodically at their discretion, with advance notice.
Restrictions on capital distributions and discretionary bonuses applicable when capital ratios fall within the buffer zone.
Deduction from common equity of deferred tax assets that depend on future profitability to be realized.
Increased capital requirements for counterparty credit risk relating to OTC derivatives, repos and securities financing activities.
For capital instruments issued on or after January 13, 2013 (other than common equity), a loss-absorbency requirement such that the instrument must be written off or converted to common equity if a trigger event occurs, either pursuant to applicable law or at the direction of the banking regulator. A trigger event is an event under which the banking entity would become nonviable without the write-off or conversion, or without an injection of capital from the public sector. The issuer must maintain authorization to issue the requisite shares of common equity if conversion were required.

Federal Deposit Insurance and Premiums

Substantially all of the deposits of the Bank are insured up to applicable limits by the Deposit Insurance Fund (“DIF”) of the FDIC and are subject to deposit insurance assessments to maintain the DIF. As a result of the Dodd-Frank Act, the basic federal deposit insurance limit was permanently increased from at least $100,000 to at least $250,000. In addition, on November 9, 2010 and January 18, 2011, the FDIC (as mandated by Section 343 of the Dodd-Frank Act) adopted rules providing for unlimited deposit insurance for traditional noninterest-bearing transaction accounts and IOLTA accounts beginning December 31, 2010 until December 31, 2012. This coverage, which applies to all insured deposit institutions, does not charge any additional FDIC assessment to the institution. Furthermore, this unlimited coverage is separate from, and in addition to, the coverage provided to depositors with respect to other accounts held at an insured institution.

On May 22, 2009, the Board of Directors of the FDIC adopted a final rule imposing a special assessment on the entire banking industry. The special assessment was calculated as five basis points times each insured depository institution’s assets minus Tier I capital, as reported in the report of condition as of June 30, 2009 and would not exceed ten times the institution’s assessment base for the second quarter of 2009 risk- based assessment. This special assessment, which totaled $1.2 million, was remitted by the Bank on September 30, 2009.

On November 12, 2009, the FDIC adopted the final rule which required insured depository institutions to prepay their quarterly risk-based assessments for the fourth quarter of 2009 through the fourth quarter of 2012. On December 30, 2009, the Bank remitted an FDIC prepayment in the amount of $5.7 million. An institution’s prepaid assessment was based on the total base assessment rate that the institution paid for the third quarter of 2009, adjusted quarterly by an estimated annual growth rate of 5% through the end of 2012, plus, for 2011 and 2012, an increase in the total base assessment rate on September 30, 2009 by an annualized three basis points. Any prepaid assessment in excess of the amounts that are subsequently determined to be

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actually due to the FDIC by June 30, 2013, will be returned to the institution at that time. As of December 31, 2011 the Bank recognized a total of $3.8 million in FDIC expense of the $5.7 million assessments prepaid on December 30, 2009.

On February 7, 2011, the FDIC approved a rule to change the assessment base from adjusted domestic deposits to average consolidated total assets minus average tangible equity, as required by the Dodd-Frank Act. These new assessment rates began in the second quarter of 2011 and were paid at the end of September 2011. Since the new base is larger than the current base, the FDIC’s rule lowers total base assessment rates to between 5 and 9 basis points for banks in the lowest risk category, and 35 basis points for banks in the highest risk category. The Company paid $1.7 million in 2011, as compared to $2.1 million in 2010.

Pursuant to the Dodd-Frank Act, the FDIC has established 2.0% as the designated reserve ratio (DRR), that is, the ratio of the DIF to insured deposits. The FDIC has adopted a plan under which it will meet the statutory minimum DRR of 1.35% by September 30, 2020, the deadline imposed by the Dodd-Frank Act. The Dodd-Frank requires the FDIC to offset the effect on institutions with assets less than $10 billion of the increase in the statutory minimum DRR to 1.35% from the former statutory minimum of 1.15%. The FDIC has not yet announced how it will implement this offset.

In addition to deposit insurance assessments, the FDIC is required to continue to collect from institutions payments for the servicing of obligations of the Financing Corporation (“FICO”) that were issued in connection with the resolution of savings and loan associations, so long as such obligations remain outstanding. The Bank paid a FICO premium of $84,000 in 2011 and expects to pay a similar premium in 2012.

The Gramm-Leach-Bliley Financial Modernization Act of 1999

The Gramm-Leach-Bliley Financial Modernization Act of 1999:

allows bank holding companies meeting management, capital, and Community Reinvestment Act standards to engage in a substantially broader range of non-banking activities than previously was permissible, including insurance underwriting and making merchant banking investments in commercial and financial companies; if a bank holding company elects to become a financial holding company, it files a certification, effective in 30 days, and thereafter may engage in certain financial activities without further approvals;
allows insurers and other financial services companies to acquire banks;
removes various restrictions that previously applied to bank holding company ownership of securities firms and mutual fund advisory companies; and
establishes the overall regulatory structure applicable to bank holding companies that also engage in insurance and securities operations.

The Modernization Act also modified other financial laws, including laws related to financial privacy and community reinvestment.

Community Reinvestment Act

Under the Community Reinvestment Act (“CRA”), as implemented by OCC regulations, a national bank has a continuing and affirmative obligation consistent with its safe and sound operation to help meet the credit needs of its entire community, including low and moderate income neighborhoods. The CRA does not establish specific lending requirements or programs for financial institutions nor does it limit an institution’s discretion to develop the types of products and services that it believes are best suited to its particular community, consistent with the CRA. The CRA requires the OCC, in connection with its examination of a national bank, to assess the bank’s record of meeting the credit needs of its community and to take such record into account in its evaluation of certain applications by such bank.

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USA PATRIOT Act

The Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (the “USA PATRIOT Act”) gives the federal government powers to address terrorist threats through domestic security measures, surveillance powers, information sharing, and anti-money laundering requirements. By way of amendments to the Bank Secrecy Act, the USA PATRIOT Act encourages information-sharing among bank regulatory agencies and law enforcement bodies. Further, certain provisions of the USA PATRIOT Act impose affirmative obligations on a broad range of financial institutions, including banks, thrift institutions, brokers, dealers, credit unions, money transfer agents and parties registered under the Commodity Exchange Act.

Among other requirements, the USA PATRIOT Act imposes the following requirements with respect to financial institutions:

All financial institutions must establish anti-money laundering programs that include, at a minimum: (i) internal policies, procedures, and controls; (ii) specific designation of an anti-money laundering compliance officer; (iii) ongoing employee training programs; and (iv) an independent audit function to test the anti-money laundering program.
The Secretary of the Department of Treasury, in conjunction with other bank regulators, is authorized to issue regulations that provide for minimum standards with respect to customer identification at the time new accounts are opened.
Financial institutions that establish, maintain, administer, or manage private banking accounts or correspondence accounts in the United States for non-United States persons or their representatives (including foreign individuals visiting the United States) are required to establish appropriate, specific and, where necessary, enhanced due diligence policies, procedures, and controls designed to detect and report money laundering.
Financial institutions are prohibited from establishing, maintaining, administering or managing correspondent accounts for foreign shell banks (foreign banks that do not have a physical presence in any country), and will be subject to certain record keeping obligations with respect to correspondent accounts of foreign banks.
Bank regulators are directed to consider a holding company’s effectiveness in combating money laundering when ruling on Federal Reserve Act and Bank Merger Act applications.

The United States Treasury Department has issued a number of implementing regulations which address various requirements of the USA PATRIOT Act and are applicable to financial institutions such as the Bank. These regulations impose obligations on financial institutions to maintain appropriate policies, procedures and controls to detect, prevent and report money laundering and terrorist financing and to verify the identity of their customers.

Sarbanes-Oxley Act of 2002

The stated goals of the Sarbanes-Oxley Act of 2002 (the “SOA”) were to increase corporate responsibility, to provide for enhanced penalties for accounting and auditing improprieties by publicly traded companies and to protect investors by improving the accuracy and reliability of corporate disclosures pursuant to the securities laws. The SOA generally applies to all companies, both U.S. and non-U.S., that file or are required to file periodic reports with the Securities and Exchange Commission (the “SEC”) under the Securities Exchange Act of 1934 (the “Exchange Act”). The SOA includes specific disclosure requirements and corporate governance rules, requires the SEC and securities exchanges to adopt extensive additional disclosure, corporate governance and other related rules and mandates further studies of certain issues by the SEC

TARP and SBLF

In January 2009, the Parent Corporation issued $10.0 million of its nonvoting non-convertible senior preferred stock (the “TARP Preferred Stock”) to the United States Treasury pursuant to Congress’ Troubled Asset Relief Program (“TARP”).

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On September 15, 2011, the Parent Corporation entered into and consummated the transactions contemplated by a Securities Purchase Agreement (the “Securities Purchase Agreement”) with the Secretary of the Treasury (the “Secretary”) under the Small Business Lending Fund program (the “SBLF Program”), a $30 billion fund established under the Small Business Jobs Act of 2010 that is designed to encourage lending to small businesses by providing capital to qualified community banks with assets of less than $10 billion. Under the Securities Purchase Agreement, the Parent Corporation issued to the Secretary a total of 11,250 shares of the Parent Corporation’s Senior Non-Cumulative Perpetual Preferred Stock, Series B (the “SBLF Preferred Stock”), having a liquidation value of $1,000 per share, for a total purchase price of $11,250,000. The SBLF Preferred Stock was issued pursuant to a Certificate of Amendment to the Parent Corporation’s Certificate of Incorporation (the “Certificate of Amendment”) filed on September 13, 2011.

The SBLF Preferred Stock qualifies as Tier 1 capital. Non-cumulative dividends are payable quarterly on January 1, April 1, July 1 and October 1 for the SBLF Preferred Stock, commencing on January 1, 2012. The dividend rate is calculated as a percentage of the aggregate liquidation value of the outstanding SBLF Preferred Stock and is based on changes in the level of “Qualified Small Business Lending” or “QSBL” (as defined in the Certificate of Amendment) by the Bank, compared to the Bank’s baseline QSBL level. Based upon the Bank’s initial level of QSBL compared to the baseline, as calculated under the Securities Purchase Agreement, the dividend rate on the SBLF Preferred Stock was set at five percent for the initial dividend period.

For the second through tenth calendar quarters after the closing of the SBLF Program transaction, the dividend rate will fluctuate between one percent and five percent to reflect the amount of change in the Bank’s level of QSBL compared to the initial baseline. More specifically, if the Bank’s QSBL at the end of a quarter has increased as compared to the baseline, then the dividend rate payable on the SBLF Preferred Stock would change as follows:

 
Relative Increase in QSBL to Baseline   Dividend Rate
(for each of the 2nd – 10th Dividend Periods)
0% or less     5 % 
More than 0%, but less than 2.5%     5 % 
2.5% or more, but less than 5%     4 % 
5% or more, but less than 7.5%     3 % 
7.5% or more, but less than 10%     2 % 
10% or more     1 % 

From the eleventh through the eighteenth calendar quarters and that portion of the nineteenth calendar quarter which ends immediately prior to the date that is the four and one half years anniversary of the closing of the SBLF Program transaction, the dividend rate on the SBLF Preferred Stock will be fixed at between one percent and seven percent based on the level of QSBL at that time, as compared to the baseline in accordance with the chart below. If any SBLF Preferred Stock remains outstanding after four and one half years following the closing of the SBLF Program transaction, the dividend rate will increase to nine percent.

 
0% or less     7 % 
More than 0%, but less than 2.5%     5 % 
2.5% or more, but less than 5%     4 % 
5% or more, but less than 7.5%     3 % 
7.5% or more, but less than 10%     2 % 
10% or more     1 % 

The SBLF Preferred Stock is non-voting, except in limited circumstances that could impact the SBLF investment, such as (i) authorization of senior stock, (ii) charter amendments adversely affecting the SBLF Preferred Stock and (iii) extraordinary transactions such as mergers, asset sales, share exchanges and the like (unless the SBLF Preferred Stock remains outstanding and the rights and preferences thereof are not impaired by such transaction).

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In the event the Company misses five dividend payments, whether or not consecutive, the holder of the SBLF Preferred Stock will have the right, but not the obligation, to appoint a representative as an “observer” on the Company’s Board of Directors.

Further, the SBLF Preferred Stock may be redeemed by the Company at any time, at a redemption price of 100% of the liquidation amount plus accrued but unpaid dividends for the then current Dividend Period (as defined in the Certificate of Amendment) (plus, the CPP Lending Incentive Fees (as defined in the Certificate of Amendment), if applicable), subject to the approval of the Company’s federal banking regulator.

The SBLF Preferred Stock is not subject to any contractual restrictions on transfer and thus the Secretary may sell, transfer, exchange or enter into other transactions with respect to the SBLF Preferred Stock without the Company’s consent.

The Parent Corporation used the proceeds from the issuance of the SBLF Preferred to redeem from the Treasury all shares issued by the Parent Corporation pursuant to TARP, for a redemption price of $10,041,667, including accrued but unpaid dividends up to the date of redemption. As a result of the redemption of the TARP Preferred Stock, the Company is no longer subject to the limits on executive compensation and other restrictions stipulated under the TARP Capital Purchase Program. For an additional $245,000, the Parent Corporation also bought back the warrants issued under TARP

Proposed Legislation

From time to time proposals are made in the U.S. Congress and before various bank regulatory authorities, which would alter the policies of and place restrictions on different types of banking operations. It is impossible to predict the impact, if any, of potential legislative trends on the business of the Parent Corporation and the Bank.

Loans to Related Parties

The Corporation’s authority to extend credit to its directors and executive officers, as well as to entities controlled by such persons, is currently governed by the requirements of the National Bank Act, the Sarbanes-Oxley Act of 2002 and Regulation O of the Federal Reserve Bank. Among other things, these provisions require that extensions of credit to insiders (i) be made on terms that are substantially the same as, and follow credit underwriting procedures that are not less stringent than, those prevailing for comparable transactions with unaffiliated persons and that do not involve more than the normal risk of repayment or present other unfavorable features and (ii) not exceed certain limitations on the amount of credit extended to such persons, individually and in the aggregate, which limits are based, in part, on the amount of the Corporation’s capital. In addition, the Corporation’s Board of Directors must approve extensions of credit in excess of certain limits. Under the SOA, the Corporation and its subsidiaries, other than Union Center National Bank, may not extend or arrange for any personal loans to its directors and executive officers.

Dividend Restrictions

The Parent Corporation is a legal entity separate and distinct from the Bank. Virtually all of the revenue of the Parent Corporation available for payment of dividends on its capital stock will result from amounts paid to the Parent Corporation by the Bank. All such dividends are subject to various limitations imposed by federal laws and by regulations and policies adopted by federal regulatory agencies. As a national bank, the Bank may not pay a dividend if it would impair the capital of the Bank. Furthermore, prior approval by the Comptroller of the Currency is required if the total of dividends declared in a calendar year exceeds the total of the Bank’s net profits for that year combined with the retained profits for the two preceding years.

On September 15, 2011, the Parent Corporation issued $11.25 million in nonvoting senior preferred stock to the Treasury under the SBLF Program. Under the Securities Purchase Agreement, the Parent Corporation issued to the Treasury a total of 11,250 shares of the Corporation’s Senior Non-Cumulative Perpetual Preferred Stock, Series B, having a liquidation value of $1,000 per share. Simultaneously, using the proceeds from the issuance of the SBLF Preferred Stock, the Parent Corporation redeemed from the Treasury, all 10,000 outstanding shares of its Fixed Rate Cumulative Perpetual Preferred Stock, Series A, liquidation amount $1,000 per share, for a redemption price of $10,041,667, including accrued but unpaid dividends up to the date of redemption.

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The terms of the SBLF Preferred Stock impose limits on the Parent Corporation’s ability to pay dividends on and repurchase shares of its common stock and other securities. More specifically, if the Parent Corporation fails to declare and pay dividends on the SBLF Preferred Stock in a given quarter, then during such quarter and for the next three quarters following such missed dividend payment, the Parent Corporation may not pay dividends on, or repurchase, any common stock or any other securities that are junior to (or in parity with) the SBLF Preferred Stock, except in very limited circumstances.

Also under the terms of the SBLF Preferred Stock, the Parent Corporation may declare and pay dividends on its common stock or any other stock junior to the SBLF Preferred Stock, or repurchase shares of any such stock, only if after payment of such dividends or repurchase of such shares, the Parent Corporation’s Tier 1 Capital would be at least equal to the so-called Tier 1 Dividend Threshold, excluding any subsequent net charge-offs and any redemption of the SBLF Preferred Stock.

If, in the opinion of the OCC, a bank under its jurisdiction is engaged in or is about to engage in an unsafe or unsound practice (which could include the payment of dividends), the OCC may require, after notice and hearing, that such bank cease and desist from such practice or, as a result of an unrelated practice, require the bank to limit dividends in the future. The FRB has similar authority with respect to bank holding companies. In addition, the FRB and the OCC have issued policy statements which provide that insured banks and bank holding companies should generally only pay dividends out of current operating earnings. Regulatory pressures to reclassify and charge off loans and to establish additional loan loss reserves can have the effect of reducing current operating earnings and thus impacting an institution’s ability to pay dividends. Further, as described herein, the regulatory authorities have established guidelines with respect to the maintenance of appropriate levels of capital by a bank or bank holding company under their jurisdiction. Compliance with the standards set forth in these policy statements and guidelines could limit the amount of dividends which the Parent Corporation and the Bank may pay. Under FDICIA, banking institutions which are deemed to be “undercapitalized” will, in most instances, be prohibited from paying dividends.

Lending Guidelines; Real Estate Credit Management

Credit risks are an inherent part of the lending function. The Corporation has set in place specific policies and guidelines to limit credit risks. The following describes the Corporation’s credit management policy and identifies certain risk elements in its earning assets portfolio.

Credit Management

The maintenance of comprehensive and effective credit policies is a paramount objective of the Corporation. Credit procedures are enforced by the department heads of the different lending units and are maintained at the senior administrative level as well as through internal control procedures.

Prior to extending credit, the Corporation’s credit policy generally requires a review of the borrower’s credit history, repayment capacity, collateral and purpose of each loan. Requests for most commercial and consumer loans are to be accompanied by financial statements and other relevant financial data for evaluation. After the granting of a loan or lending commitment, this financial data is typically updated and evaluated by the credit staff on a periodic basis for the purpose of identifying potential problems. Construction financing requires a periodic submission by the borrowers of sales/leasing status reports regarding their projects, as well as, in most cases, inspections of the project sites by independent engineering firms and/or independent consultants. Advances are normally made only upon the satisfactory completion of periodic phases of construction.

Certain lending authorities are granted to loan officers based upon each officer’s position and experience. However, large dollar loans and lending lines are reported to and are subject to the approval of the Bank’s loan committees and/or board of directors. Either the Chairman of the Board or President chairs the loan committees.

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The Corporation has established its own internal loan-to-value (“LTV”) limits for real estate loans. In general, except as described below, these internal limits are not permitted to exceed the following supervisory limits:

 
Loan Category   Loan-to-Value
Limit
Raw Land     65 % 
Land Development     75 % 
Commercial, Multifamily and Other Non-residential construction     80 % 
Construction: One to Four Family Residential     85 % 
Improved Property (excluding One to Four Family Residential)     85 % 
Owner-Occupied One to Four Family and Home Equity*     90 % 

* For a permanent mortgage or home equity loan on owner occupied one to four family residential property with a LTV that exceeds 90 percent at origination, private mortgage insurance or readily marketable collateral is to be obtained. “Readily marketable collateral” means insured deposits, financial instruments and bullion in which the Bank has a perfected interest. Financial instruments and bullion are to be salable under ordinary circumstances with reasonable promptness at a fair market value.

It may be appropriate in individual cases to originate loans with loan-to-value ratios in excess of the supervisory LTV limits, based on support provided by other credit factors. The President of the Bank must approve such non-conforming loans. The Bank must identify all non-conforming loans and their aggregate amount must be reported at least quarterly to the Directors’ Loan Committee. Non-conforming loans should not exceed 100% of capital, or 30% with respect to non one to four family residential loans. At present, management is unaware of any exceptions to supervisory LTV limits.

Collateral margin guidelines are based on cost, market or other appraised value to maintain a reasonable amount of collateral protection in relation to the inherent risk in the loan. This does not mitigate the fundamental analysis of cash flow from the conversion of assets in the normal course of business or from operations to repay the loan. It is merely designed to provide a cushion to minimize the risk of loss if the ultimate collection of the loan becomes dependent on the liquidation of security pledged.

The Corporation also seeks to minimize lending risk through loan diversification. The composition of the Corporation’s commercial loan portfolio reflects and is highly dependent upon the economy and industrial make-up of the region it serves. Effective loan diversification spreads risk to many different industries, thereby reducing the impact of downturns in any specific industry on overall loan profitability.

Credit quality is monitored through an internal review process, which includes a credit Risk Grading System that facilitates the early detection of problem loans. Under this grading system, all commercial loans and commercial mortgage loans are graded in accordance with the risk characteristics inherent in each loan. Problem loans include non-accrual loans, and loans which conform to the regulatory definitions of criticized and classified loans.

A Problem Asset Report is prepared monthly and is examined by the senior management of the Bank, the Corporation’s Loan and Discount Committee and the Board of Directors. This review is designed to enable management to take such actions as are considered necessary to identify and remedy problems on a timely basis.

The Bank’s internal loan review process is complemented by an independent loan review conducted throughout the year, under the mandate and approval of the Corporation’s Board of Directors. In addition, regularly scheduled audits performed by the Bank’s internal audit function are designed to ensure the integrity of the credit and risk monitoring systems currently in place.

Risk Elements

The risk elements identified by the Corporation include non-performing loans, loans past due ninety days or more as to interest or principal payments but not placed on a non-accrual status, potential problem loans, other real estate owned, net, and other non-performing interest-earning assets. Additional information regarding these risk elements is presented in Item 7 of this Annual Report.

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Item 1A. Risk Factors

An investment in our common stock involves risks. Stockholders should carefully consider the risks described below, together with all other information contained in this Annual Report on Form 10-K, before making any purchase or sale decisions regarding our common stock. If any of the following risks actually occur, our business, financial condition or operating results may be harmed. In that case, the trading price of our common stock may decline, and stockholders may lose part or all of their investment in our common stock.

We are subject to stringent capital requirements which could require us to seek capital at times when capital may be expensive or unavailable to us.

We may at some point be required to raise additional capital to assure compliance with mandated capital ratios and to support our continued growth. Our ability to raise additional capital, if needed, will depend on conditions in the capital markets at that time, which are outside our control, and on our financial performance. Accordingly, we cannot assure you of our ability to raise additional capital, if needed, on terms acceptable to us. If we cannot raise additional capital when needed, our ability to comply with applicable capital requirements and to further expand our operations through internal growth or acquisitions could be materially impaired.

Negative developments in the financial services industry and U.S. and global credit markets in recent years may continue to adversely impact our operations and results.

The general economic downturn experienced since 2008 negatively impacted many financial institutions, including the Corporation. Loan portfolio performances deteriorated at many institutions resulting from, among other factors, a weak economy and a decline in the value of the collateral supporting their loans. The competition for our deposits increased significantly due to liquidity concerns at many of these same institutions. Stock prices of bank holding companies, like ours, were negatively affected by the condition of the financial markets, as was our ability, if needed, to raise capital or borrow in the debt markets compared to recent years. While the United States Congress has taken actions to implement important safeguards, there remains a potential for new federal or state laws and regulations regarding lending and funding practices and liquidity standards, and financial institution regulatory agencies are expected to be very aggressive in responding to concerns and trends identified in examinations, including the issuance of many formal enforcement actions. Negative developments in the financial services industry and the impact of new legislation in response to those developments could negatively impact our operations by restricting our business operations, including our ability to originate or sell loans, and adversely impact our financial performance. A worsening of these conditions would likely exacerbate the adverse effects of these difficult market conditions on us and others in the financial institutions industry. In particular, we may face the following risks in connection with these events:

we potentially face increased regulation of our industry and compliance with such regulation may increase our costs and limit our ability to pursue business opportunities;
customer demand for loans secured by real estate could be reduced due to weaker economic conditions, an increase in unemployment, a decrease in real estate values or an increase in interest rates;
the process we use to estimate losses inherent in our credit exposure requires difficult, subjective and complex judgments, including forecasts of economic conditions and how these economic conditions might impair the ability of our borrowers to repay their loans;
the level of uncertainty concerning economic conditions may adversely affect the accuracy of our estimates which may, in turn, impact the reliability of the process;
the value of the portfolio of investment securities that we hold may be adversely affected; and
we may be required to pay significantly higher FDIC premiums because market developments have significantly depleted the insurance fund of the FDIC and reduced the ratio of reserves to insured deposits.

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In addition, the possibility that certain European Union (“EU”) member states may default on their debt obligations have negatively impacted economic conditions and global markets. The continued uncertainty over the outcome of international and the EU’s financial support programs and the possibility that other EU member states may experience similar financial troubles could further disrupt global markets. The negative impact on economic conditions and global markets could also have a material adverse effect on our liquidity, financial condition and results of operations.

We are subject to interest rate risk and variations in interest rates may negatively impact our financial performance.

We are unable to predict actual fluctuations of market interest rates with complete accuracy. Rate fluctuations are affected by many factors, including:

inflation;
recession;
a rise in unemployment;
tightening money supply; and
domestic and international disorder and instability in domestic and foreign financial markets, among other things.

Changes in the interest rate environment may reduce profits. We expect that we will continue to realize income from the differential or “spread” between the interest we earn on loans, securities and other interest-earning assets, and the interest we pay on deposits, borrowings and other interest-bearing liabilities. Net interest spreads are affected by the difference between the maturities and repricing characteristics of interest-earning assets and interest-bearing liabilities. Changes in levels of market interest rates could materially and adversely affect our net interest spread, asset quality, levels of prepayments and cash flows as well as the market value of our securities portfolio and overall profitability.

The downgrade of the U.S. credit rating could have a material adverse effect on our business, financial condition and liquidity.

Standard & Poor’s lowered its long term sovereign credit rating on the United States of America from AAA to AA+ on August 5, 2011. A further downgrade or a downgrade by other rating agencies could have a material adverse impact on financial markets and economic conditions in the United States and worldwide. Any such adverse impact could have a material adverse effect on our liquidity, financial condition and results of operations. Many of our investment securities are issued by U.S. government agencies and U.S. government sponsored entities.

The Federal Reserve’s repeal of the prohibition against payment of interest on demand deposits may increase competition for such deposits and ultimately increase interest expense.

A major portion of our net income comes from our interest rate spread, which is the difference between the interest rates paid by us on amounts used to fund assets and the interest rates and fees we receive on our interest-earning assets. On July 14, 2011, the Federal Reserve issued final rules to repeal Regulation Q, which had prohibited the payment of interest on demand deposits by institutions that are member banks of the Federal Reserve System. As a result, banks and thrifts are now permitted to offer interest-bearing demand deposit accounts to commercial customers, which were previously forbidden under Regulation Q. The repeal of Regulation Q may cause increased competition from other financial institutions for these deposits and could result in an increase in our interest expense.

External factors, many of which we cannot control, may result in liquidity concerns for us.

Liquidity risk is the potential that the Bank may be unable to meet its obligations as they come due, capitalize on growth opportunities as they arise, or pay regular dividends because of an inability to liquidate assets or obtain adequate funding in a timely basis, at a reasonable cost and within acceptable risk tolerances.

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Liquidity is required to fund various obligations, including credit commitments to borrowers, mortgage and other loan originations, withdrawals by depositors, repayment of borrowings, operating expenses, capital expenditures and dividend payments to shareholders.

Liquidity is derived primarily from deposit growth and retention; principal and interest payments on loans; principal and interest payments on investment securities; sale, maturity and prepayment of investment securities; net cash provided from operations, and access to other funding sources.

Our access to funding sources in amounts adequate to finance our activities could be impaired by factors that affect us specifically or the financial services industry in general. Factors that could detrimentally impact our access to liquidity sources include a decrease in the level of our business activity due to market factors or an adverse regulatory action against us. Our ability to borrow could also be impaired by factors that are not specific to us, such as a severe disruption of the financial markets or negative views and expectations about the prospects for the financial services industry as a whole. Over the last several years, the financial services industry and the credit markets generally have been materially and adversely affected by significant declines in asset values and by a lack of liquidity. The liquidity issues have been particularly acute for regional and community banks, as many of the larger financial institutions have significantly curtailed their lending to regional and community banks to reduce their exposure to the risks of other banks. In addition, many of the larger correspondent lenders have reduced or even eliminated federal funds lines for their correspondent customers. Furthermore, regional and community banks generally have less access to the capital markets than do the national and super-regional banks because of their smaller size and limited analyst coverage. Any decline in available funding could adversely impact our ability to originate loans, invest in securities, meet our expenses, or fulfill obligations such as meeting deposit withdrawal demands, any of which could have a material adverse impact on our liquidity, business, results of operations and financial condition.

The extensive regulation and supervision to which we are subject impose substantial restrictions on our business.

Center Bancorp Inc., primarily through its principal subsidiary, Union Center National Bank, and certain non-bank subsidiaries, are subject to extensive regulation and supervision. Banking regulations are primarily intended to protect depositors’ funds, federal deposit insurance funds and the banking system as a whole. Such laws are not designed to protect our shareholders. These regulations affect our lending practices, capital structure, investment practices, dividend policy and growth, among other things. The Bank is also subject to a number of federal laws, which, among other things, require it to lend to various sectors of the economy and population, and establish and maintain comprehensive programs relating to anti-money laundering and customer identification. The United States Congress and federal regulatory agencies continually review banking laws, regulations and policies for possible changes. Changes to statutes, regulations or regulatory policies, including changes in interpretation or implementation of statutes, regulations or policies, could affect us in substantial and unpredictable ways. Such changes could subject us to additional costs, limit the types of financial services and products we may offer and/or increase the ability of non-banks to offer competing financial services and products, among other things. Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or reputational damage, which could have a material adverse effect on our business, financial condition and results of operations.

Current levels of volatility in the capital markets are unprecedented and may adversely impact our operations and results.

The capital markets have been experiencing unprecedented volatility for several years. Such negative developments and disruptions have resulted in uncertainty in the financial markets. Bank and bank holding company stock prices have been negatively affected, as has the ability of banks and bank holding companies to raise capital or borrow in the debt markets. If the capital markets are volatile, there can be no assurance that we will not experience an adverse effect, which may be material, on our business, financial condition and results of operations or our ability to access capital.

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We must effectively manage our credit risk.

There are risks inherent in making any loan, including risks inherent in dealing with particular borrowers, risks of nonpayment, risks resulting from uncertainties as to the future value of collateral and risks resulting from changes in economic and industry conditions. We attempt to minimize our credit risk through prudent loan application approval procedures, careful monitoring of the concentration of our loans within specific industries, a centralized credit administration department and periodic independent reviews of outstanding loans by our loan review department. However, we cannot assure you that such approval and monitoring procedures will reduce these credit risks.

Our loan portfolio includes commercial real estate loans, which involve risks specific to real estate value.

Commercial real estate and construction loans were $447.4 million, or approximately 59.2% of our total loan portfolio, as of December 31, 2011. Many of these loans are extended to small and medium-sized businesses. The market value of real estate can fluctuate significantly in a short period of time as a result of market conditions in the geographic area in which the real estate is located. Although many such loans are secured by real estate as a secondary form of collateral, continued adverse developments affecting real estate values in our market area could increase the credit risk associated with our loan portfolio. Economic events or governmental regulations outside of the control of the borrower or lender could negatively impact the future cash flow and market values of the affected properties. If the loans that are collateralized by real estate become troubled and the value of the real estate has been significantly impaired, then we may not be able to recover the full contractual amount of principal and interest that we anticipated at the time of originating the loan, which could cause us to increase our provision for loan losses and adversely affect our operating results and financial condition.

We may incur impairments to goodwill.

We review our goodwill at least annually. Significant negative industry or economic trends, reduced estimates of future cash flows or disruptions to our business, could indicate that goodwill might be impaired. Our valuation methodology for assessing impairment requires management to make judgments and assumptions based on historical experience and to rely on projections of future operating performance. We operate in a competitive environment and projections of future operating results and cash flows may vary significantly from actual results. Additionally, if our analysis results in an impairment to our goodwill, we would be required to record a non-cash charge to earnings in our financial statements during the period in which such impairment is determined to exist. Any such change could have a material adverse effect on our results of operations and our stock price.

Union Center National Bank’s ability to pay dividends is subject to regulatory limitations, which, to the extent that our holding company requires such dividends in the future, may affect our holding company’s ability to honor its obligations and pay dividends.

As a bank holding company, Center Bancorp, Inc. is a separate legal entity from Union Center National Bank and its subsidiaries and does not have significant operations. We currently depend on Union Center National Bank’s cash and liquidity to pay our operating expenses and to fund dividends to shareholders. We cannot assure you that in the future Union Center National Bank will have the capacity to pay the necessary dividends and that we will not require dividends from Union Center National Bank to satisfy our obligations. Various statutes and regulations limit the availability of dividends from Union Center National Bank. It is possible, depending upon our and Union Center National Bank’s financial condition and other factors, that bank regulators could assert that payment of dividends or other payments by Union Center National Bank are an unsafe or unsound practice. In the event that Union Center National Bank is unable to pay dividends, we may not be able to service our obligations, as they become due, or pay dividends on our capital stock. Consequently, the inability to receive dividends from Union Center National Bank could adversely affect our financial condition, results of operations, cash flows and prospects.

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Union Center National Bank’s allowance for loan losses may not be adequate to cover actual losses.

Like all financial institutions, Union Center National Bank maintains an allowance for loan losses to provide for loan defaults and non-performance. If Union Center National Bank’s allowance for loan losses is not adequate to cover actual loan losses, future provisions for loan losses could materially and adversely affect our operating results. Union Center National Bank’s allowance for loan losses is determined by analyzing historical loan losses, current trends in delinquencies and charge-offs, plans for problem loan resolution, the opinions of its regulators, changes in the size and composition of the loan portfolio and industry information.

Union Center National Bank also considers the impact of economic events, the outcome of which is uncertain. The amount of future losses is susceptible to changes in economic, operating and other conditions, including changes in interest rates that may be beyond our control and these losses may exceed current estimates. Federal regulatory agencies, as an integral part of their examination process, review Union Center National Bank’s loans and allowance for loan losses. While we believe that Union Center National Bank’s allowance for loan losses in relation to its current loan portfolio is adequate to cover current losses, we cannot assure you that Union Center National Bank will not need to increase its allowance for loan losses or that regulators will not require it to increase this allowance. Either of these occurrences could materially and adversely affect our earnings and profitability.

Union Center National Bank is subject to various lending and other economic risks that could adversely impact our results of operations and financial condition.

Changes in economic conditions, particularly a significant worsening of the current economic environment, could hurt Union Center National Bank’s business. Union Center National Bank’s business is directly affected by political and market conditions, broad trends in industry and finance, legislative and regulatory changes, changes in governmental monetary and fiscal policies, all of which are beyond our control. Deterioration in economic conditions, particularly within New Jersey, could result in the following consequences, any of which could hurt our business materially:

loan delinquencies may increase;
problem assets and foreclosures may increase;
demand for our products and services may decline; and
collateral for loans made by Union Center National Bank may decline in value, in turn reducing Union Center National Bank’s clients’ borrowing power, among other things.

Further deterioration in the real estate market, particularly in New Jersey, could hurt our business. As real estate values in New Jersey decline, our ability to recover on defaulted loans by selling the underlying real estate is reduced, which increases the possibility that we may suffer losses on defaulted loans.

Union Center National Bank may suffer losses in its loan portfolio despite its underwriting practices.

Union Center National Bank seeks to mitigate the risks inherent in its loan portfolio by adhering to specific underwriting practices. Although we believe that Union Center National Bank’s underwriting criteria are appropriate for the various kinds of loans that it makes, Union Center National Bank may incur losses on loans that meet its underwriting criteria, and these losses may exceed the amounts set aside as reserves in its allowance for loan losses.

Union Center National Bank faces strong competition from other financial institutions, financial service companies and other organizations offering services similar to the services that Union Center National Bank provides.

Many competitors offer the same types of loans and banking services that Union Center National Bank offers or similar types of such services. These competitors include other national banks, savings associations, regional banks and other community banks. Union Center National Bank also faces competition from many other types of financial institutions, including finance companies, brokerage firms, insurance companies, credit unions, mortgage banks and other financial intermediaries. In this regard, Union Center National Bank’s competitors include other state and national banks and major financial companies whose greater resources may

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afford them a marketplace advantage by enabling them to maintain numerous banking locations, offer a broader suite of services and mount extensive promotional and advertising campaigns. Our inability to compete effectively may adversely affect our business.

If we pursue acquisitions, we may heighten the risks to our operations and financial condition.

To the extent that we undertake acquisitions (such as our pending agreement to acquire assets and assume liabilities of Saddle River Valley Bank) or new branch openings, we may experience the effects of higher operating expenses relative to operating income from the new operations, which may have a material adverse effect on our levels of reported net income, return on average equity and return on average assets. Other effects of engaging in such growth strategies may include potential diversion of our management’s time and attention and general disruption to our business. To the extent that we grow through acquisitions and branch openings, we cannot assure you that we will be able to adequately and profitably manage this growth. Acquiring other banks and businesses involve similar risks to those commonly associated with branching, but may also involve additional risks, including:

potential exposure to unknown or contingent liabilities of banks and businesses we acquire;
exposure to potential asset quality issues of the acquired bank or related business;
difficulty and expense of integrating the operations and personnel of banks and businesses we acquire; and
the possible loss of key employees and customers of the banks and businesses we acquire

Attractive acquisition opportunities may not be available to us in the future.

We expect that other banking and financial service companies, many of which have significantly greater resources than us, will compete with us in acquiring other financial institutions if we pursue such acquisitions. This competition could increase prices for potential acquisitions that we believe are attractive. Also, acquisitions are subject to various regulatory approvals. If we fail to receive the appropriate regulatory approvals, we will not be able to consummate an acquisition that we believe is in our best interests. Among other things, our regulators will consider our capital, liquidity, profitability, regulatory compliance and levels of goodwill when considering acquisition and expansion proposals. Any acquisition could be dilutive to our earnings and shareholders’ equity per share of our common stock.

Further increases in FDIC premiums could have a material adverse effect on our future earnings.

The FDIC insures deposits at FDIC insured financial institutions, including Union Center National Bank. The FDIC charges the insured financial institutions premiums to maintain the Deposit Insurance Fund at an adequate level. In periods of economic difficulties, the FDIC may increase its assessment rates and impose special assessments. The FDIC may further increase these rates and impose additional special assessments in the future, which could have a material adverse effect on future earnings.

Declines in value may adversely impact our investment portfolio.

As of December 31, 2011, we had approximately $414.5 million in available for sale investment securities. We may be required to record impairment charges on our investment securities if they suffer a decline in value that is considered other-than-temporary. Numerous factors, including lack of liquidity for re-sales of certain investment securities, absence of reliable pricing information or investment securities, adverse changes in business climate, adverse actions by regulators, or unanticipated changes in the competitive environment could have a negative effect on our investment portfolio in future periods. If an impairment charge is significant enough, it could affect the ability of Union Center National Bank to upstream dividends to the Parent Corporation, which could have a material adverse effect on our liquidity and our ability to pay dividends to shareholders and could also negatively impact our regulatory capital ratios.

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Concern of customers over deposit insurance may cause a decrease in deposits.

With recent increased concerns about bank failures, customers increasingly are concerned about the extent to which their deposits are insured by the FDIC. Customers may withdraw deposits in an effort to ensure that the amount they have on deposit with their bank is fully insured. Decreases in deposits may adversely affect our funding costs and net income.

We have a continuing need for technological change and we may not have the resources to effectively implement new technology.

The financial services industry is constantly undergoing rapid technological changes with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to reduce costs, in addition to providing better service to customers. Our future success will depend in part upon our ability to address the needs of our customers by using technology to provide products and services that will satisfy customer demands for convenience as well as to create additional efficiencies in our operations as we grow. We cannot assure you that we will be able to effectively implement new technology-driven products and services or be successful in marketing such products and services to our customers.

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

The computer systems and network infrastructure we use could be vulnerable to unforeseen problems. Our operations are dependent upon our ability to protect our computer equipment against damage from physical theft, fire, power loss, telecommunications failure or a similar catastrophic event, as well as from security breaches, denial of service attacks, viruses, worms and other disruptive problems caused by hackers. Any damage or failure that causes an interruption in our operations could have a material adverse effect on our financial condition and results of operations. Computer break-ins, phishing and other disruptions could also jeopardize the security of information stored in and transmitted through our computer systems and network infrastructure, which may result in significant liability to us and may cause existing and potential customers to refrain from doing business with us. A failure of the security measures we use could have a material adverse effect on our financial condition and results of operations.

The Dodd-Frank Act and future regulatory reforms required by such legislation could have a significant impact on our business, financial condition and results of operations.

The Dodd-Frank Act will have a broad impact on the financial services industry, including significant regulatory and compliance changes. Many of the requirements called for in the Dodd-Frank Act will be implemented over time and most are and will be subject to implementing regulations over the course of several years. Given the uncertainty associated with the manner in which the provisions of the Dodd-Frank Act will be implemented by the various regulatory agencies, the full extent of the impact such requirements will have on our operations is unclear. Among other things, the Dodd-Frank Act:

eliminates the federal prohibitions on paying interest on demand deposits, thus allowing businesses to have interest bearing checking accounts. Depending on competitive responses, this significant change to existing law could have an adverse impact on our interest expense;
broadens the base for FDIC insurance assessments; assessments will now be based on the average consolidated total assets less tangible equity capital of a financial institution;
permanently increases the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor, retroactive to January 1, 2009, and non-interest bearing transaction accounts have unlimited deposit insurance through December 31, 2013;
directs the Federal Reserve Board to promulgate rules prohibiting excessive compensation paid to bank holding company executives;
creates a new Consumer Financial Protection Bureau with broad powers to supervise and enforce consumer protection laws. The Consumer Financial Protection Bureau has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings

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institutions, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The Consumer Financial Protection Bureau has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets. Institutions with $10 billion or less in assets, such as the Bank, will continued to be examined for compliance with the consumer laws by their primary bank regulators; and
weakens the federal preemption rules that have been applicable for national banks and federal savings associations, and gives state attorneys general the ability to enforce federal consumer protection laws, among other things.

While it is difficult to predict at this time what specific impact the Dodd-Frank Act, newly written implementing rules and regulations and yet to be written implementing rules and regulations will have on us, we expect that at a minimum our operating and compliance costs will increase, and our interest expense could increase.

Item 1B. Unresolved Staff Comments

None.

Item 2. Properties

The Bank’s operations are located at ten sites in Union County, New Jersey, consisting of six sites in Union Township, one in Springfield Township, one in Berkeley Heights, one in Vauxhall and one in Summit, New Jersey. The Bank also has three branch offices in Morris County, New Jersey, consisting of one site in Madison, one site in Boonton/Mountain Lakes, and one site in Morristown, New Jersey. The principal office is located at 2455 Morris Avenue, Union, New Jersey. The principal office is a two story building constructed in 1993. On October 9, 2004, the Bank opened a 19,555 square foot office facility on Springfield Road in Union, New Jersey, which served as the Bank’s Operations and Data Center until January 12, 2010 when the Bank entered into a sales purchase agreement for this facility.

The following table sets forth certain information regarding the Bank’s leased locations.

 
Branch Location   Term
356 Chestnut Street,
Union, New Jersey
  Term expires in 2028 with renewal options
Career Center Branch
located in Union High School,
Union, New Jersey
  Term expired in October 2008, currently on month to month lease
300 Main Street,
Madison, New Jersey
  Term expires June 6, 2015 and is subject to renewal at the Bank’s option
2933 Vauxhall Road,
Vauxhall, New Jersey
  Term expires January 31, 2013 and is subject to renewal at the Bank’s option
545 Morris Avenue,
Summit, New Jersey
  Term expires February 1, 2024, subject to renewal at the Bank’s option
Ely Place, Boonton, New Jersey   Term expires August 29, 2021, and is subject to renewal at the Bank’s option

Upon consummation of our Saddle River Valley Bank acquisition, the Bank will assume leases pursuant to which the Bank will lease two branch locations in Bergen County, New Jersey.

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The Bank operates a Drive In/Walk Up located at 2022 Stowe Street, Union, New Jersey, adjacent to a part of the Center Office facility. The Bank also operates an Auto banking Center located at Bonnel Court, Union, New Jersey. The Bank has three off-site ATM locations. Two are located at the Chatham and Madison New Jersey Transit stations and one is located at the Boys and Girls Club of Union, 1050 Jeanette Avenue, Union, New Jersey.

During the second quarter of 2010, the Corporation entered into a lease of its former operations facility under a direct financing lease. The lease has a 15 year term with no renewal options. According to the terms of the lease, the lessee has an obligation to purchase the property underlying the lease in either year seven, ten or fifteen at predetermined prices for those years as provided in the lease. The structure of the minimum lease payments and the purchase prices as provided in the lease provide an inducement to the lessee to purchase the property in year seven.

Item 3. Legal Proceedings

In December 2009, the Corporation took steps to terminate a participation agreement with another New Jersey bank at December 31, 2009. Under the terms of the agreement, the participation ended on December 31, 2009, and, in the Corporation’s view, the lead bank is required to repurchase the remaining balance. The lead bank questioned our enforcement of the participation agreement. Therefore, Union Center instituted a suit against Highlands State Bank (“Highlands”) in the Superior Court of New Jersey. Various causes of action are pleaded in this litigation by both parties, including claims for recovery of damages. The primary claim prosecuted by the Bank seeks a judicial determination that the participation agreement executed with Highlands was properly terminated in accordance with its terms on December 31, 2009 and that Highlands is obligated to return the unpaid balance of the loan funds advanced by the Bank during its participation in the loan. The primary claim presented by Highlands is that the Bank’s participation in the loan must continue until it is ultimately retired, which will probably result in a substantial loss that it is claimed must be shared by the Bank.

During the fourth quarter of 2011, the Corporation entered into a Settlement Agreement with Highlands State Bank. The Settlement Agreement called for Highlands State Bank, as the lead bank in this participation loan, to repurchase the Corporation’s participating interest in the underlying loan. Both banks executed a stipulation dismissing the lawsuit as well as general releases to each other regarding this matter. The Corporation incurred a $287,000 charge to operating expense during the fourth quarter of 2011 as a result.

There are no other significant pending legal proceedings involving the Corporation other than those arising out of routine operations. Management does not anticipate that the ultimate liability, if any, arising out of such other proceedings will have a material effect on the financial condition or results of operations of the Corporation on a consolidated basis. Such statement constitutes a forward-looking statement under the Private Securities Litigation Reform Act of 1995. Actual results could differ materially from this statement as a result of various factors, including the uncertainties arising in proving facts within the judicial process.

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Item 3A. Executive Officers of the Registrant

The following table sets forth the name and age of each executive officer of the Parent Corporation, the period during which each such person has served as an officer of the Parent Corporation or the Bank and each such person’s business experience (including all positions with the Parent Corporation and the Bank) for the past five years:

   
Name and Age   Officer Since   Business Experience
Anthony C. Weagley
Age – 50
  1996 the Parent
Corporation
1985 the Bank
  President and Chief Executive Officer of the Parent Corporation (April 2008 – Present); President, Chief Executive Officer and Chief Financial Officer of the Parent Corporation (August 2007 – March 2008); President and Chief Executive Officer of the Bank (March 2008 – Present); President, Chief Executive Officer and Chief Financial Officer of the Bank (August 2007 – February 2008); Vice President & Treasurer of the Parent Corporation (1996 –  August 2007); Senior Vice President & Cashier of the Bank (1996 – August 2007); Vice President & Cashier of the Bank (1991 – 1996)
Mark S. Cardone
Age – 49
  2001 the Parent
Corporation
2001 the Bank
  Vice President of the Parent Corporation and Senior Vice President & Branch Administrator of the Bank (2001 – Present)
Joseph D. Gangemi
Age – 31
  2008 the Parent
Corporation
2004 the Bank
  Vice President and Assistant Portfolio Manager of the Parent and the Bank (December 31, 2010 – Present): Executive Assistant to the Chief Executive Officer, Investor Relations Officer and Corporate Secretary of the Parent Corporation and the Bank (June 2008 –  Present); Executive Assistant to the Chief Executive Officer and Investor Relations Officer of the Bank (January 2008 – June 2008); Executive Assistant to the Chief Executive Officer of the Bank (August 2007 – January 2008); Executive Assistant to the Chief Financial Officer of the Bank (August 2005 – August 2007)
John J. Lukens
Age – 64
  2009 the Parent
Corporation
2004 the Bank
  Vice President and Senior Credit Administrator of the Parent Corporation and Senior Vice President and Senior Credit Administrator of the Bank (December 2009 –  Present); Vice President of the Bank (September 2004 –  December 2009)
James W. Sorge
Age – 59
  2010 the Parent
Corporation
2010 the Bank
  Vice President and Compliance Officer of the Parent Corporation and Senior Vice President and Compliance Officer of the Bank (March 2010 – Present); Vice President and Director, PNC Global Investment Servicing (May 2008 – March 2010); Vice President, BSA/AML/OFAC Officer, Yardville National Bank (June 2005 – April 2008)

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Name and Age   Officer Since   Business Experience
George J. Theiller
Age – 61
  2009 the Parent
Corporation
2005 the Bank
  Vice President and Senior Auditor of the Parent Corporation and Senior Vice President and Senior Auditor of the Bank (December 2009 – Present); Vice President and Senior Auditor of the Bank (April 2005 – December 2009)
Vincent N. Tozzi
Age – 61
  2011 the Parent
Corporation
2011 the Bank
  Vice President, Treasurer and Chief Financial Officer of the Parent Corporation (March 2011 – Present); Senior Vice President and Chief Financial Officer of the Bank (February 2011 – Present); Consultant to the Bank’s Financial Division (December 2010 – February 2011); Partner and Chief Financial Officer, Aztec Environmental Energy Management (January 2008 –  Present); Senior Vice President and Chief Financial Officer of The Bank of Princeton (October 2006 –  January 2008).
Arthur M. Wein
Age – 61
  2009 the Parent
Corporation
2009 the Bank
  Vice President and Chief Operating Officer of the Parent Corporation and Senior Vice President and Chief Operating Officer of the Bank (October 2009 – Present); Vice President and Business Development Officer of the Summit Region of the Bank (April 2009 –  October 2009); President and Chief Executive Officer of UTZ Technologies, Inc. (manufacturer of thick film hybrid screens) (December 2003 – March 2009)

Item 4. Mine Safety Disclosures

Not applicable.

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PART II

Item 5. Market for the Registrant’s Common Stock, Related Stockholder Matters and Issuer Purchases of Equity Securities

Security Market Information

The common stock of the Parent Corporation is traded on the NASDAQ Global Select Market. The Corporation’s symbol is CNBC. As of December 31, 2011, the Corporation had 563 stockholders of record. This does not include beneficial owners for whom CEDE & Company or others act as nominees. On December 31, 2011, the closing low market bid and asked price were $9.74 and $9.77, respectively.

The following table sets forth the high and low bid price, and the dividends declared, on a share of the Corporation’s common stock for the years ended December 31, 2011 and 2010. All amounts are adjusted for prior stock splits and stock dividends.

           
  Common Stock Price
     2011   2010   Common Dividends Declared    
     High Bid   Low Bid   High Bid   Low Bid   2011   2010
Fourth Quarter   $ 9.96     $ 8.90     $ 8.11     $ 7.30     $ 0.03     $ 0.03  
Third Quarter     10.90       8.51       7.67       7.05       0.03       0.03  
Second Quarter     10.44       9.49       9.07       6.94       0.03       0.03  
First Quarter     9.53       7.79       9.09       8.31       0.03       0.03  
Total                                       $ 0.12     $ 0.12  

Share Repurchase Program

Historically, repurchases have been made from time to time as, in the opinion of management, market conditions warranted, in the open market or in privately negotiated transactions. Shares repurchased were used for stock dividends and other issuances. No repurchases were made during 2011 and 2010.

On January 9, 2009, as part of the U.S. Department of the Treasury’s Troubled Asset Relief Program (“TARP”), the Parent Corporation entered into an agreement with the U.S. Treasury (the “Stock Purchase Agreement”) pursuant to which (i) the Parent Corporation issued and sold, and the U.S. Treasury purchased, 10,000 shares (the “Preferred Shares”) of the Company’s Fixed Rate Cumulative Perpetual Preferred Stock, Series A, having a liquidation preference of $1,000 per share for an aggregate purchase price of $10 million in cash, and (ii) the Parent Corporation issued to the U.S. Treasury a ten-year warrant (the “Warrant”) to purchase up to 173,410 shares of the Parent Corporation’s common stock at an exercise price of $8.65 per share. As a result of the successful completion of a rights offering in October 2009, the number of shares underlying the warrant held by the U.S. Treasury was reduced to 86,705 shares or 50 percent of the original 173,410 shares. On September 15, 2011, the Corporation issued $11.25 million in nonvoting senior preferred stock to the Treasury under the Small Business Lending Fund Program. Simultaneously, the Corporation redeemed from the Treasury, all 10,000 outstanding shares of its Fixed Rate Cumulative Perpetual Preferred Stock, Series A, liquidation amount $1,000 per share, for a redemption price of $10,041,667, including accrued but unpaid dividends up to the date of redemption. On December 7, 2011, the Corporation repurchased the warrants issued on January 12, 2009 to the U.S. Treasury as part of its participation in the U.S. Treasury’s TARP Capital Purchase Program. The Corporation received $10.0 million under the program and, using funds received under the U.S. Government’s Small Business Lending Fund program, repaid the debt in full in September of this year. In the repurchase, the Corporation paid the U.S. Treasury $245,000 for the warrants.

Dividends

Federal laws and regulations contain restrictions on the ability of the Parent Corporation and Union Center National Bank to pay dividends. For information regarding restrictions on dividends, see Part I, Item 1, “Business — Dividend Limitations” and Part II, Item 8, “Financial Statements and Supplementary Data —  Dividend and Other Restrictions, Note 17 of the Notes to Consolidated Financial Statements.” Under the terms of the trust preferred securities issued by Center Bancorp, Inc. Statutory Trust II, the Parent Corporation

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can not pay dividends on its common stock if the Corporation defers payments on the junior subordinated debentures which provide the cash flow for the payments on the trust preferred securities. If the Parent Corporation fails to declare and pay dividends on the SBLF Preferred Stock in a given quarter, then during such quarter and for the next three quarters followings such missed dividend payment, the Parent Corporation may not pay dividends on, or repurchase, any common stock or any other securities that are Junior to (or in parity with) the SBLF Preferred Stock, except in very limited circumstances. Also under the terms of the SBLF Preferred Stock, the Parent Corporation may declare and pay dividends on its common stock or any other stock junior to the SBLF Preferred Stock, or repurchase shares of any such stock, only if after payment of such dividends or repurchase of such shares, the Parent Corporation’s Tier 1 Capital would be at least equal to the Tier 1 Dividend Threshold, excluding any subsequent net charge-offs and any redemption of the SBLF Preferred Stock.

During 2011, the Office of the Comptroller of the Currency (the “OCC”) determined that the Memorandum of Understanding (the “MOU”) that had previously been entered into by the Bank was no longer required and, accordingly, the OCC terminated the MOU.

Stockholders Return Comparison

Set forth below is a line graph presentation comparing the cumulative stockholder return on the Parent Corporation’s common stock, on a dividend reinvested basis, against the cumulative total returns of the Standard & Poor’s Composite and the SNL Mid-Atlantic Bank Index for the period from January 1, 2007 through December 31, 2011.

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COMPARE 5-YEAR CUMULATIVE TOTAL RETURN
AMONG CENTER BANCORP INC.,
S&P COMPOSITE AND SNL MID-ATLANTIC BANK INDEX

[GRAPHIC MISSING]

Assumes $100 invested on January 1, 2007
Assumes dividends reinvested
Year ended December 31, 2011

COMPARISON OF CUMULATIVE TOTAL RETURN OF ONE OR MORE
COMPANIES, PEER GROUPS, INDUSTRY INDEXES AND/OR BROAD MARKETS

           
  Fiscal Year Ending
Company/Index/Market   12/31/2006   12/31/2007   12/31/2008   12/31/2009   12/31/2010   12/31/2011
Center Bancorp, Inc.     100.00       75.27       57.79       65.02       60.29       73.18  
S&P Composite     100.00       105.47       66.74       90.14       106.05       96.81  
SNL Mid-Atlantic Bank Index     100.00       75.62       41.66       43.85       51.16       38.43  

Item 6. Selected Financial Data

The following tables set forth selected consolidated financial data as of the dates and for the periods presented. The selected consolidated statement of financial condition data as of December 31, 2011 and 2010 and the selected consolidated summary of income data for the years ended December 31, 2011, 2010 and 2009 have been derived from our audited consolidated financial statements and related notes that we have included elsewhere in this Annual Report. The selected consolidated statement of financial condition data as of December 31, 2009, 2008 and 2007 and the selected consolidated summary of income data for the years ended December 31, 2008 and 2007 have been derived from audited consolidated financial statements that are not presented in this Annual Report.

The selected historical consolidated financial data as of any date and for any period are not necessarily indicative of the results that may be achieved as of any future date or for any future period. You should read the following selected statistical and financial data in conjunction with the more detailed information contained in “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and our consolidated financial statements and the related notes that we have presented elsewhere in this Annual Report.

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SUMMARY OF SELECTED STATISTICAL INFORMATION AND FINANCIAL DATA

         
  Years Ended December 31,
     2011   2010   2009   2008   2007
     (Dollars in Thousands, Except per Share Data)
Summary of Income
                                            
Interest income   $ 51,927     $ 48,714     $ 51,110     $ 49,894     $ 52,129  
Interest expense     12,177       14,785       22,645       24,095       30,630  
Net interest income     39,750       33,929       28,465       25,799       21,499  
Provision for loan losses     2,448       5,076       4,597       1,561       350  
Net interest income after provision for loan losses     37,302       28,853       23,868       24,238       21,149  
Other income     7,478       2,472       3,906       2,644       4,372  
Other expense     23,443       24,099       23,057       19,473       24,598  
Income before income tax expense (benefit)     21,337       7,226       4,717       7,409       923  
Income tax expense (benefit)     7,411       222       946       1,567       (2,933 ) 
Net income   $ 13,926     $ 7,004     $ 3,771     $ 5,842     $ 3,856  
Net income available to common stockholders   $ 13,106     $ 6,423     $ 3,204     $ 5,842     $ 3,856  
Statement of Financial Condition Data
                                            
Investments available for sale   $ 414,507     $ 378,080     $ 298,124     $ 242,714     $ 314,194  
Investments held to maturity     72,233                          
Total loans     756,010       708,444       719,606       676,203       551,669  
Allowance for loan losses     9,602       8,867       8,711       6,254       5,163  
Goodwill and other intangible assets     16,902       16,959       17,028       17,110       17,204  
Total assets     1,432,738       1,207,385       1,195,488       1,023,293       1,017,645  
Deposits     1,121,415       860,332       813,705       659,537       699,070  
Borrowings     161,000       212,855       269,253       268,440       218,109  
Stockholders’ equity     135,916       120,957       101,749       81,713       85,278  
Dividends
                                            
Cash dividends on Common Stock   $ 1,955     $ 1,852     $ 2,434     $ 4,675     $ 4,885  
Dividend payout ratio     14.92 %      28.83 %      75.97 %      80.02 %      126.69 % 
Cash Dividends Per Share(1)
                                            
Cash dividends   $ 0.12     $ 0.12     $ 0.18     $ 0.36     $ 0.36  
Earnings Per Share(1)
                                            
Basic   $ 0.80     $ 0.43     $ 0.24     $ 0.45     $ 0.28  
Diluted   $ 0.80     $ 0.43     $ 0.24     $ 0.45     $ 0.28  
Weighted Average Common Shares Outstanding(1)
                                            
Basic     16,295,761       15,025,870       13,382,614       13,048,518       13,780,504  
Diluted     16,314,899       15,027,159       13,385,416       13,061,410       13,840,756  
Operating Ratios
                                            
Return on average assets     1.05 %      0.59 %      0.31 %      0.58 %      0.38 % 
Average stockholders’ equity to average assets     9.83 %      9.38 %      7.66 %      8.28 %      9.33 % 
Return on average stockholders’ equity     10.73 %      6.30 %      4.02 %      7.03 %      4.09 % 
Return on average tangible stockholders’ equity(2)     12.33 %      7.44 %      4.91 %      8.86 %      5.00 % 
Book Value
                                            
Book value per common share(1)   $ 7.63     $ 6.83     $ 6.32     $ 6.29     $ 6.48  
Tangible book value per common share(1)(2)   $ 6.60     $ 5.79     $ 5.15     $ 4.97     $ 5.17  
Non-Financial Information
                                            
Common stockholders of record     563       592       605       640       679  
Full-time equivalent staff     163       159       160       160       172  

Notes to Selected Financial Data

(1) All common share and per common share amounts have been adjusted for prior stock splits and stock dividends.

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(2) Tangible book value per common share, which is a non-GAAP financial measure, is computed by dividing stockholders’ equity less preferred stock, goodwill and other intangible assets by common shares outstanding. The following table provides certain related reconciliations between Generally Accepted Accounting Principles (“GAAP”)measures (stockholders’ equity and book value per common share) and the related non-GAAP financial measures (tangible stockholders’ equity and tangible book value per common share):

         
  2011   2010   2009   2008   2007
     (Dollars in Thousands, Except per Share Data)
Common shares outstanding     16,332,327       16,289,832       14,572,029       12,991,312       13,155,784  
Stockholders’ equity   $ 135,916     $ 120,957     $ 101,749     $ 81,713     $ 85,278  
Less: Preferred Stock     11,250       9,700       9,619              
Less: Goodwill and other intangible assets     16,902       16,959       17,028       17,110       17,204  
Tangible Stockholders’ Equity   $ 107,764     $ 94,298     $ 75,102     $ 64,603     $ 68,074  
Book value per common share   $ 7.63     $ 6.83     $ 6.32     $ 6.29     $ 6.48  
Less: Goodwill and other intangible assets     1.03       1.04       1.17       1.32       1.31  
Tangible Book Value per Common Share   $ 6.60     $ 5.79     $ 5.15     $ 4.97     $ 5.17  

All per common share amounts reflect all prior stock splits and dividends.

Return on average tangible stockholders’ equity, which is a non-GAAP financial measure, is computed by dividing net income by average stockholders’ equity less average goodwill and average other intangible assets. The following table reflects a reconciliation between average stockholders’ equity and average tangible stockholders’ equity and a reconciliation between return on stockholders’ equity and return on average tangible stockholders’ equity.

         
  2011   2010   2009   2008   2007
     (Dollars in Thousands)
Net income   $ 13,926     $ 7,004     $ 3,771     $ 5,842     $ 3,856  
Average stockholders’ equity   $ 129,838     $ 111,136     $ 93,850     $ 83,123     $ 94,345  
Less: Average goodwill and other intangible assets     16,930       16,993       17,069       17,158       17,259  
Average Tangible Stockholders’ Equity   $ 112,908     $ 94,143     $ 76,781     $ 65,965     $ 77,086  
Return on average stockholders’ equity     10.73 %      6.30 %      4.02 %      7.03 %      4.09 % 
Add: Average goodwill and other intangible assets     1.61       1.14       .89       1.83       0.91  
Return on Average Tangible Stockholders’ Equity     12.33 %      7.44 %      4.91 %      8.86 %      5.00 % 

The Corporation believes that in comparing financial institutions, investors desire to analyze tangible stockholders’ equity rather than stockholders’ equity, as they discount the significance of goodwill and other intangible assets.

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Item 7. Management’s Discussion and Analysis (“MD&A”) of Financial Condition and Results of Operations

The purpose of this analysis is to provide the reader with information relevant to understanding and assessing the Corporation’s results of operations for each of the past three years and financial condition for each of the past two years. In order to fully appreciate this analysis, the reader is encouraged to review the consolidated financial statements and accompanying notes thereto appearing under Item 8 of this report, and statistical data presented in this document.

Cautionary Statement Concerning Forward-Looking Statements

See Item 1 of this Annual Report on Form 10-K for information regarding forward-looking statements.

Critical Accounting Policies and Estimates

The accounting and reporting policies followed by the Corporation conform, in all material respects, to U.S. GAAP. In preparing the consolidated financial statements, management has made estimates, judgments and assumptions that affect the reported amounts of assets and liabilities as of the dates of the consolidated statements of condition and results of operations for the periods indicated. Actual results could differ significantly from those estimates.

The Corporation’s accounting policies are fundamental to understanding this MD&A. The most significant accounting policies followed by the Corporation are presented in Note 1 of the Notes to Consolidated Financial Statements. The Corporation has identified its policies on the allowance for loan losses, other-than-temporary impairment of securities, income tax liabilities and goodwill and other identifiable intangible assets to be critical because management must make subjective and/or complex judgments about matters that are inherently uncertain and could be most subject to revision as new information becomes available. Additional information on these policies can be found in Note 1 of the Notes to Consolidated Financial Statements.

Allowance for Loan Losses and Related Provision

The allowance for loan losses represents management’s estimate of probable loan losses inherent in the loan portfolio. Determining the amount of the allowance for loan losses is considered a critical accounting estimate because it requires significant judgment and the use of estimates related to the amount and timing of expected future cash flows on impaired loans, estimated losses on pools of homogeneous loans based on historical loss experience, and consideration of current economic trends and conditions, all of which may be susceptible to significant change. The loan portfolio also represents the largest asset type on the Corporation’s Consolidated Statements of Condition.

The evaluation of the adequacy of the allowance for loan losses includes, among other factors, an analysis of historical loss rates by loan category applied to current loan totals. However, actual loan losses may be higher or lower than historical trends, which vary. Actual losses on specified problem loans, which also are provided for in the evaluation, may vary from estimated loss percentages, which are established based upon a limited number of potential loss classifications.

The allowance for loan losses is established through a provision for loan losses charged to expense. Management believes that the current allowance for loan losses will be adequate to absorb loan losses on existing loans that may become uncollectible based on the evaluation of known and inherent risks in the loan portfolio. The evaluation takes into consideration such factors as changes in the nature and size of the portfolio, overall portfolio quality, and specific problem loans and current economic conditions which may affect the borrowers’ ability to pay. The evaluation also details historical losses by loan category and the resulting loan loss rates which are projected for current loan total amounts. Loss estimates for specified problem loans are also detailed. All of the factors considered in the analysis of the adequacy of the allowance for loan losses may be subject to change. To the extent actual outcomes differ from management estimates, additional provisions for loan losses may be required that could materially adversely impact earnings in future periods. Additional information can be found in Note 1 of the Notes to Consolidated Financial Statements.

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Other-Than-Temporary Impairment of Securities

Securities are evaluated on at least a quarterly basis, and more frequently when market conditions warrant such an evaluation, to determine whether a decline in their value is other-than-temporary. FASB ASC 320-10-65, clarifies the interaction of the factors that should be considered when determining whether a debt security is other-than-temporarily impaired. For debt securities, management must assess whether (a) it has the intent to sell the security and (b) it is more likely than not that it will be required to sell the security prior to its anticipated recovery. These steps are done before assessing whether the entity will recover the cost basis of the investment. Previously, this assessment required management to assert it has both the intent and the ability to hold a security for a period of time sufficient to allow for anticipated recovery in fair value to avoid recognizing an other-than-temporary impairment. This change does not affect the need to forecast recovery of the value of the security through either cash flows or market price.

In instances when a determination is made that an other-than-temporary impairment exists but the investor does not intend to sell the debt security and it is not more likely than not that it will be required to sell the debt security prior to its anticipated recovery, FASB ASC 320-10-65 changes the presentation and amount of the other-than-temporary impairment recognized in the income statement. The other-than-temporary impairment is separated into (a) the amount of the total other-than-temporary impairment related to a decrease in cash flows expected to be collected from the debt security (the credit loss) and (b) the amount of the total other-than-temporary impairment related to all other factors. The amount of the total other-than-temporary impairment related to the credit loss is recognized through earnings. The amount of the total other-than-temporary impairment related to all other factors is recognized in other comprehensive income. Impairment charges on certain investment securities of approximately $342,000 were recognized in earnings during the year ended December 31, 2011. Of this amount, $18,000 related to a variable rate private label collateralized mortgage obligation (“CMO”) and $324,000 related to principal losses on a variable rate private label CMO. The Corporation’s approach to determining whether or not other-than-temporary impairment exists for any of these investments was consistent with the accounting guidance in effect at that time. For the year ended December 31, 2011, the Corporation primarily relied upon the guidance in FASB ASC 320-10-65, FASB ASC 820-10-65 and FASB ASC 310-10-35. Additional information can be found in Note 4 of the Notes to Consolidated Financial Statements.

Impairment charges on certain investment securities of approximately $5.6 million were recognized during the year ended December 31, 2010. Of this amount, $1.8 million related to charges taken on two pooled trust preferred securities owned by the Corporation, $360,000 on a variable rate private label collateralized mortgage obligation (“CMO”), $398,000 in principal losses on a variable rate private label CMO and $3.0 million on a trust preferred security. The Corporation’s approach to determining whether or not other-than-temporary impairment exists for any of these investments was consistent with the accounting guidance in effect at that time. For the year ended December 31, 2010, the Corporation primarily relied upon the guidance in FASB ASC 320-10-65, FASB ASC 820-10-65 and FASB ASC 325-10-35.

Income Taxes

The objectives of accounting for income taxes are to recognize the amount of taxes payable or refundable for the current year and deferred tax liabilities and assets for the future tax consequences of events that have been recognized in an entity’s financial statements or tax returns. Judgment is required in assessing the future tax consequences of events that have been recognized in the Corporation’s consolidated financial statements or tax returns.

Fluctuations in the actual outcome of these future tax consequences could impact the Corporation’s consolidated financial condition or results of operations. Notes 1 (under the caption “Use of Estimates”) and 11 of the Notes to Consolidated Financial Statements include additional discussion on the accounting for income taxes.

Goodwill

The Corporation adopted the provisions of FASB ASC 350-10-05, which requires that goodwill be reported separate from other intangible assets in the Consolidated Statements of Condition and not be amortized but tested for impairment annually or more frequently if impairment indicators arise for impairment. No impairment charge was deemed necessary for the years ended December 31, 2011 and 2010.

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Fair Value of Investment Securities

In October 2008, the FASB issued FASB ASC 820-10-35, to clarify the application of the provisions of FASB ASC 820-10-05 in an inactive market and how an entity would determine fair value in an inactive market. Changes in the Corporation’s methodology occurred for the quarter ended June 30, 2009 as new accounting guidance was released in April of 2009 with mandatory adoption required in the second quarter. The Corporation relied upon the guidance in FASB ASC 820-10-65 when determining fair value for the Corporation’s pooled trust preferred securities and private issue corporate bond. See Note 18 of the Notes to Consolidated Financial Statements, Fair Value Measurements and Fair Value of Financial Instruments, for further discussion.

Introduction

The following introduction to Management’s Discussion and Analysis highlights the principal factors that contributed to the Corporation’s earnings performance in 2011.

The year 2011 was a challenging one for the banking industry and for the Corporation. The current global financial crisis and difficult economic climate has created challenges to financial institutions both domestically and abroad. Interest rates in 2011 and 2010 were reflective of significantly lower short-term interest rates in an effort to stimulate the economy. Competition for deposits in the Corporation’s marketplace remained intense while customers’ preference in seeking safety through full FDIC insured products and more liquidity became paramount in light of the financial crisis. Market conditions remained volatile during 2011 and 2010, related to global instability in the markets following the sub-prime crises. While we continue to see an improvement in balance sheet strength and core earnings performance, we are still concerned with the credit stability of the broader markets. As a result, the Federal Reserve kept overnight borrowing rates at zero to 25 basis points throughout the course of 2011. Short-term interest rates remained lower than longer term rates resulting in an improved steepening of the yield curve. This resulted in an expansion of the Corporation’s net interest income, which is the Corporation’s primary source of income. The Corporation also took action throughout the year to reduce further exposure to interest rates through a reduction in higher cost funding and non-core balances in the deposit mix and improvement in the earning asset mix. The Corporation’s continued progress in growing and improving its balance sheet earning asset mix has helped to expand its spread and margin. We intend to continue to use a portion of the proceeds of maturing investments to help fund new loan growth.

The Corporation’s net income in 2011 was $13.9 million or $0.80 per fully diluted common share, compared with net income of $7.0 million or $0.43 per fully diluted common share in 2010. A substantial portion of our earnings in 2011 and 2010 was from core operations.

Earnings for 2011 were positively impacted by net interest income and spread expansion through both balance sheet improvements and a lower cost of funds as compared to 2010 and reductions in loan loss provisions, marketing expenses, FDIC insurance, computer and occupancy expenses. These improvements were somewhat offset by higher salaries and employee benefits, professional and consulting fees expenses. Other expense for the twelve-months ended December 31, 2011 totaled $23.4 million, a decrease of $656,000, or 2.7 percent, from the twelve-months ended December 31, 2010 due principally to the items mentioned above.

The Corporation previously announced a strategic outsourcing agreement with Fiserv to provide core account processing services, which is consistent with the Corporation’s other strategic initiatives to streamline operations, reduce operating overhead and allow the Corporation to focus on core competencies of customer service and product development. This coupled with previously initiated cost reduction plans are intended to improve operating efficiencies, business and technical operations. The core processing transition was consummated during 2009. Additionally, the consolidation of the Corporation’s branch office on 392 Springfield Avenue in Summit, New Jersey during 2009 into its new office on 545 Morris Avenue in Summit, New Jersey resulted in improved efficiency and increased customer service.

For the twelve months ended December 31, 2011, total salaries and benefits increased by $762,000 or 7.1 percent to $11.5 million primarily attributable to additions to office staff and merit increases for existing staff of approximately $515,000 and increased medical insurance expense of $40,000.

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Total non-interest income increased as a percentage of total revenue, which is the sum of interest income and non-interest income, in 2011 largely due to $3.6 million in net securities gains as compared to $1.3 million in net securities losses in 2010 as gains from sales of $4.0 million in 2011 were offset by impairment losses of $411,000. For the twelve months ended December 31, 2011, total other income increased $5.0 million as compared with the twelve months ended December 31, 2010, from $2.5 million to $7.5 million. Excluding net securities gains and losses in the respective periods, the Corporation recorded total other income of $3.8 million in both the twelve months ended December 31, 2011 and the twelve months ended December 31, 2010. Increases of $313,000 in other income were partially offset by decreases in service charges of $79,000 and bank-owned life insurance income of $188,000 caused by a one time premium benefit awarded in 2010 and not repeated in 2011.

Total assets at December 31, 2011 were $1.433 billion, an increase of 18.7 percent from assets of $1.207 billion at December 31, 2010. The increase in assets reflects the growth of $108.7 million in our investment securities portfolio as the Corporation sought to deploy cash from increased deposit production into a more efficient earning asset mix. The growth in the investment securities portfolio was funded primarily through deposit growth of $261.1 million, which also resulted in increases in cash and due from banks of $73.6 million and loans net of the allowance for loan losses of $46.8 million. The Corporation has made a concerted effort to reduce non-core balances and, as mentioned in the preceding sentence, its uninvested cash position was increased by $73.6 million in 2011. Additionally, there has been a concerted effort to reduce higher costing retail deposits.

Loan demand improved in 2011. Overall, the portfolio increased year over year by approximately $46.8 million or 6.7 percent from 2010. Demand for commercial real estate loans prevailed throughout the year in the Corporation’s market in New Jersey, despite the economic climate at both the state and national levels and market turmoil following the crisis in the sub-prime markets. The Corporation is encouraged by loan demand and positive momentum is expected to continue in growing that segment of earning assets in 2012. However, the Corporation continues to remain concerned with the credit stability of the broader markets due to the weakened economic climate.

Asset quality continues to remain high and credit culture conservative. Even so, the stability of the economy and credit markets remains uncertain and as such, has had an impact on certain credits within our portfolio. The Corporation continued to make provisions to the allowance for loan losses as efforts are made to stabilize credit quality issues. At December 31, 2011, non-performing assets totaled $8.5 million or 0.59 percent of total assets, and $11.9 million or 0.98 percent at December 31, 2010. The decrease in non-performing assets from December 31, 2010 was achieved notwithstanding the addition of several new residential loans (totaling approximately $2.6 million) and commercial loans (totaling approximately $1.4 million) into non-performing status. This was more than offset by decreases from pay-downs of $5.0 million, total charge-offs of $0.7 million of existing loans, and the transfer to performing troubled debt restructured from non-accrual status of $1.7 million.

At December 31, 2011, the total allowance for loan losses amounted to approximately $9.6 million, or 1.27 percent of total loans. The allowance for loan losses as a percent of total non-performing loans amounted to 121.5 percent at December 31, 2011 and 74.6 percent at December 31, 2010. This increase in the ratio from December 31, 2010 to December 31, 2011 was due to the decrease in the level of non-performing assets, along with an increase in the allowance for loan loss from $8.9 million at December 31, 2010.

Deposits totaled $1.1 billion at December 31, 2011, increasing $261.1 million, or 30.3%, since December 31, 2010. Total Demand, Savings, Money Market, and certificates of deposit less than $100,000 increased $242.7 million or 32.8% from December 31, 2010. Time certificates of deposit of $100,000 or more increased by $18.3 million or 15.3% from December 31, 2010. These increases were attributable to continued core deposit growth in overall segments of the deposit base and in niche areas, such as municipal government, private schools and universities.

Certificates of deposit $100,000 and greater decreased to 12.3 percent of total deposits at December 31, 2011 from 13.9 percent one year earlier. Some of the Corporation’s depositors have become sensitive to obtaining full FDIC insurance for their time deposits. To accommodate its customers, the Corporation began offering Certificates of Deposit Account Registry Service (CDARS) in 2008.

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Total stockholders’ equity increased 12.4 percent in 2011 to $135.9 million, and represented 9.49 percent of total assets at year-end. Book value per common share (total common stockholders’ equity divided by the number of shares outstanding) increased to $7.63 as compared with $6.83 a year ago, primarily as a result of earnings of $13.9 million in 2011. Tangible book value per common share (which excludes goodwill and other intangibles from common stockholders’ equity) increased to $6.60 from $5.79 a year ago; see Item 6 of this Annual Report on Form 10-K for a reconciliation of tangible book value (which is a non-GAAP financial measure) to book value. Return on average stockholders’ equity for the year ended December 31, 2011 was 10.72 percent compared to 6.30 percent for 2010. This increase was attributable to higher earnings in 2011 compared with 2010 partially offset by higher average equity due primarily to both the capital raise from the 2010 stock offering and benefit from the capital received under the SBLF program. The Tier I Leverage capital ratio decreased to 9.29 percent of total assets at December 31, 2011, as compared with 9.90 percent at December 31, 2010.

The Corporation’s capital base includes $11.4 million in capital raised from the stock and rights offerings completed in 2010, as well as the $11.25 million of capital received from the U.S. Treasury under the Small Business Lending Fund Program in 2011 and simultaneously, using the proceed from issuance of SBLF preferred stock to redeem the $10 million of capital received from the U.S. Treasury under the Capital Purchase Program. It also includes $5.2 million in subordinated debentures at December 31, 2011 and December 31, 2010. This issuance of $5.0 million in floating rate MMCapS(SM) Securities occurred on December 19, 2003. These securities presently are included as a component of Tier I capital for regulatory capital purposes. In accordance with FASB ASC 810, these securities are classified as subordinated debentures on the Corporation’s Consolidated Statements of Condition.

The Corporation’s risk-based capital ratios at December 31, 2011 were 12.00 percent for Tier I capital and 12.89 percent for total risk-based capital. Total Tier I capital increased to approximately $129.4 million at December 31, 2011 from $116.6 million at December 31, 2010. The increase in Tier I capital primarily reflects earnings and the new capital received during 2011.

The Corporation announced an increase in its common stock buyback program on September 28, 2007 and June 26, 2008, under which the Parent Corporation was authorized to purchase up to 2,039,731 shares of Center Bancorp’s outstanding common stock. As of December 31, 2011, the Parent Corporation had repurchased 1,386,863 shares under the program at an average cost of $11.44 per share. As repurchases were restricted pursuant to the Parent Corporation’s participation in TARP, there were no repurchases during 2011. On September 15, 2011, the Parent Corporation issued $11.25 million in nonvoting senior preferred stock to the Treasury under the Small Business Lending Fund Program. Under the Securities Purchase Agreement, the Parent Corporation issued to the Treasury a total of 11,250 shares of the Parent Corporation’s Senior Non-Cumulative Perpetual Preferred Stock, Series B, having a liquidation value of $1,000 per share. See Item 5 of this Annual Report on Form 10K.

The following sections discuss the Corporation’s Results of Operations, Asset and Liability Management, Liquidity and Capital Resources.

Results of Operations

Net income for the year ended December 31, 2011 was 13,926,000 as compared to $7,004,000 earned in 2010 and $3,771,000 earned in 2009, an increase of 98.8 percent from 2010 to 2011. For 2011, the basic and fully diluted earnings per common share was $0.80 per share as compared with $0.43 per share in 2010 and $0.24 per share in 2009.

For the year ended December 31, 2011, the Corporation’s return on average stockholders’ equity (“ROE”) was 10.73 percent and its return on average assets (“ROA”) was 1.05 percent. The Corporation’s return on average tangible stockholders’ equity (“ROATE”) was 12.33 percent for 2011. The comparable ratios for the year ended December 31, 2010, were ROE of 6.30 percent, ROA of 0.59 percent, and ROATE of 7.44 percent. See the discussion and reconciliation of ROATE, which is a non-GAAP financial measure, under Item 6 of this Annual Report on Form 10-K.

Earnings for 2011 benefitted from increases in net interest income and non interest income and from decreases in the provision for loan loss and non interest expense as increases in salaries and benefits and

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OREO expenses were offset by reductions in FDIC insurance, marketing and advertising expense, costs related to the one time charges connected with a one-time termination fee in the first quarter of 2010 of $594,000 on a structured securities repurchase agreement that did not recur in 2011and a $437,000 loss on fixed assets which was recorded in 2010 and did not recur in 2011.

Net Interest Income

The following table presents the components of net interest income on a tax-equivalent basis for the past three years

                 
  2011   2010   2009
     Amount   Increase
(Decrease)
from
Prior Year
  Percent Change   Amount   Increase
(Decrease)
from
Prior Year
  Percent Change   Amount   Increase
(Decrease)
from
Prior Year
  Percent Change
     (Dollars in Thousands)
Interest income:
                                                                                
Investment available-for-sale   $ 14,049     $ 2,990       27.04     $ 11,059     $ (3,279 )      (2.29 )    $ 14,338     $ (67 )      (1.24 ) 
Investment
held-to-maturity
    1,970       1,970       100.00                                      
Loans, including fees     36,320       (880 )      (2.37 )      37,200       449       1.22       36,751       641       1.78  
Federal funds sold and securities purchased under agreements to resell                                               (113 )      (100.00 ) 
Restricted investment in bank stocks     464       (104 )      (18.31 )      568       37       6.97       531       (63 )      8.25  
Total interest income     52,803       3,976       8.14       48,827       (2,793 )      (5.41 )      51,620       398       0.78  
Interest expense:
                                                                                
Deposits     5,520       (486 )      (8.09 )      6,006       (6,302 )      (51.20 )      12,308       (979 )      (7.37 ) 
Borrowings     6,657       (2,122 )      (24.17 )      8,779       (1,558 )      (15.07 )      10,337       (471 )      (4.36 ) 
Total interest expense     12,177       (2,608 )      (17.64 )      14,785       (7,860 )      (34.71 )      22,645       (1,450 )      (6.02 ) 
Net interest income on a fully tax-equivalent basis     40,626       6,584       19.34       34,042       5,067       17.49       28,975       1,848       6.81  
Tax-equivalent adjustment     (876 )      (763 )      675.22       (113 )      397       (77.84 )      (510 )      818       (61.60 ) 
Net interest income   $ 39,750     $ 5,821       17.16     $ 33,929     $ 5,464       19.20     $ 28,465     $ 2,666       10.33  

Note: The tax-equivalent adjustment was computed based on an assumed statutory Federal income tax rate of 34 percent. Adjustments were made for interest earned on tax-advantaged instruments.

Historically, the most significant component of the Corporation’s earnings has been net interest income, which is the difference between the interest earned on the portfolio of earning assets (principally loans and investments) and the interest paid for deposits and borrowings, which support these assets. There were several factors that affected net interest income during 2011, including the volume, pricing, mix and maturity of interest-earning assets and interest-bearing liabilities and interest rate fluctuations.

Net interest income is directly affected by changes in the volume and mix of interest-earning assets and interest-bearing liabilities, which support those assets, as well as changes in the rates earned and paid. Net interest income is presented in this financial review on a tax equivalent basis by adjusting tax-exempt income (primarily interest earned on various obligations of state and political subdivisions) by the amount of income tax which would have been paid had the assets been invested in taxable issues, and then in accordance with the Corporation’s consolidated financial statements. Accordingly, the net interest income data presented in this financial review differ from the Corporation’s net interest income components of the Consolidated Financial Statements presented elsewhere in this report.

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Net interest income, on a fully tax-equivalent basis, for the year ended December 31, 2011 increased $6.6 million, or 19.3 percent, to $40.6 million, from $34.0 million for 2010. The Corporation’s net interest margin increased 23 basis points to 3.53 percent from 3.30 percent. From 2009 to 2010, net interest income on a tax equivalent basis increased by $5.0 million and the net interest margin increased by 45 basis points. During 2011, our net interest margin was positively impacted by increases in the investment portfolio and net loans funded by increases in core deposits, a decrease in high yielding time deposits in excess of $100,000 and reductions in borrowings.

The change in net interest income from 2010 to 2011 was attributable in part to the reduction in short-term interest rates that occurred in 2008 and have remained at historic low levels throughout 2011 coupled with a sustained steepening of the interest rate yield curve. Steps were taken during 2010 and 2011 to improve the Corporation’s net interest margin by continuing to lower rates in concert with the decline in market benchmark rates. However, in light of the financial crisis, the Corporation experienced growth of $23.0 million in non-interest bearing deposits during 2011 and, $219.8 million in savings, money market and time deposits under $100,000 during 2011 as customers’ desire for safety and liquidity remained paramount in light of their overall investment concerns. During 2011, the Corporation made a concerted effort to reduce non-core, single service deposits, and accordingly its uninvested cash position, which had an adverse impact on the Corporation’s net interest margin during 2011. However, during the twelve months ended December 31, 2011, the Corporation’s net interest spread improved by 26 basis points as a 16 basis point decrease in the average yield on interest-earning assets was more than offset by a 42 basis point decrease in the average interest rates paid on interest-bearing liabilities.

For the year ended December 31, 2011, average interest-earning assets increased by $121.5 million to $1.15 billion, as compared with the year ended December 31, 2010. The 2011 change in average interest-earning asset volume was primarily due to increased investment volume and to a lesser degree increased loan volume. Increased average investment volume in 2011 was funded primarily by the increased deposit growth. Average interest-bearing liabilities increased by $104.1 million, due primarily to increase in interest bearing deposits of $153.6 million partially offset by decreases in borrowings of $49.5 million. During the third quarter of 2011 certain sweep relationships, in the amount of approximately $37 million, that were previously classified as short term borrowings were discontinued and were moved to interest bearing checking accounts.

For the year ended December 31, 2010, average interest-earning assets increased by $12.3 million to $1.031 billion, as compared with the year ended December 31, 2009. The 2010 change in average interest-earning asset volume was primarily due to increased loan volume. Increased average loan volume in 2010 was funded primarily by the reduction of the uninvested cash position.

The factors underlying the year-to-year changes in net interest income are reflected in the tables presented on pages 39 and 41, each of which have been presented on a tax-equivalent basis (assuming a 34 percent tax rate). The table on page 41 (Average Statements of Condition with Interest and Average Rates) shows the Corporation’s consolidated average balance of assets, liabilities and stockholders’ equity, the amount of income produced from interest-earning assets and the amount of expense incurred from interest-bearing liabilities, and net interest income as a percentage of average interest-earning assets.

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Net Interest Margin

The following table quantifies the impact on net interest income (on a tax-equivalent basis) resulting from changes in average balances and average rates over the past three years. Any change in interest income or expense attributable to both changes in volume and changes in rate has been allocated in proportion to the relationship of the absolute dollar amount of change in each category.

Analysis of Variance in Net Interest Income Due to Volume and Rates

           
  2011/2010
Increase (Decrease)
Due to Change in:
  2010/2009
Increase (Decrease)
Due to Change in:
     Average
Volume
  Average
Rate
  Net
Change
  Average
Volume
  Average
Rate
  Net
Change
     (Dollars in Thousands)
Interest-earning assets:
                                                     
Investment securities:
                                                     
Available for sale
                                                     
Taxable   $ 1,885     $ (55 )    $ 1,830     $ 700     $ (2,813 )    $ (2,113 ) 
Non-Taxable     1,181       (21 )      1,160       (1,122 )      (44 )      (1,166 ) 
Held to maturity
                                                     
Taxable     887             887                    
Non-Taxable     1,083             1,083                    
Loans, net of unearned discount     510       (1,390 )      (880 )      1,002       (553 )      449  
Restricted investment in bank stocks     (59 )      (45 )      (104 )      (12 )      49       37  
Total interest-earning assets     5,487       (1,511 )      3,976       568       (3,361 )      (2,793 ) 
Interest-bearing liabilities:
                                                     
Money market deposits     461       (305 )      156       54       (749 )      (695 ) 
Savings deposits     77       (368 )      (291 )      286       (1,110 )      (824 ) 
Time deposits     158       (567 )      (409 )      (1,905 )      (2,262 )      (4,167 ) 
Other interest-bearing deposits     314       (256 )      58       309       (925 )      (616 ) 
Borrowings and subordinated debentures     (1,701 )      (421 )      (2,122 )      (709 )      (849 )      (1,558 ) 
Total interest-bearing liabilities     (691 )      (1,917 )      (2,608 )      (1,965 )      (5,895 )      (7,860 ) 
Change in net interest income   $ 6,178     $ 406     $ 6,584     $ 2,533     $ 2,534     $ 5,067  

Interest income on a fully tax-equivalent basis for the year ended December 31, 2011 increased by approximately $4.0 million or 8.1 percent as compared with the year ended December 31, 2010. This increase was due primarily to an increase in balances of the Corporation’s investment securities portfolios offset in part by a decline in rates due to the actions taken by the Federal Reserve to lower market interest rates. The Corporation’s loan portfolio increased on average $4.5 million to $712.9 million from $708.4 million in 2010, primarily driven by growth in commercial loans and commercial real estate.

The loan portfolio represented approximately 61.9 percent of the Corporation’s interest-earning assets (on average) during 2011 and 68.7 percent for 2010. Average investment securities increased during 2011 by $118.1 million compared to 2010 as the Corporation has continued to increase its concentration in tax-exempt securities and focused on purchases of lower risk-based mortgage backed securities. The average yield on interest-earning assets decreased from 4.74 percent in 2010 to 4.58 percent in 2011.

The increase in the volume of loans in 2011 primarily reflected increases in commercial and commercial real estate loans. The increase in the average volume on total interest-earning assets created an increase in interest income of $5.5 million, as compared with a decline of $1.5 million attributable to rate decreases in most interest-earning assets.

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Interest income (fully tax-equivalent) decreased by $2.8 million from 2009 to 2010 primarily due to a decrease in balances of the Corporation’s investment securities portfolios offset in part by an increase in the loan portfolio and a decline in rates due to the actions taken by the Federal Reserve to lower market interest rates.

The Federal Open Market Committee (“FOMC”) kept the Federal Funds target rate at zero to 0.25 percent throughout 2011. This action by the FOMC allowed the Corporation to reduce liability costs throughout 2011.

Interest expense for the year ended December 31, 2011 was principally impacted by rate related factors. The rate related changes resulted in decreased expense on most interest-bearing deposits and borrowings in 2011. For the year ended December 31, 2011, interest expense decreased $2.6 million or 17.6 percent as compared with 2010. During 2011, the Corporation continued to lower rates in concert with the decline in market benchmark rates. The result was an improvement in the Corporation’s cost of funds and net interest spread. Average interest-bearing liabilities increased $104.1 million; the growth was represented in all deposit categories as the flight to quality continued as depositors sought the safety of FDIC insurance.

For the year ended December 31, 2010, interest expense decreased $7.9 million or 34.7 percent as compared with 2009. Total interest-bearing liabilities decreased on average $72.1 million, primarily in CDARS Reciprocal deposits and in borrowings. The Corporation’s net interest spread on a tax-equivalent basis (i.e., the average yield on average interest-earning assets, calculated on a tax equivalent basis, minus the average rate paid on interest-bearing liabilities) increased 26 basis points to 3.39 percent in 2011 from 3.13 percent for the year ended December 31, 2010. The increase in 2011 reflected an expansion of spreads between yields earned on loans and investments and rates paid for supporting funds. During 2011, spreads improved due in part to monetary policy maintained by the FOMC keeping the Federal funds rate at zero to 0.25 percent throughout 2011 coupled with a steepening of the yield curve that occurred during 2011.

The net interest spread increased 34 basis points in 2010 as compared with 2009, primarily as a result of an expansion of spreads between yields earned on loans and investments and rates paid for supporting funds. During 2010, spreads improved due in part to monetary policy maintained by the FOMC keeping the Federal funds rate at zero to 0.25 percent throughout 2010 coupled with a steepening of the yield curve that occurred during 2010.

The cost of total average interest-bearing liabilities decreased to 1.19 percent, a decrease of 42 basis points, for the year ended December 31, 2011, from 1.61 percent for the year ended December 31, 2010, which followed a decrease of 67 basis points from 2.28 percent for the year ended December 31, 2009.

The contribution of non-interest-bearing sources (i.e., the differential between the average rate paid on all sources of funds and the average rate paid on interest-bearing sources) decreased to16 basis points, a decrease of 5 basis points in 2011 from 2010. Comparing 2010 and 2009, there was a decrease of 5 basis points to 21 basis points on average from 26 basis points on average during the year ended December 31, 2009.

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The following table, “Average Statements of Condition with Interest and Average Rates”, presents for the years ended December 31, 2011, 2010 and 2009, the Corporation’s average assets, liabilities and stockholders’ equity. The Corporation’s net interest income, net interest spreads and net interest income as a percentage of interest-earning assets (net interest margin) are also reflected.

AVERAGE STATEMENTS OF CONDITION WITH INTEREST AND AVERAGE RATES

                 
                 
  Years Ended December 31,
     2011   2010   2009
(Tax-Equivalent Basis)   Average
Balance
  Income/
Expense
  Yield/
Rate
  Average
Balance
  Income/
Expense
  Yield/
Rate
  Average
Balance
  Income/
Expense
  Yield/
Rate
     (Dollars in Thousands)
ASSETS
                                                                                
Interest-earning assets:
                                                                                
Investment securities:(1)
                                                                                
Available for sale
                                                                                
Taxable   $ 359,939     $ 12,556       3.49 %    $ 305,927     $ 10,726       3.51 %    $ 289,414     $ 12,839       4.44 % 
Non-taxable     28,067       1,493       5.32 %      5,880       333       5.66 %      25,677       1,499       5.84 % 
Held to maturity
                                                                                
Taxable     23,041       887       3.85 %                  %                  % 
Non-taxable     18,869       1,083       5.74 %                  %                  % 
Loans, net of unearned income:(2)     712,895       36,320       5.09 %      708,425       37,200       5.25 %      692,562       36,751       5.31 % 
Restricted investment in bank stocks     9,185       464       5.05 %      10,293       568       5.52 %      10,526       531       5.04 % 
Total interest-earning assets     1,151,996       52,803       4.58 %      1,030,525       48,827       4.74 %      1,018,179       51,620       5.07 % 
Non-interest-earning assets:
                                                                                
Cash and due from banks     99,607                         81,681                         128,156                    
Bank owned life insurance     28,405                         27,045                         24,941                    
Intangible assets     16,930                         16,993                         17,069                    
Other assets     33,984                         36,817                         42,980                    
Allowance for loan losses     (9,660 )                  (8,579 )                  (6,916 )             
Total non-interest earning assets     169,266                   153,957                   206,230              
Total assets   $ 1,321,262                 $ 1,184,482                 $ 1,224,409              
LIABILITIES & STOCKHOLDERS’ EQUITY
                                                                                
Interest-bearing liabilities:
                                                                                
Money market deposits   $ 204,664     $ 1,096       0.54 %    $ 127,614     $ 940       0.74 %    $ 123,427     $ 1,635       1.32 % 
Savings deposits     179,759       935       0.52 %      168,591       1,226       0.73 %      145,536       2,050       1.41 % 
Time deposits     223,560       2,274       1.02 %      210,565       2,683       1.27 %      319,639       6,850       2.14 % 
Other interest-bearing deposits     221,839       1,215       0.55 %      169,479       1,157       0.68 %      140,890       1,773       1.26 % 
Short-term and long-term borrowings     190,343       6,497       3.41 %      239,777       8,568       3.57 %      258,607       10,146       3.92 % 
Subordinated debentures     5,155       160       3.10 %      5,155       211       4.09 %      5,155       191       3.71 % 
Total interest-bearing liabilities     1,025,320       12,177       1.19 %      921,181       14,785       1.61 %      993,254       22,645       2.28 % 
Non-interest-bearing liabilities:
                                                                                
Demand deposits     159,059                         142,364                         124,966                    
Other non-interest-bearing deposits                                                     333                    
Other liabilities     7,045                   9,801                   12,003              
Total non-interest-bearing liabilities     166,104                   152,165                   137,302              
Stockholders’ equity     129,838                   111,136                   93,853              
Total liabilities and stockholders’ equity   $ 1,321,262                 $ 1,184,482                 $ 1,224,409              
Net interest income (tax-equivalent basis)           40,626                   34,042                   28,975        
Net interest spread                 3.39 %                  3.13 %                  2.79 % 
Net interest income as percent of earning assets (margin)                 3.53 %                  3.30 %                  2.85 % 
Tax-equivalent adjustment(3)           (876 )                  (113 )                  (510 )       
Net interest income         $ 39,750                 $ 33,929                 $ 28,465        

(1) Average balances for available-for-sale securities are based on amortized cost.
(2) Average balances for loans include loans on non-accrual status.
(3) The tax-equivalent adjustment was computed based on a statutory Federal income tax rate of 34 percent.

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Investment Portfolio

For the year ended December 31, 2011, the average volume of investment securities increased by $118.1 million to approximately $429.9 million or 37.3 percent of average earning assets, from $311.8 million on average, or 30.3 percent of average earning assets, in 2010. At December 31, 2011, the total investment portfolio amounted to $486.7 million, an increase of $108.7 million from December 31, 2010. The increase at year-end and average volume of investment securities reflects the fact that with the strong deposit growth experienced during 2011 and large buildup of liquidity, the Corporation began to prudently expand the size of its investment portfolio in an effort to deploy excess cash into earning assets. At December 31, 2011, the principal components of the investment portfolio are U.S. Government Agency Obligations, Federal Agency Obligations including mortgage-backed securities, Obligations of U.S. states and political subdivision, corporate bonds and notes, and other debt and equity securities.

In the past, the Corporation’s investment portfolio also consisted of overnight investments that were made in the Reserve Primary Fund (the “Fund”), a money market fund registered with the Securities and Exchange Commission as an investment company under the Investment Company Act of 1940. On September 22, 2008, the Fund announced that redemptions of shares of the Fund were suspended pursuant to an SEC order so that an orderly liquidation could be effected for the protection of the Fund’s investors. Through December 31, 2011, the Corporation received six distributions from the Fund, totaling approximately 99 percent of its outstanding balance. During the fourth quarter of 2009, the Corporation recorded a $364,000, or approximately 1 percent, other-than-temporary impairment charge to earnings relating to this court ordered liquidation of the Fund. The Corporation’s outstanding carrying balance in the Fund as of December 31, 2011 was zero. Future liquidation distributions received by the Corporation, if any, will be recorded to earnings.

During the year ended December 31, 2011, volume related factors increased investment revenue by $5.0 million, while rate related factors decreased investment revenue by $76,000. The tax-equivalent yield on investments increased by 18 basis points to 3.73 percent from a yield of 3.55 percent during the year ended December 31, 2010. The increase in the investment portfolio resulted from the large buildup of liquidity, which caused the Corporation to prudently expand the size of its investment portfolio in an effort to deploy excess cash into earning assets. The yield on the portfolio increased compared to 2010 due primarily to tax exempt securities which, due to higher tax equivalent yields, improved the overall yield.

During 2011, the Corporation reclassified at fair value approximately $66.8 million in available-for-sale investment securities to the held-to-maturity category. The related after-tax gains of approximately $159,000 (on a pre-tax basis of $245,000) remained in accumulated other comprehensive income and will be amortized over the remaining life of the securities as an adjustment of yield, offsetting the related amortization of the premium or accretion of the discount on the transferred securities. No gains or losses were recognized at the time of reclassification. Management considers the held-to-maturity classification of these investment securities to be appropriate as the Corporation has the positive intent and ability to hold these securities to maturity.

The Corporation owns two pooled trust preferred securities (“Pooled TRUPS”), which consists of securities issued by financial institutions and insurance companies. The Corporation holds the mezzanine tranche of these securities. Senior tranches generally are protected from defaults by over-collateralization and cash flow default protection provided by subordinated tranches, with senior tranches having the greatest protection and mezzanine tranches subordinated to the senior tranches. One of the Pooled TRUPS, ALESCO VI, has incurred its eleventh interruption of cash flow payments to date. Management reviewed the expected cash flow analysis and credit support to determine if it was probable that all principal and interest would be repaid, and no other-than-temporary impairment charges were recorded for the twelve months ended December 31, 2011. The new cost basis for this security had been written down to $290,000. The other Pooled TRUP, ALESCO VII, incurred its ninth interruption of cash flow payments to date. Management determined that no other-than-temporary impairment charge exists on this security as well for the twelve months ended December 31, 2011. The new cost basis for this security had been written down to $834,000.

One of the Pooled TRUPS, ALESCO VI, incurred its seventh interruption of cash flow payments in 2010. Management reviewed the cash flow analysis and credit support to determine if it was probable that all principal and interest would be repaid, and recorded a $33,000 other-than-temporary impairment charge for the three months ended December 31, 2010 and $500,000 for the twelve months ended December 31, 2010,

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which represented 15.6 percent of the par amount of $3.2 million. At December 31, 2010 the new cost basis for this security had been written down to $227,000. The other Pooled TRUP incurred, ALESCO VII, its fifth interruption of cash flow payments to date. Management determined that an other-than-temporary impairment existed on this security as well and recorded a $677,000 charge during the fourth quarter of 2010, and $1.3 million for the twelve months ended December 31, 2010, which represented 41.9 percent of the par amount of $3.1 million. At December 31, 2010 the new cost basis for this security had been written down to $779,000.

The Corporation owns 3 variable rate private label collateralized mortgage obligations (CMO), which were also evaluated for impairment. Management had applied aggressive default rates to identify if any credit impairment exists, as these bonds were downgraded to below investment grade. The Corporation recorded $324,000 in principal losses and an $18,000 other-than-temporary impairment charge on these bonds in 2011, and expects additional losses in future periods. The new cost basis for these securities had been written down to $3.2 million. The Corporation recorded $398,000 in principal losses on these bonds and $360,000 other-than-temporary charge in 2010.

Securities available-for-sale are a part of the Corporation’s interest rate risk management strategy and may be sold in response to changes in interest rates, changes in prepayment risk, liquidity management and other factors. The Corporation continues to reposition the investment portfolio as part of an overall corporate-wide strategy to produce reasonable and consistent margins where feasible, while attempting to limit risks inherent in the Corporation’s balance sheet.

At December 31, 2011, the net unrealized loss carried as a component of accumulated other comprehensive income and included in stockholders’ equity, net of tax, amounted to a net unrealized loss of $2.2 million as compared with a net unrealized loss of $5.3 million at December 31, 2010, resulting from changes in market conditions and interest rates at December 31, 2011. As a result of the inactive condition of the markets amidst the financial crisis, the Corporation elected to treat certain securities under a permissible alternate valuation approach at December 31, 2011 and 2010. For additional information regarding the Corporation’s investment portfolio, see Note 4 and Note 18 of the Notes to the Consolidated Financial Statements.

During 2011, securities sold from the Corporation’s available-for-sale portfolio amounted to $254.8 million, as compared with $644.1 million in 2010. The gross realized gains on securities sold amounted to approximately $4,045,000 in 2011 compared to $4,872,000 in 2010, while the gross realized losses, which included impairment charges of $342,000, amounted to approximately $411,000 in 2011 compared to $635,000 in 2010. During 2011, the Corporation recorded an $18,000 loss on Other Than Temporary Impairment charges on a variable rate private label CMO and $324,000 in principal losses on the same variable rate private label CMO. During 2010, the Corporation recorded a $3.0 million other-than-temporary charge on its trust preferred securities, $1.8 million on two pooled trust preferred securities and $360,000 on a variable rate private label CMO and $398,000 in principal losses on this variable rate private label CMO.

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The table below illustrates the maturity distribution and weighted average yield on a tax-equivalent basis for investment securities at December 31, 2011, on a contractual maturity basis.

                   
  Federal
Agency
Obligations
  Residential
Mortgage
Pass-through
Securities
  Commercial
Mortgage
Pass-through
Securities
  Obligations in
U.S. States &
Political
Subdivisions
  Trust
Preferred
  Corporate
Bonds &
Notes
  Collateralized
Mortgage
Obligations
  Asset-backed
Securities
  Equity
Securities
  Total
  (Dollars in thousands)
Investment Securities Available-for-Sale
                                                                                         
Due in 1 year or less
                                                                                         
Amortized Cost   $     $     $     $     $     $ 4,143     $     $     $     $ 4,143  
Market Value   $     $     $     $     $     $ 4,118     $     $     $     $ 4,118  
Weighted Average Yield     %      %      %      %      %      1.91 %      %      %      %      1.91 % 
Due after one year through five years
                                                                                         
Amortized Cost   $ 43     $     $     $ 2,055     $     $ 79,700     $     $     $     $ 81,798  
Market Value   $ 43     $     $     $ 2,049     $     $ 79,046     $     $     $     $ 81,138  
Weighted Average Yield     0.90 %      %      %      1.53 %      %      2.55 %      %      %      %      2.52 % 
Due after five years through ten years
                                                                                         
Amortized Cost   $ 44     $ 5,507     $     $ 16,113     $     $ 88,521     $     $ 3,716     $     $ 113,901  
Market Value   $ 45     $ 5,577     $     $ 16,821     $     $ 86,520     $     $ 3,769     $     $ 112,732  
Weighted Average Yield     2.00 %      2.04 %      %      2.67 %