10-K 1 form10k.htm NBT BANCORP INC 10-K 12-31-2014

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
 WASHINGTON, DC 20549
 
FORM 10-K
 
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
FOR THE FISCAL YEAR ENDED DECEMBER 31, 2014
COMMISSION FILE NUMBER: 0-14703

NBT BANCORP INC.
(Exact name of registrant as specified in its charter)

Delaware
 
16-1268674
(State or other jurisdiction of incorporation or organization)
 
(IRS Employer Identification No.)

52 SOUTH BROAD STREET
NORWICH, NEW YORK 13815
(Address of principal executive office) (Zip Code)
(607) 337-2265 (Registrant’s telephone number, including area code)
  
Securities registered pursuant to section 12(b) of the Act:
  
Title of each class:
 
Name of each exchange on which registered:
Common Stock, par value $0.01 per share
 
The NASDAQ Stock Market LLC
Stock Purchase Rights Pursuant to Stockholders Rights Plan
 
 
 
Securities registered pursuant to section 12(g) of the Act: None
 
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes   No
 
Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15 (d) of the Act.  Yes   No
 
Indicate  by  check mark whether the registrant (1) has filed all reports required to  be  filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the  preceding  12  months  (or  for such shorter period that the registrant was required to file such reports) and (2) has been subject to such filing requirements for  the  past  90  days.  Yes   No  
 
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes   No
 
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (Section 229.405 of this chapter) is not contained herein, and will  not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.  
 
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 the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act). Yes   No
 
Based on the closing price of the registrant’s common stock as of June 30, 2014, the aggregate market value of the voting stock, common stock, par value, $0.01 per share, held by non-affiliates of the registrant is $$1,001,148,554.
 
The number of shares of common stock outstanding as of February 13, 2015, was 44,213,717.
 

DOCUMENTS INCORPORATED BY REFERENCE
 
Portions of the registrant’s definitive Proxy Statement for its Annual Meeting of Stockholders to be held on May 5, 2015 are incorporated by reference into Part III, Items 10, 11, 12, 13 and 14 of this Form 10-K.

NBT BANCORP INC.
FORM 10-K – Year Ended December 31, 2014
 
TABLE OF CONTENTS
PART I
 
 
 
 
 
ITEM 1
4
 
 
 
ITEM 1A
14
 
 
 
ITEM 1B
19
 
 
 
ITEM 2
20
 
 
 
ITEM 3
21
 
 
 
ITEM 4
21
 
 
 
PART II
 
 
 
 
 
ITEM 5
21
 
 
 
ITEM 6
24
 
 
 
ITEM 7
25
 
 
 
ITEM 7A
46
 
 
 
ITEM  8
47
 
47
 
48
 
49
 
50
 
51
 
52
 
54
 
 
 
ITEM 9
89
     
ITEM 9A
89
 
 
 
ITEM 9B
92
 
 
 
PART III
 
 
 
 
 
ITEM 10
92
 
 
 
ITEM 11
92
 
 
 
ITEM 12
92
 
 
 
ITEM 13
92
 
 
 
ITEM 14
92
 
 
 
PART IV
 
 
 
 
 
ITEM 15
93
 
 
 
96
 
 
PART I

ITEM 1.   Business
 
NBT Bancorp Inc. (the “Registrant” or the “Company”) is a registered financial holding company incorporated in the state of Delaware in 1986, with its principal headquarters located in Norwich, New York. The Company, on a consolidated basis, at December 31, 2014 had assets of $7.8 billion and stockholders’ equity of $864.2 million.  Return on average assets and return on average equity were 0.97% and 8.84%, respectively, for the year ending December 31, 2014.  The Company had net income of $75.1 million or $1.69 per diluted share for 2014 and the 2014 fully taxable equivalent (“FTE”) net interest margin was 3.61%.
 
The principal assets of the Registrant consist of all of the outstanding shares of common stock of its subsidiaries, including:  NBT Bank, National Association (the “Bank”), NBT Financial Services, Inc. (“NBT Financial”), NBT Holdings, Inc. (“NBT Holdings”), Hathaway Agency, Inc., and CNBF Capital Trust I, NBT Statutory Trust I and NBT Statutory Trust II (collectively, the “Trusts”).  The Company’s principal sources of revenue are the management fees and dividends it receives from the Bank, NBT Financial and NBT Holdings.
 
The Company’s business, primarily conducted through the Bank but also through its other subsidiaries, consists of providing commercial banking and financial services to customers in its market area, which includes central and upstate New York, northeastern Pennsylvania, southern New Hampshire, western Massachusetts, Vermont, and the greater Portland, Maine area.  The Company has been, and intends to continue to be, a community-oriented financial institution offering a variety of financial services.  The Company’s business philosophy is to operate as a community bank with local decision-making, principally in non-metropolitan markets, providing a broad array of banking and financial services to retail, commercial, and municipal customers.  The financial condition and operating results of the Company are dependent on its net interest income which is the difference between the interest and dividend income earned on its earning assets, primarily loans and investments, and the interest expense paid on its interest bearing liabilities, primarily consisting of deposits and borrowings. Among other factors, net income is also affected by provisions for loan losses and noninterest income, such as service charges on deposit accounts, insurance and other financial services fees, trust revenue, and gains/losses on securities sales, bank owned life insurance income, ATM and debit card fees, and retirement plan administration fees as well as noninterest expense, such as salaries and employee benefits, occupancy, equipment, data processing and communications, professional fees and outside services, office supplies and postage, amortization, loan collection and other real estate owned expenses, advertising, FDIC expenses, and other expenses.
 
Substantially all of the Company’s business activities are with customers located in the United States.  Percentage of revenue and loan composition by state is summarized below:

 
Interest and Fee Income
 
Noninterest Income
 
Total Revenue
New York
 
53%
 
 
31%
 
 
84%
Pennsylvania
 
6%
 
 
2%
 
 
8%
New Hampshire
 
3%
 
 
0%
 
 
3%
Vermont
 
4%
 
 
0%
 
 
4%
Massachusetts
 
1%
 
 
0%
 
 
1%
 
 
67%
 
 
33%
 
 
100%


 
Commercial
Consumer
Residential Real Estate
Total Loan Portfolio
New York
32%
28%
16%
76%
Pennsylvania
3%
4%
3%
10%
New Hampshire
4%
1%
1%
6%
Vermont
3%
2%
1%
6%
Massachusetts
1%
1%
0%
2%
 
43%
36%
21%
100%

 
 
Percentage of total loan portfolio secured by real estate is summarized below:

 
Secured By Real Estate
 
Not Secured By Real Estate
New York
 
58%
 
 
42%
Pennsylvania
 
64%
 
 
36%
New Hampshire
 
83%
 
 
17%
Vermont
 
55%
 
 
45%
Massachusetts
 
74%
 
 
26%

Like the rest of the nation, the market areas that the Company serves are still experiencing economic challenges.  A variety of factors (e.g., any substantial rise in inflation or rise in unemployment rates, decrease in consumer confidence, adverse international economic conditions, natural disasters, war, or political instability) may affect both the Company’s markets and the national market.  The Company will continue to emphasize managing its funding costs and lending and investment rates to effectively maintain profitability.  In addition, the Company will continue to seek and maintain relationships that can generate noninterest income.  We anticipate that this approach should help mitigate profit fluctuations that are caused by movements in interest rates, business and consumer loan cycles, and local economic factors.

NBT Bank, N.A.

The Bank is a full service commercial bank formed in 1856, which provides a broad range of financial products to individuals, corporations and municipalities throughout the central and upstate New York, northeastern Pennsylvania, western Massachusetts, southern New Hampshire, Vermont, and the greater Portland, Maine market areas.

Through its network of branch locations, the Bank offers a wide range of products and services tailored to individuals, businesses, and municipalities.  Deposit products offered by the Bank include demand deposit accounts, savings accounts, negotiable order of withdrawal (“NOW”) accounts, money market deposit accounts (“MMDA”), and certificate of deposit (“CD”) accounts.  The Bank offers various types of each deposit account to accommodate the needs of its customers with varying rates, terms, and features.  Loan products offered by the Bank include consumer loans, home equity loans, mortgages, small business loans and commercial loans, with varying rates, terms and features to accommodate the needs of its customers.  The Bank also offers various other products and services through its branch network such as trust and investment services and financial planning and life insurance services.  In addition to its branch network, the Bank also offers access to certain products and services electronically enabling customers to check balances, transfer funds, pay bills, view statements, apply for loans and access various other product and service information.  The Bank provides 24-hour access to an automated telephone line whereby customers can check balances, obtain account information, transfer funds, request statements, and perform various other activities.

NBT Financial Services, Inc.

Through NBT Financial Services, the Company operates EPIC Advisors, Inc. (“EPIC”), a retirement plan administrator.  Through EPIC, the Company offers services including retirement plan consulting and recordkeeping services.  EPIC’s headquarters are located in Rochester, New York.

NBT Holdings, Inc.

Through NBT Holdings, the Company operates Mang Insurance Agency, LLC (“Mang”), a full-service insurance agency acquired by the Company on September 1, 2008.  Mang’s headquarters are in Norwich, New York.  Through Mang, the Company offers a full array of insurance products, including personal property and casualty, business liability and commercial insurance, tailored to serve the specific insurance needs of individuals as well as businesses in a range of industries operating in the markets served by the Company.

The Trusts

The Trusts were organized to raise additional regulatory capital and to provide funding for certain acquisitions.  CNBF Capital Trust I (“Trust I”) and NBT Statutory Trust I are Delaware statutory business trusts formed in 1999 and 2005, respectively, for the purpose of issuing trust preferred securities and lending the proceeds to the Company. In connection with the acquisition of CNB Bancorp, Inc., the Company formed NBT Statutory Trust II (“Trust II”) in February 2006 to fund the cash portion of the acquisition as well as to provide regulatory capital. The Company raised $51.5 million through Trust II in February 2006. The Company guarantees, on a limited basis, payments of distributions on the trust preferred securities and payments on redemption of the trust preferred securities. The Trusts are variable interest entities (VIEs) for which the Company is not the primary beneficiary, as defined by Financial Accounting Standards Board Accounting Standards Codification (“FASB ASC”).  In accordance with FASB ASC, the accounts of the Trusts are not included in the Company’s consolidated financial statements.
 
 
Operating Subsidiaries of the Bank

The Bank has five operating subsidiaries, NBT Capital Corp., Pennstar Bank Services Company, Broad Street Property Associates, Inc., NBT Services, Inc., and CNB Realty Trust. NBT Capital Corp., formed in 1998, is a venture capital corporation formed to assist young businesses to develop and grow primarily in the markets they serve. Pennstar Bank Services Company was formed in 2002 to provide administrative and support services to the Bank.  Broad Street Property Associates, Inc., formed in 2004, is a property management company.  NBT Services, Inc., formed in 2004, has a 44% ownership interest in Land Record Services, LLC.  Land Record Services, LLC, a title insurance agency, offers mortgagee and owner’s title insurance coverage to both retail and commercial customers.  CNB Realty Trust, formed in 1998, is a real estate investment trust.

Competition

The financial services industry, including commercial banking, is highly competitive, and we encounter strong competition for deposits, loans and other financial products and services in our market area.  The increasingly competitive environment is the result of the continued low rate environment, changes in regulation, changes in technology and product delivery systems, additional financial service providers, and the accelerating pace of consolidation among financial services providers.  The Company competes for loans, deposits, and customers with other commercial banks, savings and loan associations, securities and brokerage companies, mortgage companies, insurance companies, finance companies, money market funds, credit unions, and other nonbank financial service providers.
 
The financial services industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which can offer virtually any type of financial service, including banking, securities underwriting, insurance (both agency and underwriting) and merchant banking. Also, technology has lowered barriers to entry and made it possible for non-banks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems.

Some of the Company’s nonbanking competitors have fewer regulatory constraints and may have lower cost structures.  In addition, some of the Company’s competitors have assets, capital and lending limits greater than that of the Company, have greater access to capital markets and offer a broader range of products and services than the Company.  These institutions may have the ability to finance wide-ranging advertising campaigns and may also be able to offer lower rates on loans and higher rates on deposits than the Company can offer.  Some of these institutions offer services, such as credit cards and international banking, which the Company does not directly offer.

Various in-state market competitors and out-of-state banks continue to enter or have announced plans to enter or expand their presence in the market areas in which the Company currently operates.  With the addition of new banking presences within our market, the Company expects increased competition for loans, deposits, and other financial products and services.
 
In order to compete with other financial services providers, the Company stresses the community nature of its banking operations and principally relies upon local promotional activities, personal relationships established by officers, directors, and employees with their customers, and specialized services tailored to meet the needs of the communities served.  We also offer certain customer services, such as agricultural lending, that many of our larger competitors do not offer.  While the Company’s position varies by market, the Company’s management believes that it can compete effectively as a result of local market knowledge, local decision making, and awareness of customer needs.
 
 
The table below summarizes the Bank’s deposits and market share by the thirty-seven counties of New York, Pennsylvania, New Hampshire, Vermont, and Massachusetts in which it had customer facilities as of June 30, 2014.  Market share is based on deposits of all commercial banks, credit unions, savings and loans associations, and savings banks.

County
State
 
Deposits (in thousands)
   
Market Share
   
Market
Rank
   
Number
of
Branches*
   
Number of ATMs*
 
Chenango
NY
 
$
673,872
     
88.02
%
   
1
     
11
     
13
 
Fulton
NY
   
403,646
     
60.91
%
   
1
     
5
     
6
 
Schoharie
NY
   
200,358
     
49.12
%
   
1
     
4
     
4
 
Hamilton
NY
   
41,449
     
44.99
%
   
2
     
1
     
1
 
Cortland
NY
   
252,924
     
40.06
%
   
1
     
5
     
6
 
Montgomery
NY
   
246,229
     
37.00
%
   
1
     
5
     
4
 
Otsego
NY
   
332,810
     
34.36
%
   
2
     
9
     
11
 
Delaware
NY
   
299,724
     
31.29
%
   
1
     
5
     
5
 
Essex
NY
   
163,820
     
27.35
%
   
2
     
3
     
5
 
Susquehanna
PA
   
159,718
     
21.10
%
   
2
     
5
     
7
 
Madison
NY
   
220,150
     
19.49
%
   
2
     
4
     
6
 
Pike
PA
   
82,102
     
13.08
%
   
4
     
2
     
2
 
Oneida
NY
   
375,081
     
12.00
%
   
5
     
7
     
11
 
Broome
NY
   
277,109
     
11.68
%
   
3
     
8
     
11
 
Saint Lawrence
NY
   
124,862
     
11.39
%
   
3
     
5
     
5
 
Oswego
NY
   
126,531
     
10.06
%
   
5
     
4
     
6
 
Herkimer
NY
   
52,435
     
9.07
%
   
4
     
2
     
1
 
Wayne
PA
   
107,603
     
8.95
%
   
4
     
3
     
4
 
Tioga
NY
   
31,992
     
8.08
%
   
5
     
1
     
1
 
Lackawanna
PA
   
390,679
     
7.55
%
   
7
     
14
     
17
 
Clinton
NY
   
91,917
     
7.40
%
   
5
     
3
     
2
 
Franklin
NY
   
27,000
     
6.19
%
   
5
     
1
     
1
 
Schenectady
NY
   
122,077
     
4.95
%
   
6
     
2
     
2
 
Onondaga
NY
   
377,284
     
4.23
%
   
8
     
11
     
13
 
Berkshire
MA
   
114,902
     
3.58
%
   
7
     
6
     
6
 
Greene
NY
   
38,562
     
3.54
%
   
6
     
2
     
2
 
Saratoga
NY
   
126,928
     
3.44
%
   
10
     
4
     
4
 
Monroe
PA
   
82,754
     
3.29
%
   
8
     
4
     
5
 
Warren
NY
   
38,712
     
2.63
%
   
8
     
2
     
3
 
Cheshire
NH
   
23,656
     
1.83
%
   
7
     
1
     
-
 
Chittenden
VT
   
71,514
     
1.79
%
   
7
     
3
     
3
 
Luzerne
PA
   
101,008
     
1.73
%
   
13
     
4
     
6
 
Albany
NY
   
175,695
     
1.14
%
   
10
     
4
     
6
 
Rensselaer
NY
   
17,568
     
0.95
%
   
12
     
1
     
1
 
Hillsborough
NH
   
68,148
     
0.64
%
   
10
     
2
     
2
 
Rockingham
NH
   
21,576
     
0.37
%
   
17
     
2
     
2
 
Rutland
VT
   
-
     
0.00
%
   
9
     
1
     
1
 
      
$
6,062,395
                     
156
     
185
 

Deposit market share data is based on the most recent data available (as of June 30, 2014).  Source: SNL Financial LLC
* Branch and ATM data is as of December 31, 2014.
 
 
Supervision and Regulation

As a bank holding company, the Company is subject to extensive regulation, supervision, and examination by the Board of Governors of the Federal Reserve System (the “Federal Reserve Board” or “FRB”) as its primary federal regulator. The Company also has qualified for and elected to be registered with the FRB as a financial holding company. The Bank, as a nationally chartered bank, is subject to extensive regulation, supervision and examination by the Office of the Comptroller of the Currency (“OCC”) as its primary federal regulator and to a limited extent by the Federal Deposit Insurance Corporation (“FDIC”) as its deposit insurer.  The Bank also is subject to certain regulations promulgated by the FRB and  the Bureau of Consumer Financial Protection (“CFPB”).

The Company is also under the jurisdiction of the Securities and Exchange Commission (“SEC”) and is subject to the disclosure and regulatory requirements of the Securities Act of 1933, as amended, and the Securities Exchange Act of 1934, as amended, as administered by the SEC.  A summary of material information regarding the laws and regulations applicable to the Company are below.  This summary is not complete and the reader should refer to these laws and regulations for more information.  Failure to comply with applicable laws and regulations could result in a range of sanctions and enforcement actions, including the imposition of civil money penalties, formal agreements and cease and desist orders. Applicable laws and regulations may change in the future and any such change could have a material adverse impact on the Company.

Federal Bank Holding Company Regulation

In general, the Bank Holding Company Act (“BHC Act”) limits the business of bank holding companies to banking, managing or controlling banks, and other activities that the FRB has determined to be so closely related to banking as to be a proper incident thereto. Under the Gramm-Leach Bliley Act (“GLB Act”), a financial holding company may engage in certain financial activities that a bank holding company may not otherwise engage in under the BHC Act. In addition to engaging in banking and activities closely related to banking as determined by the FRB by regulation or order prior to November 11, 1999, a financial holding company may engage in activities that are financial in nature or incidental to financial activities, or activities that are complementary to a financial activity and do not pose a substantial risk to the safety and soundness of depository institutions or the financial system generally.

The GLB Act and the rules promulgated thereunder require all financial institutions, including the Company and the Bank, to adopt privacy policies, restrict the sharing of nonpublic customer data with nonaffiliated parties at the customer’s request, and establish procedures and practices to protect customer data from unauthorized access. In addition, the Fair Credit Reporting Act (“FCRA”), as amended by the Fair and Accurate Credit Transactions Act of 2003 (“FACT Act”), includes many provisions affecting the Company, Bank, and/or their affiliates, including provisions concerning obtaining consumer reports, furnishing information to consumer reporting agencies, maintaining a program to prevent identity theft, sharing of certain information among affiliated companies, and other provisions. The FACT Act requires persons subject to FCRA to notify their customers if they report negative information about them to a credit bureau or if they are granted credit on terms less favorable than those generally available. The CFPB and the Federal Trade Commission (“FTC”) have extensive rulemaking authority under the FACT Act, and the Company and the Bank are subject to the rules that have been promulgated under the FACT Act, including rules regarding limitations on affiliate marketing and implementation of programs to identify, detect and mitigate certain identity theft red flags. The Company has developed policies and procedures for itself and its subsidiaries, including the Bank, and believes it is in compliance with all privacy, information sharing, and notification provisions of the GLB Act and the FACT Act.  The Bank is also subject to data security standards and data breach notice requirements, chiefly those issued by the OCC.

The Company is subject to minimum leverage and risk-based capital requirements of the FRB. As of December 31, 2014, the Company was in compliance with all minimum capital guidelines and met the requirements to be considered well-capitalized.  As of that date, the Company’s leverage ratio was 9.39%, its ratio of Tier 1 capital to risk-weighted assets was 12.32%, and its ratio of qualifying total capital to risk-weighted assets was 13.50%. See “Changes to Capital Adequacy Requirements and Prompt Corrective Action” for a discussion of the changes to these requirements.  The FRB may set higher minimum capital requirements for bank holding companies whose circumstances warrant it, such as companies anticipating significant growth or facing unusual risks. The FRB has not advised the Company of any special capital requirement applicable to it.

Any holding company whose capital does not meet the minimum capital adequacy guidelines is considered to be undercapitalized and is required to submit an acceptable plan to the FRB for achieving capital adequacy. Such a company’s ability to pay dividends to its shareholders and expand its lines of business through the acquisition of new banking or nonbanking subsidiaries also could be restricted.

Pursuant to Federal Reserve Board regulations and supervisory policies that were largely codified in the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), bank holding companies also are expected to serve as a source of financial and managerial strength to their subsidiary depository institutions.  Therefore, to the extent the Bank is in need of capital, the Company could be expected to provide additional capital to the Bank, including, potentially, raising new capital for that purpose.
 
 
Office of Comptroller of the Currency Regulation

The Bank is supervised and regularly examined by the OCC.  The various laws and regulations administered by the OCC affect corporate practices such as payment of dividends, incurring debt, and acquisition of financial institutions and other companies.  It also affects business practices, such as payment of interest on deposits, the charging of interest on loans, types of business conducted and location of offices.  The OCC generally prohibits a depository institution from making any capital distributions (including payment of a dividend) or paying any management fee to its parent holding company if the depository institution would thereafter be undercapitalized.  Undercapitalized institutions are subject to growth limitations and are required to submit a capital restoration plan to the OCC.  If a depository institution fails to submit an acceptable capital restoration plan, it is treated as if it is “significantly undercapitalized.” Significantly undercapitalized depository institutions may be subject to a number of requirements and restrictions, including orders to sell sufficient voting stock to become “adequately capitalized,” requirements to reduce total assets, and cessation of receipt of deposits from correspondent banks. “Critically undercapitalized” institutions are subject to the appointment of a receiver or conservator.

The Bank is subject to minimum leverage and risk-based capital requirements of the OCC.  As of December 31, 2014, the Bank was in compliance with all minimum capital requirements and met the requirements to be considered well-capitalized.  As of that date, the Bank’s leverage ratio was 8.79%, its ratio of Tier 1 capital to risk-weighted assets was 11.54%, and its ratio of qualifying total capital to risk-weighted assets was 12.72%.  See “Changes to Capital Adequacy Requirements and Prompt Corrective Action” for a discussion of the new capital requirements that apply to the Bank.

Affiliate Transactions

Transactions between the Bank and any of its affiliates, including the Company, are governed by sections 23A and 23B of the Federal Reserve Act (“FRA”) and the FRB’s implementing Regulation W. An “affiliate” of a bank includes any company or entity that controls, is controlled by, or is under common control with the bank. A subsidiary of a bank that is not also a depository institution is not treated as an affiliate of the bank for purposes of sections 23A and 23B, unless the subsidiary is also controlled through a non-bank chain of ownership by affiliates or controlling shareholders of the bank, the subsidiary is a financial subsidiary that operates under the expanded authority granted to national banks under the Financial Modernization Act of 1999, also known as the Gramm-Leach-Bliley Act (“GLB Act”), or the subsidiary engages in other activities that are not permissible for a bank to engage in directly (except insurance agency subsidiaries). Generally, sections 23A and 23B are intended to protect insured depository institutions from suffering losses arising from transactions with non-insured affiliates, by placing quantitative and qualitative limitations on covered transactions between a bank and with any one affiliate as well as all affiliates of the bank in the aggregate, and requiring that such transactions be on arms’ length terms that are consistent with safe and sound banking practices.

Insurance of Deposit Accounts

The Bank is a member of the Deposit Insurance Fund (“DIF”) and deposit accounts at the Bank are insured by the FDIC, generally up to the maximum amount permitted by law. The Dodd-Frank Act permanently increased the maximum amount of deposit insurance for banks, savings institutions and credit unions to $250,000 per depositor per insured institution, retroactive to January 1, 2008.

The Bank’s FDIC assessment expenses were approximately $4.5 million in 2014 as compared with $4.6 million in 2013.  In addition to the FDIC deposit insurance, the Federal Deposit Insurance Act provides for additional assessments to be imposed on insured depository institutions to pay for the cost of Financing Corporation (“FICO”) funding.  The FICO assessments are adjusted quarterly to reflect changes in the assessment base of the DIF and do not vary depending upon a depository institution’s capitalization or supervisory evaluation.  The Company incurred approximately $0.4 million in FICO expenses in 2014 and 2013.

Under FDIC regulations, no FDIC-insured bank can accept brokered deposits unless it is well capitalized, or is adequately capitalized and receives a waiver from the FDIC. In addition, these regulations prohibit any bank that is not well capitalized from paying an interest rate on brokered deposits in excess of three-quarters of one percentage point over certain prevailing market rates. As of December 31, 2014, the Bank’s total brokered deposits were $292.1 million.

 Federal Home Loan Bank

The Bank is also a member of the Federal Home Loan Bank (“FHLB”) of New York, which provides a central credit facility primarily for member institutions for home mortgage and neighborhood lending. The Bank is subject to the rules and requirements of the FHLB, including the requirement to acquire and hold shares of capital stock in the FHLB in an amount at least equal to the sum of 0.35% of the aggregate principal amount of its unpaid residential mortgage loans and similar obligations at the beginning of each year. The Bank was in compliance with the rules and requirements of the FHLB at December 31, 2014.
 
 
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010

On July 21, 2010, President Obama signed into law the Dodd-Frank Act.  This law significantly changed the bank regulatory landscape and impacted and will continue to impact the lending, deposit, investment, trading and operating activities of financial institutions and their holding companies. The Dodd-Frank Act requires various federal agencies to adopt a broad range of new rules and regulations, and to prepare various studies and reports for Congress. Certain of these rules have not yet been finalized and many remain unwritten.

The Dodd-Frank Act requires publicly traded companies to give stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments.  The legislation also authorizes the SEC to promulgate rules that would allow stockholders to nominate their own candidates using the company’s proxy materials. Additionally, the Dodd-Frank Act directs the federal banking regulators to promulgate rules requiring the reporting of incentive-based compensation and prohibiting excessive incentive-based compensation paid to executives of depository institutions and their holding companies with assets in excess of $1.0 billion, regardless of whether the company is publicly traded or not.  In April 2011, the FRB, along with other federal banking supervisors, issued a joint notice of proposed rulemaking implementing those requirements. This rule has not yet been finalized.
 
The Dodd-Frank Act created the CFPB, which has wide-ranging powers to supervise and enforce federal consumer protection laws, including the authority to prohibit “unfair, deceptive or abusive” acts and practices. The CFPB has examination and enforcement authority over all banks and savings institutions with more than $10 billion in assets. As the Company is below this threshold, the OCC continues to exercise primary examination authority over the Bank with regard to compliance with federal consumer protection laws and regulations.  The Dodd-Frank Act also gave state attorneys general certain powers to enforce rules issued by the CFPB.  Further, pursuant to Federal Reserve regulations mandated by the Dodd-Frank Act, interchange fees on debit cards are limited to a maximum of 21 cents per transaction plus 5 basis points of the transaction amount. A debit card issuer may recover an additional one cent per transaction for fraud prevention purposes if the issuer complies with certain fraud-related requirements prescribed by the Federal Reserve. Issuers that, together with their affiliates, have less than $10 billion in assets, such as the Company, are exempt from the debit card interchange fee standards.  The FRB also adopted requirements in the final rule that issuers include two unaffiliated networks for routing debit transactions that are applicable to the Company and the Bank.

The scope and impact of many of the Dodd-Frank Act’s provisions will be determined over time as regulations are issued and become effective. As a result, we cannot predict the ultimate impact of the Act on the Company or the Bank at this time, including the extent to which it could increase costs or limit our ability to pursue business opportunities in an efficient manner, or otherwise adversely affect our business, financial condition and results of operations. Nor can we predict the impact or substance of other future legislation or regulation. However, it is expected that, at a minimum, they will increase our operating and compliance costs.  As continued rules and regulations are issued, the Company may need to dedicate additional resources to ensure compliance, which may increase its costs of operations and adversely impact its earnings.

Changes to Capital Adequacy Requirements and Prompt Corrective Action

The former U.S. federal bank regulatory agencies' risk-based capital guidelines were based upon the 1988 capital accord (“Basel I”) of the Basel Committee on Banking Supervision (“Basel Committee”). The Basel Committee is a committee of central banks and bank supervisors/regulators from the major industrialized countries that meet under the auspices of the Bank for International Settlements in Basel, Switzerland to develop broad policy guidelines for use by each country's supervisors in determining the supervisory policies they apply.

In July 2013, the FRB, the OCC and the FDIC approved rules (the “New Capital Rules”) establishing a new comprehensive capital framework for U.S. banking organizations. The New Capital Rules generally implement the Basel Committee’s December 2010 final capital framework referred to as “Basel III” for strengthening international capital standards. The New Capital Rules substantially revise the risk-based capital requirements applicable to bank holding companies and their depository institution subsidiaries, including the Company and the Bank, as compared to the current U.S. general risk-based capital rules. The New Capital Rules revise the definitions and the components of regulatory capital, as well as address other issues affecting the numerator in banking institutions’ regulatory capital ratios. The New Capital Rules also address asset risk weights and other matters affecting the denominator in banking institutions’ regulatory capital ratios and replace the existing general risk-weighting approach, which was derived from Basel I, with a more risk-sensitive approach based, in part, on the “standardized approach” in the Basel Committee’s 2004 “Basel II” capital accords. In addition, the New Capital Rules implement certain provisions of the Dodd-Frank Act, including the requirements of Section 939A to remove references to credit ratings from the federal banking agencies’ rules. The New Capital Rules are effective for the Company on January 1, 2015, subject to phase-in periods for certain components and other provisions.
 
 
The New Capital Rules: (i) introduce a new capital measure called “Common Equity Tier 1” (“CET1”) and related regulatory capital ratio of CET1 to risk-weighted assets; (ii) specify that Tier 1 capital consists of CET1 and “Additional Tier 1 capital” instruments meeting certain revised requirements; (iii) mandate that most deductions/adjustments to regulatory capital measures be made to CET1 and not to the other components of capital; and (iv) expand the scope of the deductions from and adjustments to capital as compared to existing regulations. Under the New Capital Rules, for most banking organizations, the most common form of Additional Tier 1 capital is non-cumulative perpetual preferred stock and the most common forms of Tier 2 capital are subordinated notes and a portion of the allocation for loan losses, in each case, subject to the New Capital Rules’ specific requirements.
  
Pursuant to the New Capital Rules, the minimum capital ratios as of January 1, 2015 are as follows:
 
4.5% CET1 to risk-weighted assets;
 
6.0% Tier 1 capital (that is, CET1 plus Additional Tier 1 capital) to risk-weighted assets;
 
8.0% Total capital (that is, Tier 1 capital plus Tier 2 capital) to risk-weighted assets; and
 
4.0% Tier 1 capital to average consolidated assets as reported on consolidated financial statements (known as the “leverage ratio”).
 
The New Capital Rules also introduce a new “capital conservation buffer,” composed entirely of CET1, on top of these minimum risk-weighted asset ratios. The capital conservation buffer is designed to absorb losses during periods of economic stress. Banking institutions with a ratio of CET1 to risk-weighted assets above the minimum but below the capital conservation buffer will face constraints on dividends, equity and other capital instrument repurchases and compensation based on the amount of the shortfall. Thus, when fully phased-in on January 1, 2019, the capital standards applicable to the Company will include an additional capital conservation buffer of 2.5% of CET1, effectively resulting in minimum ratios inclusive of the capital conservation buffer of (i) CET1 to risk-weighted assets of at least 7%, (ii) Tier 1 capital to risk-weighted assets of at least 8.5%, and (iii) Total capital to risk-weighted assets of at least 10.5%.

The New Capital Rules provide for a number of deductions from and adjustments to CET1. These include, for example, the requirement that mortgage servicing rights, deferred tax assets arising from temporary differences that could not be realized through net operating loss carrybacks and significant investments in non-consolidated financial entities be deducted from CET1 to the extent that any one such category exceeds 10% of CET1 or all such items, in the aggregate, exceed 15% of CET1.
 
In addition, under the current general risk-based capital rules, the effects of accumulated other comprehensive income or loss (“AOCI”) items included in shareholders’ equity (for example, marks-to-market of securities held in the available-for-sale portfolio) under U.S. GAAP are reversed for the purposes of determining regulatory capital ratios. Pursuant to the New Capital Rules, the effects of certain AOCI items are not excluded; however, banking organizations not using the advanced approaches, including the Company, may make a one-time permanent election to continue to exclude these items. This election must be made concurrently with the first filing of certain of the Company's periodic regulatory reports in the beginning of 2015. The New Capital Rules also preclude certain hybrid securities, such as trust preferred securities issued after May 19, 2010, from inclusion in bank holding companies’ Tier 1 capital.

Implementation of the deductions and other adjustments to CET1 began on January 1, 2015 and will be phased-in over a 4-year period (beginning at 40% on January 1, 2015 and an additional 20% per year thereafter). The implementation of the capital conservation buffer will begin on January 1, 2016 at the 0.625% level and increase by 0.625% on each subsequent January 1, until it reaches 2.5% on January 1, 2019.

With respect to the Bank, the New Capital Rules revise the “prompt corrective action” (“PCA”) regulations adopted pursuant to Section 38 of the Federal Deposit Insurance Act (“FDIA”), by: (i) introducing a CET1 ratio requirement at each PCA category (other than critically undercapitalized), with the required CET1 ratio being 6.5% for well-capitalized status; (ii) increasing the minimum Tier 1 capital ratio requirement for each category, with the minimum Tier 1 capital ratio for well-capitalized status being 8% (as compared to 6%); and (iii) eliminating the provision that permitted a bank with a composite supervisory rating of 1 and a 3% leverage ratio to be considered adequately capitalized. The New Capital Rules do not change the total risk-based capital requirement for any PCA category.

The New Capital Rules prescribe a new standardized approach for risk weightings that expand the risk-weighting categories from the four Basel I-derived categories (0%, 20%, 50% and 100%) to a larger and more risk-sensitive number of categories, depending on the nature of the assets, generally ranging from 0% for U.S. government and agency securities, to 600% for certain equity exposures, and resulting in higher risk weights for a variety of asset classes.

We believe that the Company will be able to comply with the targeted capital ratios upon implementation of the revised requirements, as finalized.
 
 
Volcker Rule

In December, 2013, the federal banking agencies jointly adopted final rules implementing Section 619 of the Dodd-Frank Act, commonly known as the Volcker Rule.  The Volcker Rule restricts the ability of banking entities, such as the Company, to engage in proprietary trading or to own, sponsor or have certain relationships with hedge funds or private equity funds—so-called “Covered Funds.”  The final rule definition of Covered Fund includes investments such as certain collateralized loan obligation (“CLO”) and collateralized debt obligation (“CDO”) securities. The Company does not believe the implementation of the Volcker Rule will have a significant effect on its financial statements.
 
Consumer Protection Laws

Financial institutions are prohibited from charging consumers fees for paying overdrafts on ATM and one-time debit card transactions, unless a consumer consents, or opts in, to the overdraft service for those types of transactions.  Overdrafts on the payment of checks and regular electronic bill payments are not covered by this rule.
 
Home mortgage lenders, including banks, are required under the Home Mortgage Disclosure Act to make available to the public expanded information regarding the pricing of home mortgage loans, including the “rate spread” between the annual percentage rate and the average prime offer rate for mortgage loans of a comparable type. The availability of this information has led to increased scrutiny of higher-priced loans at all financial institutions to detect illegal discriminatory practices and to the initiation of a limited number of investigations by federal banking agencies and the U.S. Department of Justice. The Company has no information that it or its affiliates is the subject of any HMDA investigation.

In addition, the Company is also subject to federal consumer protection statutes and regulations promulgated under these laws, including, but not limited to:
 
Truth-In-Lending Act, governing disclosures of credit terms to consumer borrowers;
 
Fair Credit Reporting Act, governing the provision of consumer information to credit reporting agencies and the use of consumer information; and
 
Fair Debt Collection Act, governing the manner in which consumer debts may be collected by collection agencies.
 
On January 10, 2013, the CFPB issued a final rule implementing the ability-to-repay and qualified mortgage (QM) provisions of the Truth in Lending Act, as amended by the Dodd-Frank Act (the “QM Rule”).  The ability-to-repay provision requires creditors to make reasonable, good faith determinations that borrowers are able to repay their mortgages before extending the credit based on a number of factors and consideration of financial information about the borrower from reasonably reliable third-party documents. Under the Dodd-Frank Act and the QM Rule, loans meeting the definition of “qualified mortgage” are entitled to a presumption that the lender satisfied the ability-to-repay requirements.  The presumption is a conclusive presumption/safe harbor for prime loans meeting the QM Rule requirements, and a rebuttable presumption for higher-priced/subprime loans meeting the QM Rule requirements.  The definition of a “qualified mortgage” incorporates the statutory requirements, such as not allowing negative amortization or terms longer than 30 years. The QM Rule also adds an explicit maximum 43% debt-to-income ratio for borrowers if the loan is to meet the QM Rule definition, though some mortgages that meet GSE, FHA and VA underwriting guidelines may, for a period not to exceed seven years, meet the QM definition without being subject to the 43% debt-to-income limits.  The QM Rule became effective January 10, 2014.
 
USA PATRIOT Act

The Uniting and Strengthening America by Providing Appropriate Tools Required to Intercept and Obstruct Terrorism Act of 2001 (“USA PATRIOT Act”) imposes obligations on U.S. financial institutions, including banks and broker-dealer subsidiaries, to implement policies, procedures and controls which are reasonably designed to detect and report instances of money laundering and the financing of terrorism.  Under Title III of the USA PATRIOT Act all financial institutions, including the Company and the Bank, are required in general to identify their customers, adopt formal and comprehensive anti-money laundering programs, scrutinize or prohibit altogether certain transactions of special concern, and be prepared to respond to inquiries from U.S. law enforcement agencies concerning their customers and their transactions. The USA PATRIOT Act also encourages information-sharing among financial institutions, regulators, and law enforcement authorities by providing an exemption from the privacy provisions of the GLB Act for financial institutions that comply with this provision. The effectiveness of a financial institution in combating money laundering activities is a factor to be considered in any application submitted by the financial institution under the Bank Merger Act, which applies to the Bank, or the BHC Act, which applies to the Company. Failure of a financial institution to maintain and implement adequate programs to combat money laundering and terrorist financing, or to comply with all of the relevant laws or regulations, could have serious legal, financial and reputational consequences for the institution. As of December 31, 2014, the Company and the Bank believe they are in compliance with the USA PATRIOT Act, Bank Secrecy Act, and regulations thereunder.
 
 
Community Reinvestment Act of 1977

The Bank has a responsibility under the Community Reinvestment Act of 1977 (“CRA”) to help meet the credit needs of its communities, 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. Regulators periodically assess the Bank’s record of compliance with the CRA. In addition, the Equal Credit Opportunity Act and the Fair Housing Act prohibit discrimination in lending practices on the basis of characteristics specified in those statutes. The Bank’s failure to comply with the provisions of the CRA could, at a minimum, result in regulatory restrictions on its activities and the activities of the Company. The Bank’s failure to comply with the Equal Credit Opportunity Act and the Fair Housing Act could result in enforcement actions against it by its regulators as well as other federal regulatory agencies and the Department of Justice. The Bank’s latest CRA rating was “Satisfactory”.
 
Employees

At December 31, 2014, the Company had 1,840 full-time equivalent employees. The Company’s employees are not presently represented by any collective bargaining group.

Available Information

The Company’s website is http://www.nbtbancorp.com. The Company makes available free of charge through its website its annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and any amendments to those reports as soon as reasonably practicable after such material is electronically filed or furnished with the SEC pursuant to Section 13(a) or 15(d) of the Exchange Act. We also make available through our website other reports filed with or furnished to the SEC under the Exchange Act, including our proxy statements and reports filed by officers and directors under Section 16(a) of that Act, as well as our Code of Business Conduct and Ethics and other codes/committee charters. The references to our website do not constitute incorporation by reference of the information contained in the website and such information should not be considered part of this document.

Any materials we file with the SEC may be read and copied at the SEC's Public Reference Room at 100 F Street, N.E., Washington, DC, 20549. Information on the operation of the Public Reference Room may be obtained by calling the SEC at 1-800-SEC-0330. The SEC maintains an Internet site (http://www.sec.gov) that contains reports, proxy and information statements, and other information regarding issuers that file electronically with the SEC.

ITEM 1A. Risk Factors
 
There are risks inherent to the Company’s business. The material risks and uncertainties that management believes affect the Company are described below. Any of the following risks could affect the Company’s financial condition and results of operations and could be material and/or adverse in nature.  You should consider all of the following risks together with all of the other information in this Annual Report on Form 10-K.

Deterioration in local economic conditions may negatively impact our financial performance.

The Company’s success depends primarily on the general economic conditions in central and upstate New York, northeastern Pennsylvania, southern New Hampshire, western Massachusetts, Vermont and the specific local markets in which the Company operates. Unlike larger national or other regional banks that are more geographically diversified, the Company provides banking and financial services to customers primarily in the upstate New York areas of Norwich, Syracuse, Oneonta, Amsterdam-Gloversville, Albany, Binghamton, Utica-Rome, Plattsburgh, Glens Falls and Ogdensburg-Massena, the northeastern Pennsylvania areas of Scranton, Wilkes-Barre and East Stroudsburg, Berkshire County, Massachusetts, southern New Hampshire, Vermont, and the greater Portland, Maine area.  The local economic conditions in these areas have a significant impact on the demand for the Company’s products and services as well as the ability of the Company’s customers to repay loans, the value of the collateral securing loans and the stability of the Company’s deposit funding sources.

As a lender with the majority of our loans secured by real estate or made to businesses in New York, Pennsylvania, Massachusetts, New Hampshire, Vermont, and Maine, a downturn in these local economies could cause significant increases in nonperforming loans, which could negatively impact our earnings. Declines in real estate values in our market areas could cause any of our loans to become inadequately collateralized, which would expose us to greater risk of loss. Additionally, a decline in real estate values could result in the decline of originations of such loans, as most of our loans, and the collateral securing our loans, are located in those areas.

Variations in interest rates may negatively affect our financial performance.

The Company’s earnings and financial condition are largely dependent upon net interest income, which is the difference between interest earned from loans and investments and interest paid on deposits and borrowings. The narrowing of interest rate spreads could adversely affect the Company’s earnings and financial condition. The Company cannot predict with certainty, or control, changes in interest rates. Regional and local economic conditions and the policies of regulatory authorities, including monetary policies of the FRB, affect interest income and interest expense.  High interest rates could also affect the amount of loans that the Company can originate because higher rates could cause customers to apply for fewer mortgages or cause depositors to shift funds from accounts that have a comparatively lower cost to accounts with a higher cost.  The Company may also experience customer attrition due to competitor pricing. With short-term interest rates at historic lows and the Federal Funds target rate at 25 bps as of December 31, 2014, the Company’s interest-bearing deposit accounts, particularly core deposits, are repricing at historic lows as well.  With the outlook of the FRB as of December 31, 2014 being to maintain the Fed Funds target rate at 25 bps for another 24 to 28 months, the Company’s challenge will be managing the magnitude and scope of the repricing.  If the cost of interest-bearing deposits increases at a rate greater than the yields on interest-earning assets increase, net interest income will be negatively affected. Changes in the asset and liability mix may also affect net interest income. Similarly, lower interest rates cause higher yielding assets to prepay and floating or adjustable rate assets to reset to lower rates. If the Company is not able to reduce its funding costs sufficiently, due to either competitive factors or the maturity schedule of existing liabilities, then the Company’s net interest margin will decline.

Although management believes it has implemented effective asset and liability management strategies to mitigate the potential adverse effects of changes in interest rates on the Company’s results of operations, any substantial or unexpected change in, or prolonged change in market interest rates could have a material adverse effect on the Company’s financial condition and results of operations. See the section captioned “Net Interest Income” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations and Item 7A. Quantitative and Qualitative Disclosure About Market Risk located elsewhere in this report for further discussion related to the Company’s management of interest rate risk.

Changes in the equity markets could materially affect the level of assets under management and the demand for other fee-based services.

Economic downturns could affect the volume of income from and demand for fee-based services. Revenues from the trust and benefit plan administration businesses depend in large part on the level of assets under management and administration.  Market volatility that leads customers to liquidate investments, as well as lower asset values, can reduce our level of assets under management and administration and thereby decrease our investment management and administration revenues.
 
 
Our lending, and particularly our emphasis on commercial lending, exposes us to the risk of losses upon borrower default.

As of December 31, 2014, approximately 43% of the Company’s loan portfolio consisted of commercial and industrial, agricultural, commercial construction and commercial real estate loans. These types of loans generally expose a lender to greater risk of non-payment and loss than residential real estate loans because repayment of the loans often depends on the successful operation of the property, the income stream of the borrowers and, for construction loans, the accuracy of the estimate of the property’s value at completion of construction and the estimated cost of construction. Such loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to residential real estate loans. Because the Company’s loan portfolio contains a significant number of commercial and industrial, agricultural, construction and commercial real estate loans with relatively large balances, the deterioration of one or a few of these loans could cause a significant increase in nonperforming loans. An increase in nonperforming loans could result in a net loss of earnings from these loans, an increase in the provision for loan losses and/or an increase in loan charge-offs, all of which could have a material adverse effect on the Company’s financial condition and results of operations. See the section captioned “Loans” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations located elsewhere in this report for further discussion related to commercial and industrial, agricultural, construction and commercial real estate loans.

If our allowance for loan losses is not sufficient to cover actual loan losses, our earnings will decrease.

The Company maintains an allowance for loan losses, which is an allowance established through a provision for loan losses charged to expense, that represents management’s best estimate of probable losses that could be incurred within the existing portfolio of loans. The allowance, in the judgment of management, is necessary to reserve for estimated loan losses and risks inherent in the loan portfolio. The level of the allowance reflects management’s continuing evaluation of industry concentrations; specific credit risks; loan loss experience; current loan portfolio quality; present economic, political, environmental, and regulatory conditions and unidentified losses inherent in the current loan portfolio. The determination of the appropriate level of the allowance for loan losses inherently involves a high degree of subjectivity and requires the Company to make significant estimates of current credit risks and future trends, all of which may undergo material changes. Changes in economic conditions affecting borrowers, new information regarding existing loans, identification of additional problem loans and other factors, both within and outside of the Company’s control, may require an increase in the allowance for loan losses. In addition, bank regulatory agencies periodically review the Company’s allowance for loan losses and may require an increase in the provision for loan losses or the recognition of further loan charge-offs, based on judgments different than those of management. In addition, if charge-offs in future periods exceed the allowance for loan losses, the Company will need additional provisions to increase the allowance for loan losses. These potential increases in the allowance for loan losses would result in a decrease in net income and, possibly, capital, and may have a material adverse effect on the Company’s financial condition and results of operations. See the section captioned “Risk Management – Credit Risk” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations located elsewhere in this report for further discussion related to the Company’s process for determining the appropriate level of the allowance for loan losses.

Strong competition within our industry and market area could hurt our performance and slow our growth.

The Company faces substantial competition in all areas of its operations from a variety of different competitors, many of which are larger and may have more financial resources. Such competitors primarily include national, regional, and community banks within the various markets in which the Company operates. Additionally, various banks continue to enter or have announced plans to enter the market areas in which the Company currently operates. The Company also faces competition from many other types of financial institutions, including, without limitation, savings and loans, credit unions, finance companies, brokerage firms, insurance companies, and other financial intermediaries. The financial services industry could become even more competitive as a result of legislative, regulatory and technological changes and continued consolidation. Banks, securities firms and insurance companies can merge under the umbrella of a financial holding company, which can offer virtually any type of financial service, including banking, and such diversified organizations may have greater financial resources and be better able to attract customers than the Company.  Technology has lowered barriers to entry and made it possible for non-banks to offer products and services traditionally provided by banks, such as automatic transfer and automatic payment systems. Many of the Company’s competitors have fewer regulatory constraints and may have lower cost structures. Additionally, due to their size, many competitors may be able to achieve economies of scale and, as a result, may offer a broader range of products and services as well as better pricing for those products and services than the Company can.
 
The Company’s ability to compete successfully depends on a number of factors, including, among other things:
 
the ability to develop, maintain and build upon long-term customer relationships based on top quality service, high ethical standards and safe, sound assets;
 
the ability to expand the Company’s market position;
 
the scope, relevance and pricing of products and services offered to meet customer needs and demands;
 
the rate at which the Company introduces new products and services relative to its competitors;
 
customer satisfaction with the Company’s level of service;
 
industry and general economic trends; and
 
the ability to attract and retain talented employees.
 
Failure to perform in any of these areas could significantly weaken the Company’s competitive position, which could adversely affect the Company’s growth and profitability, which, in turn, could have a material adverse effect on the Company’s financial condition and results of operations.
 
We are subject to extensive government regulation and supervision, which may interfere with our ability to conduct our business and may negatively impact our financial results.
 
We, primarily through the Bank and certain non-bank subsidiaries, are subject to extensive federal and state regulation and supervision. Banking regulations are primarily intended to protect depositors’ funds, the Federal Deposit Insurance Fund and the safety and soundness of the banking system as a whole, not shareholders. These regulations affect the Company’s lending practices, capital structure, investment practices, dividend policy and growth, among other things. 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 the Company in substantial and unpredictable ways. Such changes could subject the Company to additional costs, limit the types of financial services and products the Company may offer, and/or limit the pricing the Company may charge on certain banking services, among other things. Additionally, the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”) has and will continue to change the current bank regulatory structure and affect the lending, investment, trading and operating activities of financial institutions and their holding companies. In addition to the self-implementing provisions of the statute, the Dodd-Frank Act calls for many administrative rulemakings by various federal agencies to implement various parts of the legislation, some of which have yet to be implemented. The Company cannot be certain when final rules affecting the Company will be issued through such rulemakings and what the specific content of such rules will be. The financial reform legislation and any implementing rules that are ultimately issued could have adverse implications on the financial industry, the competitive environment, and the Company’s ability to conduct business. The Company will have to apply resources to ensure that it is in compliance with all applicable provisions of the Dodd-Frank Act and any implementing rules, which may increase the Company’s costs of operations and adversely impact its earnings. Additionally, revised capital adequacy guidelines and prompt corrective action rules applicable to the Company became effective January 1, 2015.  Compliance with these rules will impose additional costs on the Company.
 
Failure to comply with laws, regulations or policies could result in sanctions by regulatory agencies, civil money penalties and/or reputation damage, which could have a material adverse effect on our business, financial condition and results of operations. While the Company has policies and procedures designed to prevent any such violations, there can be no assurance that such violations will not occur.   See the section captioned “Supervision and Regulation” in Item 1. Business of this report for further information.
 
The Company is subject to liquidity risk which could adversely affect net interest income and earnings

The purpose of the Company’s liquidity management is to meet the cash flow obligations of its customers for both deposits and loans.  The primary liquidity measurement the Company utilizes is called Basic Surplus which captures the adequacy of the Company’s access to reliable sources of cash relative to the stability of its funding mix of average liabilities.  This approach recognizes the importance of balancing levels of cash flow liquidity from short and long-term securities with the availability of dependable borrowing sources which can be accessed when necessary.   However, competitive pressure on deposit pricing could result in a decrease in the Company’s deposit base or an increase in funding costs.  In addition, liquidity will come under additional pressure if loan growth exceeds deposit growth.  These scenarios could lead to a decrease in the Company’s basic surplus measure below the minimum policy level of 5%.  To manage this risk, the Company has the ability to purchase brokered time deposits, borrow against established borrowing facilities with other banks (Federal funds), and enter into repurchase agreements with investment companies.  Depending on the level of interest rates, the Company’s net interest income, and therefore earnings, could be adversely affected.  See the section captioned “Liquidity Risk” in Item 7.
 
Our ability to service our debt, pay dividends and otherwise pay our obligations as they come due is substantially dependent on capital distributions from our subsidiaries.

The Company is a separate and distinct legal entity from its subsidiaries. It receives substantially all of its revenue from dividends from its subsidiaries. These dividends are the principal source of funds to pay dividends on the Company’s common stock and interest and principal on the Company’s debt. Various federal and/or state laws and regulations limit the amount of dividends that the Bank may pay to the Company. Also, the Company’s right to participate in a distribution of assets upon a subsidiary’s liquidation or reorganization is subject to the prior claims of the subsidiary’s creditors. In the event the Bank is unable to pay dividends to the Company, the Company may not be able to service debt, pay obligations or pay dividends on the Company’s common stock. The inability to receive dividends from the Bank could have a material adverse effect on the Company’s business, financial condition and results of operations.

A breach of information security, including as a result of cyber attacks, could disrupt our business and impact our earnings.

We depend upon data processing, communication and information exchange on a variety of computing platforms and networks, and over the internet.  In addition, we rely on the services of a variety of vendors to meet our data processing and communication needs.  Despite existing safeguards, we cannot be certain that all of our systems are free from vulnerability to attack or other technological difficulties or failures.  If information security is breached or difficulties or failures occur, despite the controls we and our third party vendors have instituted, information can be lost or misappropriated, resulting in financial loss or costs to us, reputational harm or damages to others. Such costs or losses could exceed the amount of insurance coverage, if any, which would adversely affect our earnings.

We continually encounter technological change and the failure to understand and adapt to these changes could hurt our business.

The financial services industry is continually undergoing rapid technological change with frequent introductions of new technology-driven products and services. The effective use of technology increases efficiency and enables financial institutions to better serve customers and to reduce costs. The Company’s future success depends, in part, upon its ability to address the needs of its customers by using technology to provide products and services that will satisfy customer demands, as well as to create additional efficiencies in the Company’s operations. Many of the Company’s competitors have substantially greater resources to invest in technological improvements. The Company may not be able to effectively implement new technology-driven products and services or be successful in marketing these products and services to its customers. Failure to successfully keep pace with technological changes affecting the financial services industry could have a material adverse impact on the Company’s business and, in turn, the Company’s financial condition and results of operations.

Provisions of our certificate of incorporation and bylaws, as well as Delaware law and certain banking laws, could delay or prevent a takeover of us by a third party.

Provisions of the Company’s certificate of incorporation and bylaws, the corporate law of the State of Delaware and state and federal banking laws, including regulatory approval requirements, could delay, defer or prevent a third party from acquiring the Company, despite the possible benefit to the Company’s stockholders, or otherwise adversely affect the market price of the Company’s common stock. These provisions include: supermajority voting requirements for certain business combinations; the election of directors to staggered terms of three years; and advance notice requirements for nominations for election to the Company’s board of directors and for proposing matters that stockholders may act on at stockholder meetings. In addition, the Company is subject to Delaware law, which among other things prohibits the Company from engaging in a business combination with any interested stockholder for a period of three years from the date the person became an interested stockholder unless certain conditions are met. These provisions may discourage potential takeover attempts, discouraging bids for the Company’s common stock at a premium over market price or adversely affect the market price of, and the voting and other rights of the holders of the Company’s common stock. These provisions could also discourage proxy contests and make it more difficult for you and other stockholders to elect directors other than candidates nominated by the Board.

The possibility of the economy’s return to recessionary conditions and the possibility of further turmoil or volatility in the financial markets would likely have an adverse effect on our business, financial position and results of operations.
 
The economy in the United States and globally began to recover from severe recessionary conditions in mid-2009 and is currently in the midst of a moderate economic recovery. The sustainability of the moderate recovery is dependent on a number of factors that are not within the Company’s control, such as a return to private sector job growth and investment, strengthening of housing sales and construction, and the timing and impact of changing governmental policies. The Company continues to face risks resulting from the aftermath of the severe recession generally and the moderate pace of the current recovery. A slowing or failure of the economic recovery would likely aggravate the adverse effects of these difficult economic and market conditions on the Company and on others in the financial services industry.
 
In particular, the Company may face the following risks in connection with the current economic and market environment:
 
investors may have less confidence in the equity markets in general and in financial services industry stocks in particular, which could place downward pressure on the Company’s stock price and resulting market valuation; 
 
economic and market developments may further affect consumer and business confidence levels and may cause declines in credit usage and adverse changes in payment patterns, causing increases in delinquencies and default rates; 
 
 
the Company’s ability to assess the creditworthiness of its customers may be impaired if the models and approaches the Company uses to select, manage, and underwrite its customers become less predictive of future behaviors;
 
the Company could suffer decreases in customer desire to do business with it, whether as a result of a decreased demand for loans or other financial products and services or decreased deposits or other investments in accounts with the Company; 
 
competition in the financial services industry could intensify as a result of the increasing consolidation of financial services companies in connection with current market conditions, or otherwise;
 
the Company faces increased regulation of its industry, and compliance with such regulation may increase its costs and limit its ability to pursue business opportunities; and; 
 
the Company may be required to pay significantly higher FDIC deposit insurance premiums.

We are subject to other-than-temporary impairment risk which could negatively impact our financial performance.

The Company recognizes an impairment charge when the decline in the fair value of equity, debt securities and cost-method investments below their cost basis are judged to be other-than-temporary. Significant judgment is used to identify events or circumstances that would likely have a significant adverse effect on the future use of the investment. The Company considers various factors in determining whether an impairment is other-than-temporary, including the severity and duration of the impairment, forecasted recovery, the financial condition and near-term prospects of the investee, and whether the Company has the intent to sell and whether it is more likely than not it will be forced to sell the security in question. Information about unrealized gains and losses is subject to changing conditions. The values of securities with unrealized gains and losses will fluctuate, as will the values of securities that we identify as potentially distressed. Our current evaluation of other-than-temporary impairments reflects our intent to hold securities for a reasonable period of time sufficient for a forecasted recovery of fair value. However, our intent to hold certain of these securities may change in future periods as a result of facts and circumstances impacting a specific security. If our intent to hold a security with an unrealized loss changes, and we do not expect the security to fully recover prior to the expected time of disposition, we will write down the security to its fair value in the period that our intent to hold the security changes.

The process of evaluating the potential impairment of goodwill and other intangibles is highly subjective and requires significant judgment. The Company estimates the expected future cash flows of its various businesses and determines the carrying value of these businesses.  The Company exercises judgment in assigning and allocating certain assets and liabilities to these businesses. The Company then compares the carrying value, including goodwill and other intangibles, to the discounted future cash flows. If the total of future cash flows is less than the carrying amount of the assets, an impairment loss is recognized based on the excess of the carrying amount over the fair value of the assets. Estimates of the future cash flows associated with the assets are critical to these assessments. Changes in these estimates based on changed economic conditions or business strategies could result in material impairment charges and therefore have a material adverse impact on the Company’s financial condition and performance.

The risks presented by acquisitions could adversely affect our financial condition and results of operations.

The business strategy of the Company has included and may continue to include growth through acquisition.  Any future acquisitions will be accompanied by the risks commonly encountered in acquisitions.  These risks may include, among other things: our ability to realize anticipated cost savings, the difficulty of integrating operations and personnel, the loss of key employees, the potential disruption of our or the acquired company’s ongoing business in such a way that could result in decreased revenues, the inability of our management to maximize our financial and strategic position, the inability to maintain uniform standards, controls, procedures and policies, and the impairment of relationships with the acquired company’s employees and customers as a result of changes in ownership and management.

Our controls and procedures may fail or be circumvented, which may result in a material adverse effect on our business.

Management regularly reviews and updates our internal controls, disclosure controls and procedures, and corporate governance policies and procedures. Any system of controls, however well designed and operated, is based in part on certain assumptions and can provide only reasonable, not absolute, assurances that the objectives of the system are met. Any failure or circumvention of the controls and procedures or failure to comply with regulations related to controls and procedures could have a material adverse effect on our business, results of operations and financial condition.
 
 
We are exposed to risk of environmental liabilities with respect to properties to which we obtain title.

A significant portion of our loan portfolio at December 31, 2014 was secured by real estate. In the course of our business, we may foreclose and take title to real estate, and could be subject to environmental liabilities with respect to these properties. We may be held liable to a government entity or to third parties for property damage, personal injury, investigation and clean-up costs incurred by these parties in connection with environmental contamination, or may be required to clean up hazardous or toxic substances, or chemical releases at a property. The costs associated with investigation and remediation activities could be substantial. In addition, if we are the owner or former owner of a contaminated site, we may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from the property. These costs and claims could adversely affect our business, results of operations and prospects.
 
We may be adversely affected by the soundness of other financial institutions including the FHLB of New York.

Our ability to engage in routine funding transactions could be adversely affected by the actions and commercial soundness of other financial institutions. Financial services companies are interrelated as a result of trading, clearing, counterparty or other relationships. We have exposure to many different industries and counterparties, and we routinely execute transactions with counterparties in the financial services industry, including brokers and dealers, commercial banks, investment banks, mutual and hedge funds, and other institutional clients. As a result, defaults by, or even rumors or questions about, one or more financial services companies, or the financial services industry generally, have led to market-wide liquidity problems and could lead to losses or defaults by us or by other institutions. Many of these transactions expose us to credit risk in the event of default of our counterparty or client. In addition, our credit risk may be exacerbated if the collateral held by us cannot be realized or is liquidated at prices not sufficient to recover the full amount of the loan or derivative exposure due us. There is no assurance that any such losses would not materially and adversely affect our business, financial condition or results of operations.

The Company owns common stock of FHLB of New York in order to qualify for membership in the FHLB system, which enables it to borrow funds under the FHLB of New York’s advance program.  The carrying value and fair market value of our FHLB of New York common stock was $17.2 million as of December 31, 2014.

There are 12 branches of the FHLB, including New York.  The 12 FHLB branches are jointly liable for the consolidated obligations of the FHLB system.  To the extent that one FHLB branch cannot meet its obligations to pay its share of the system’s debt, other FHLB branches can be called upon to make the payment.  Any such adverse effects on the FHLB of New York could adversely affect the value of our investment in its common stock and negatively impact our results of operations.

Trading activity in the Company’s common stock could result in material price fluctuations.

The market price of the Company’s common stock may fluctuate significantly in response to a number of factors including, but not limited to:

Changes in securities analysts’ expectations of financial performance;
Volatility of stock market prices and volumes;
Incorrect information or speculation;
Changes in industry valuations;
Variations in operating results from general expectations;
Actions taken against the Company by various regulatory agencies;
Changes in authoritative accounting guidance by the Financial Accounting Standards Board or other regulatory agencies;
Changes in general domestic economic conditions such as inflation rates, tax rates, unemployment rates, labor and healthcare cost trend rates, recessions, and changing government policies, laws and regulations; and
Severe weather, natural disasters, acts of war or terrorism and other external events.

ITEM 1B.  Unresolved Staff Comments

 
None.

ITEM 2.  Properties
 
The Company’s headquarters are located at 52 South Broad Street, Norwich, New York 13815.  The Company operated the following community banking branches and ATMs as of December 31, 2014:

County
Branches
ATMs
 
County
Branches
ATMs
New York  
 
Pennsylvania
   
Albany County
4
6
 
Lackawanna County
14
17
Broome County
8
11
 
Luzerne County
4
6
Chenango County
11
13
 
Monroe County
4
5
Clinton County
3
2
 
Pike County
2
2
Cortland County
5
6
 
Susquehanna County
5
7
Delaware County
5
5
 
Wayne County
3
4
Essex County
3
5
       
Franklin County
1
1
 
Vermont
 
 
Fulton County
5
6
 
Chittenden County
3
3
Greene County
2
2
 
Rutland County
1
1
Hamilton County
1
1
       
Herkimer County
2
1
 
Massachusetts
 
 
Madison County
4
6
 
Berkshire County
6
6
Montgomery County
5
4
       
Oneida County
7
11
 
New Hampshire
 
 
Onondaga County
11
13
 
Cheshire County
1
0
Oswego County
4
6
 
Hillsborough County
2
2
Otsego County
9
11
 
Rockingham County
2
2
Rensselaer County
1
1
       
Saratoga County
4
4
       
Schenectady County
2
2
       
Schoharie County
4
4
       
St. Lawrence County
5
5
       
Tioga County
1
1
       
Warren County
2
3
       
         
 
 
       
Total
156
185

The Company leases 70 of the above listed branches from third parties.  The Company owns all other banking premises. The Company believes that its offices are sufficient for its present operations.  All of the above ATMs are owned by the Company.

ITEM 3.  Legal Proceedings
 
There are no material legal proceedings, other than ordinary routine litigation incidental to the business, to which the Company or any of its subsidiaries is a party or of which any of their property is subject.

ITEM 4.  Mine Safety Disclosures
 
None.
 
PART II

ITEM 5. Market for Registrant’s Common Equity, Related Stockholder matters and Issuer Purchases of Equity Securities
 
Market Information

The common stock of the Company, par value $0.01 per share (the “Common Stock”), is quoted on the Nasdaq Global Select Market under the symbol “NBTB.” The following table sets forth the high and low sales prices and dividends declared for the Common Stock for the periods indicated:

 
High
Low
Dividend
2014
     
1st quarter
$25.81
$22.35
$0.21
2nd quarter
                      25.18
                      21.67
0.21
3rd quarter
                      24.81
                      22.50
0.21
4th quarter
                      26.77
                      22.22
0.21
2013
     
1st quarter
$22.37
$20.15
$0.20
2nd quarter
                        22.23
                        19.45
0.20
3rd quarter
                        23.25
                        21.06
0.20
4th quarter
                        26.59
                        22.09
0.21

The closing price of the Common Stock on February 13, 2015 was $24.62.

As of February 13, 2015, there were 6,976 shareholders of record of Common Stock.  No unregistered securities were sold by the Company during the year ended December 31, 2014.
 
 
Stock Performance Graph

The following stock performance graph compares the cumulative total stockholder return (i.e., price change, reinvestment of cash dividends and stock dividends received) on our Common Stock against the cumulative total return of the NASDAQ Stock Market (U.S. Companies) Index and the KBW Regional Bank Index (Peer Group).  The stock performance graph assumes that $100 was invested on December 31, 2009.  The graph further assumes the reinvestment of dividends into additional shares of the same class of equity securities at the frequency with which dividends are paid on such securities during the relevant fiscal year.  The yearly points marked on the horizontal axis correspond to December 31 of that year.  We calculate each of the referenced indices in the same manner.  All are market-capitalization-weighted indices, so companies judged by the market to be more important (i.e., more valuable) count for more in all indices.

 
Period Ending
Index
12/31/09
12/31/10
12/31/11
12/31/12
12/31/13
12/31/14
NBT Bancorp
$100.00
$122.87
$116.88
$111.10
$147.04
$154.37
KBW Regional Bank Index
$100.00
$120.36
$114.18
$129.24
$189.62
$194.12
NASDAQ Composite Index
$100.00
$118.11
$117.20
$137.94
$193.29
$221.89

Source:  Bloomberg, L.P.
 
 
Dividends

We depend primarily upon dividends from our subsidiaries for a substantial part of our revenue.  Accordingly, our ability to pay dividends to our shareholders depends primarily upon the receipt of dividends or other capital distributions from our subsidiaries.  Payment of dividends to the Company from the Bank is subject to certain regulatory and other restrictions.  Under OCC regulations, the Bank may pay dividends to the Company without prior regulatory approval so long as it meets its applicable regulatory capital requirements before and after payment of such dividends and its total dividends do not exceed its net income to date over the calendar year plus retained net income over the preceding two years.  At December 31, 2014, the Bank was in compliance with all applicable minimum capital requirements and had the ability to pay dividends of $88.7 million to the Company without the prior approval of the OCC.

If the capital of the Company is diminished by depreciation in the value of its property or by losses, or otherwise, to an amount less than the aggregate amount of the capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets, no dividends may be paid out of net profits until the deficiency in the amount of capital represented by the issued and outstanding stock of all classes having a preference upon the distribution of assets has been repaired.  See the section captioned “Supervision and Regulation” in Item 1. Business and Note 15 – Stockholders’ Equity in the notes to consolidated financial statements is included in Item 8. Financial Statements and Supplementary Data, which are located elsewhere in this report.

Stock Repurchase

The Company purchased 3,288 shares of its common stock during the year ended December 31, 2014 at an average price of $22.02 per share under a previously announced plan which expired on December 31, 2014.  As of December 31, 2014, there were 1,000,000 shares available for repurchase under a plan authorized on October 27, 2014, which expires on December 31, 2016.
 
ITEM  6.  Selected Financial Data
 
The following summary of financial and other information about the Company is derived from the Company’s audited consolidated financial statements for each of the last five fiscal years ended December 31 and should be read in conjunction with Item 7 and the Company’s consolidated financial statements and accompanying notes, included elsewhere in this report:

   
Year ended December 31,
 
(In thousands, except share and per share data)
 
2014
   
2013 (1)
   
2012 (2)
   
2011
   
2010
 
Interest, fee and dividend income
 
$
275,081
   
$
268,723
   
$
239,397
   
$
239,997
   
$
255,738
 
Interest expense
   
23,203
     
30,644
     
35,194
     
39,721
     
53,210
 
Net interest income
   
251,878
     
238,079
     
204,203
     
200,276
     
202,528
 
Provision for loan losses
   
19,539
     
22,424
     
20,269
     
20,737
     
29,809
 
Noninterest income excluding securities gains
   
125,935
     
101,789
     
86,728
     
80,161
     
80,614
 
Securities gains, net
   
92
     
1,426
     
599
     
150
     
3,274
 
Noninterest expense
   
246,063
     
228,927
     
193,887
     
180,676
     
178,291
 
Income before income taxes
   
112,303
     
89,943
     
77,374
     
79,174
     
78,316
 
Net income
   
75,074
     
61,747
     
54,558
     
57,901
     
57,404
 
                                         
Per common share
                                       
Basic earnings
 
$
1.71
   
$
1.47
   
$
1.63
   
$
1.72
   
$
1.67
 
Diluted earnings
   
1.69
     
1.46
     
1.62
     
1.71
     
1.66
 
Cash dividends paid
   
0.84
     
0.81
     
0.80
     
0.80
     
0.80
 
Book value at year-end
   
19.69
     
18.77
     
17.24
     
16.23
     
15.51
 
Tangible book value at year-end
   
13.22
     
12.09
     
12.23
     
11.70
     
11.67
 
Average diluted common shares outstanding
   
44,395
     
42,351
     
33,719
     
33,924
     
34,509
 
                                         
Securities available for sale, at fair value
 
$
1,013,171
   
$
1,364,881
   
$
1,147,999
   
$
1,244,619
   
$
1,129,368
 
Securities held to maturity, at amortized cost
   
454,361
     
117,283
     
60,563
     
70,811
     
97,310
 
Loans
   
5,595,271
     
5,406,795
     
4,277,616
     
3,800,203
     
3,610,006
 
Allowance for loan losses
   
66,359
     
69,434
     
69,334
     
71,334
     
71,234
 
Assets
   
7,797,926
     
7,652,175
     
6,042,259
     
5,598,406
     
5,338,856
 
Deposits
   
6,299,605
     
5,890,224
     
4,784,349
     
4,367,149
     
4,134,352
 
Borrowings
   
548,943
     
866,061
     
605,855
     
627,358
     
604,730
 
Stockholders’ equity
   
864,181
     
816,569
     
582,273
     
538,110
     
533,572
 
                                         
Key ratios
                                       
Return on average assets
   
0.97
%
   
0.85
%
   
0.93
%
   
1.06
%
   
1.05
%
Return on average equity
   
8.84
     
8.09
     
9.72
     
10.73
     
10.92
 
Average equity to average assets
   
10.95
     
10.50
     
9.55
     
9.90
     
9.63
 
Net interest margin
   
3.61
     
3.66
     
3.86
     
4.09
     
4.15
 
Dividend payout ratio
   
49.16
     
55.48
     
49.38
     
46.78
     
48.19
 
Tier 1 leverage
   
9.39
     
8.93
     
8.54
     
8.74
     
9.16
 
Tier 1 risk-based capital
   
12.32
     
11.74
     
11.00
     
11.56
     
12.44
 
Total risk-based capital
   
13.50
     
12.99
     
12.25
     
12.81
     
13.70
 
 
(1) Includes the impact of the acquisition of Alliance Financial Corporation ("Alliance") on March 8, 2013.

(2) Includes the impact of the acquisition of Hampshire First Bank on June 8, 2012.
 
Selected Quarterly Financial Data
 
   
2014
   
2013
 
(Dollars in thousands, except share and per share data)
 
Fourth
   
Third
   
Second
   
First
   
Fourth
   
Third
   
Second
   
First
 
Interest, fee and dividend income
 
$
69,414
   
$
69,134
   
$
68,456
   
$
68,077
   
$
69,181
   
$
69,569
   
$
69,604
   
$
60,369
 
Interest expense
   
5,390
     
5,371
     
5,882
     
6,560
     
7,123
     
7,343
     
7,949
     
8,229
 
Net interest income
   
64,024
     
63,763
     
62,574
     
61,517
     
62,058
     
62,226
     
61,655
     
52,140
 
Provision for loan and lease losses
   
6,892
     
4,885
     
4,166
     
3,596
     
5,166
     
5,198
     
6,402
     
5,658
 
Noninterest income excluding net securities gains (losses)
   
27,013
     
26,639
     
46,013
     
26,270
     
25,289
     
26,818
     
25,598
     
24,084
 
Net securities gains (losses)
   
33
     
38
     
14
     
7
     
13
     
329
     
(61
)
   
1,145
 
Noninterest expense
   
56,743
     
69,067
     
62,736
     
57,517
     
55,486
     
56,286
     
56,450
     
60,705
 
Net income
   
18,513
     
10,912
     
27,640
     
18,009
     
17,925
     
19,257
     
16,916
     
7,649
 
Basic earnings per share
 
$
0.42
   
$
0.25
   
$
0.63
   
$
0.41
   
$
0.41
   
$
0.44
   
$
0.39
   
$
0.21
 
Diluted earnings per share
 
$
0.42
   
$
0.25
   
$
0.62
   
$
0.41
   
$
0.41
   
$
0.44
   
$
0.38
   
$
0.21
 
Annualized net interest margin
   
3.61
%
   
3.61
%
   
3.60
%
   
3.63
%
   
3.61
%
   
3.65
%
   
3.69
%
   
3.68
%
Annualized return on average assets
   
0.94
%
   
0.55
%
   
1.43
%
   
0.95
%
   
0.94
%
   
1.01
%
   
0.90
%
   
0.48
%
Annualized return on average equity
   
8.46
%
   
5.06
%
   
13.12
%
   
8.81
%
   
8.81
%
   
9.62
%
   
8.42
%
   
4.83
%
Average diluted common shares outstanding
   
44,535
     
44,405
     
44,364
     
44,296
     
44,121
     
44,135
     
44,317
     
36,794
 
 
ITEM 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
Forward Looking Statements

Certain statements in this filing and future filings by the Company with the SEC, in the Company’s press releases or other public or shareholder communications, or in oral statements made with the approval of an authorized executive officer, contain forward-looking statements, as defined in the Private Securities Litigation Reform Act. These statements may be identified by the use of phrases such as “anticipate,” “believe,” “expect,” “forecasts,” “projects,” “will,” “can,” “would,” “should,” “could,” “may,” or other similar terms. There are a number of factors, many of which are beyond the Company’s control that could cause actual results to differ materially from those contemplated by the forward looking statements. Factors that may cause actual results to differ materially from those contemplated by such forward-looking statements include, among others, the following possibilities: (1) local, regional, national and international economic conditions and the impact they may have on the Company and its customers and the Company’s assessment of that impact; (2) changes in the level of non-performing assets and charge-offs; (3) changes in estimates of future reserve requirements based upon the periodic review thereof under relevant regulatory and accounting requirements; (4) the effects of and changes in trade and monetary and fiscal policies and laws, including the interest rate policies of the Federal Reserve Board; (5) inflation, interest rate, securities market and monetary fluctuations; (6) political instability; (7) acts of war or terrorism; (8) the timely development and acceptance of new products and services and perceived overall value of these products and services by users; (9) changes in consumer spending, borrowings and savings habits; (10) changes in the financial performance and/or condition of the Company’s borrowers; (11) technological changes; (12) acquisitions and integration of acquired businesses; (13) the ability to increase market share and control expenses; (14) changes in the competitive environment among financial holding companies; (15) the effect of changes in laws and regulations (including laws and regulations concerning taxes, banking, securities and insurance) with which the Company and its subsidiaries must comply including those under the Dodd-Frank Act; (16) the effect of changes in accounting policies and practices, as may be adopted by the regulatory agencies, as well as the Public Company Accounting Oversight Board, the Financial Accounting Standards Board and other accounting standard setters; (17) changes in the Company’s organization, compensation and benefit plans; (18) the costs and effects of legal and regulatory developments including the resolution of legal proceedings or regulatory or other governmental inquiries and the results of regulatory examinations or reviews; (19) greater than expected costs or difficulties related to the integration of new products and lines of business; and (20) the Company’s success at managing the risks involved in the foregoing items.
 
The Company cautions readers not to place undue reliance on any forward-looking statements, which speak only as of the date made, and advises readers that various factors including, but not limited to, those described above, could affect the Company’s financial performance and could cause the Company’s actual results or circumstances for future periods to differ materially from those anticipated or projected.
 
 Except as required by law, the Company does not undertake, and specifically disclaims any obligations to, publicly release any revisions that may be made to any forward-looking statements to reflect the occurrence of anticipated or unanticipated events or circumstances after the date of such statements.

General

The financial review which follows focuses on the factors affecting the consolidated financial condition and results of operations of the Company and its wholly owned subsidiaries, the Bank, NBT Financial Services and NBT Holdings during 2014 and, in summary form, the preceding two years. Collectively, the Registrant and its subsidiaries are referred to herein as “the Company.” Net interest margin is presented in this discussion on a fully taxable equivalent (FTE) basis. Average balances discussed are daily averages unless otherwise described. The audited consolidated financial statements and related notes as of December 31, 2014 and 2013 and for each of the years in the three-year period ended December 31, 2014 should be read in conjunction with this review. Amounts in prior period consolidated financial statements are reclassified whenever necessary to conform to the 2014 presentation.

Critical Accounting Policies

The Company has identified policies as being critical because they require management to make particularly difficult, subjective and/or complex judgments about matters that are inherently uncertain and because of the likelihood that materially different amounts would be reported under different conditions or using different assumptions. These policies relate to the allowance for loan losses, pension accounting, other-than-temporary impairment, provision for income taxes and impairment of goodwill and intangible assets.
 
Management of the Company considers the accounting policy relating to the allowance for loan losses to be a critical accounting policy given the uncertainty in evaluating the level of the allowance required to cover credit losses inherent in the loan portfolio and the material effect that such judgments can have on the results of operations. While management’s current evaluation of the allowance for loan losses indicates that the allowance is adequate, under adversely different conditions or assumptions, the allowance may need to be increased. For example, if historical loan loss experience significantly worsened or if current economic conditions significantly deteriorated, additional provision for loan losses would be required to increase the allowance. In addition, the assumptions and estimates used in the internal reviews of the Company’s nonperforming loans and potential problem loans have a significant impact on the overall analysis of the adequacy of the allowance for loan losses. While management has concluded that the current evaluation of collateral values is reasonable under the circumstances, if collateral values were significantly lower, the Company’s allowance for loan loss policy would also require additional provision for loan losses.
 
Management is required to make various assumptions in valuing its pension assets and liabilities. These assumptions include the expected rate of return on plan assets, the discount rate, and the rate of increase in future compensation levels. Changes to these assumptions could impact earnings in future periods. The Company takes into account the plan asset mix, funding obligations, and expert opinions in determining the various rates used to estimate pension expense. The Company also considers the Citigroup Pension Liability Index, market interest rates and discounted cash flows in setting the appropriate discount rate. In addition, the Company reviews expected inflationary and merit increases to compensation in determining the rate of increase in future compensation levels.

Management of the Company considers the accounting policy relating to other-than-temporary impairment to be a critical accounting policy. Management systematically evaluates certain assets for other-than-temporary declines in fair value, primarily investment securities. Management considers historical values and current market conditions as a part of the assessment. The amount of the total other-than-temporary impairment related to the credit loss is recognized in earnings and the amount of the total other-than-temporary impairment related to other factors is generally recognized in other comprehensive income, net of applicable taxes.

The Company is subject to examinations from various taxing authorities. Such examinations may result in challenges to the tax return treatment applied by the Company to specific transactions. Management believes that the assumptions and judgments used to record tax-related assets or liabilities have been appropriate. Should tax laws change or the taxing authorities determine that management’s assumptions were inappropriate, an adjustment may be required which could have a material effect on the Company’s results of operations.

As a result of acquisitions, the Company has acquired goodwill and identifiable intangible assets. Goodwill represents the cost of acquired companies in excess of the fair value of net assets at the acquisition date. Goodwill is evaluated at least annually or when business conditions suggest that an impairment may have occurred. Goodwill will be reduced to its carrying value through a charge to earnings if impairment exists. Core deposits and other identifiable intangible assets are amortized to expense over their estimated useful lives. The determination of whether or not impairment exists is based upon discounted cash flow modeling techniques that require management to make estimates regarding the amount and timing of expected future cash flows. It also requires them to select a discount rate that reflects the current return requirements of the market in relation to present risk-free interest rates, required equity market premiums and Company-specific risk indicators, all of which are susceptible to change based on changes in economic conditions and other factors. Future events or changes in the estimates used to determine the carrying value of goodwill and identifiable intangible assets could have a material impact on the Company’s results of operations.

The Company’s policies on the allowance for loan losses, pension accounting, other-than-temporary impairments, provision for income taxes, goodwill and intangible assets are disclosed in Note 1 to the consolidated financial statements. A more detailed description of the allowance for loan losses is included in the section captioned “Risk Management – Credit Risk” in Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations of this Form 10-K.  All significant pension accounting assumptions, income tax assumptions, and intangible asset assumptions and detail are disclosed in Notes 13, 12 and 7 to the consolidated financial statements, respectively. All accounting policies are important, and as such, the Company encourages the reader to review each of the policies included in Note 1 to obtain a better understanding of how the Company’s financial performance is reported.

Non-GAAP Measures

This Annual Report on Form 10-K contains financial information determined by methods other than in accordance with accounting principles generally accepted in the United States of America (GAAP). These measures adjust GAAP to exclude the effects of sales of securities, merger-related expenses, and other items not considered core to the Company's operations. Where non-GAAP disclosures are used in this Annual Report on Form 10-K, the comparable GAAP measure, as well as a reconciliation to the comparable GAAP measure, is provided in the accompanying table. Management believes that these non-GAAP measures provide useful information that is important to an understanding of the operating results of the Company’s core business due to the nature of the excluded items not considered core to operations. Non-GAAP measures should not be considered a substitute for financial measures determined in accordance with GAAP and investors should consider the Company’s performance and financial condition as reported under GAAP and all other relevant information when assessing the performance or financial condition of the Company.
 
Overview

Significant factors management reviews to evaluate the Company’s operating results and financial condition include, but are not limited to: net income and earnings per share, return on assets and equity, net interest margin, noninterest income, operating expenses, asset quality indicators, loan and deposit growth, capital management, liquidity and interest rate sensitivity, enhancements to customer products and services, technology advancements, market share and peer comparisons. The following information should be considered in connection with the Company's results for the fiscal year ended December 31, 2014:
 
Reported net income for 2014 was $75.1 million, the highest in the Company's history, and up from $61.7 million in 2013. Reported results for 2014 include the full year impact of the acquisition of Alliance.
 
Core net income was $75.8 million for 2014 up 8.5% from $69.9 million for 2013. Core diluted earnings per share for 2014 was $1.71 up from $1.65 for 2013. Core return on average assets and return on average equity were 0.98% and 8.92%, respectively, for 2014, compared with 0.96% and 9.16%, respectively for 2013 (a reconciliation of these "core" results is presented in the following table).

Reconciliation of Non-GAAP Financial Measures:
 
2014
   
2013
 
Reported net income (GAAP)
 
$
75,074
   
$
61,747
 
Adj: Gain on sale of securities, net (net of tax)
   
(61
)
   
(990
)
Adj: Other adjustments (net of tax) (1) 
   
209
     
512
 
Adj: Gain on sale of Springstone (net of tax and related incentive compensation)
   
(11,168
)
   
-
 
Adj: Prepayment penalties related to debt restructuring (net of tax)
   
11,758
     
-
 
Plus: Merger related expenses (net of tax)
   
-
     
8,588
 
Total Adjustments
   
738
     
8,110
 
Core net income
 
$
75,812
   
$
69,857
 
Profitability:
               
Core Diluted Earnings Per Share
 
$
1.71
   
$
1.65
 
Core Return on Average Assets
   
0.98
%
   
0.96
%
Core Return on Average Equity
   
8.92
%
   
9.16
%
Core Return on Average Tangible Common Equity (2)
   
14.03
%
   
14.76
%
                 
(1) Primarily net gain on settlement of litigation and reorganization expenses for 2014 and reorganization expenses for 2013
 
 
               
(2) Excludes amortization of intangible assets (net of tax) from net income and average tangible common equity is calculated as follows:
 
                 
    2014     2013  
Average stockholders' equity
 
$
849,465
   
$
763,026
 
Less: average goodwill and other intangibles
   
287,013
     
269,683
 
Average tangible common equity
 
$
562,452
   
$
493,343
 
 
Net interest margin for 2014 declined 5 basis points as a result of the continued low rate environment on loans and investments.
 
Asset quality indicators showed stability or improvement from last year:
 
Nonperforming loans to total loans improved to 0.82% at December 31, 2014 from 0.99% at December 31, 2013;
 
Past due loans to total loans improved to 0.69% at December 31, 2014 from 0.77% at December 31, 2013; 
 
Net charge-offs to average loans improved to 0.41% for 2014 from 0.44% in 2013.

Noninterest income was up 22.1% over last year driven primarily by gain on the sale of the Springstone equity investment recorded in 2014.  Excluding this gain and gains on securities sales noninterest income was up 4.7% over last year.

Restructured $165 million in long-term borrowings, resulting in $17.9 million in gross prepayment penalties (non-core) recognized in 2014, which lowered the cost of the restructured long-term funding by approximately 200 basis points.
 
Continued strategic expansion in New England in 2014 with new locations in Pittsfield, Ma., Rutland, Vt. and most recently Portland, Me. with the opening of our Maine Regional Headquarters.
 
The Company continued to experience pressure on net interest income in 2014 as low rates continued to have the effect of causing many assets to prepay or to be redeemed. While interest earning assets increased 6.8% from 2013, this was partially offset by the reinvestment of cash flows in lower yielding assets resulting in a modest increase in interest income in 2014. The yield on interest earning assets decreased from 4.12% in 2013 to 3.94% in 2014, with drops in the yields on loans and securities held to maturity being the primary drivers. Rates paid on interest bearing liabilities also decreased in the low rate environment, which partially offset the decrease in earning asset yields. In particular, the decrease in rates paid on long-term borrowings and the rates paid on time deposits contributed approximately $1.7 million and $1.6 million, respectively, to the decrease in interest expense in 2014 as compared with 2013. Average interest bearing liabilities increased approximately $211.5 million from 2013 to 2014, with the primary driver being the increase in interest bearing deposits. The Company also took the following steps in 2014 in an effort to help offset the margin pressure created by the low interest rate environment:

Continued the sale of conforming residential real estate mortgages, taking advantage of favorable interest rate conditions;
 
Increased efforts to grow noninterest income with focus on organic growth of our trust, financial services, retirement plan administration and insurance businesses;
 
Restructured long-term borrowings as previously mentioned; and

Continued demand deposit growth strategies resulting in 11.7% growth from 2013 to 2014.
 
The Company reported net income of $75.1 million or $1.69 per diluted share for 2014, up 21.6% from net income of $61.7 million or $1.46 per diluted share for 2013. The provision for loan losses totaled $19.5 million for the year ended December 31, 2014, down $2.9 million, or 12.9%, from $22.4 million for the year ended December 31, 2013. The decrease in provision is attributable to the improvement in asset quality in 2014. Noninterest income increased $22.8 million, or 22.1%, from 2013 primarily due to a $19.4 million gain on the sale of the Company's investment in Springstone during 2014.  In addition, trust revenue increased approximately $2.3 million in 2014 as a result of the acquisition of Alliance in March 2013 and improved market conditions in 2014.  ATM and debit card fees increased $1.6 million in 2014 due to increased usage from expansion and acquisition activity during 2013. Bank owned life insurance income increased $1.6 million in 2014 due primarily to death benefits received during the year.  Noninterest expense for the year ended December 31, 2014 was $246.1 million, up from $228.9 million, or 7.5% from the year ended December 31, 2013. This increase was in large part due to the $17.9 million prepayment penalties incurred in 2014 resulting from long-term debt restructuring.  The comparative impact of these prepayment penalties were partially offset by $12.4 million in merger related expenses recorded in 2013.  In addition, salaries and employee benefits were up $6.1 million, or 5.4%, largely due to expansion activity as well as incremental incentive compensation recorded in 2014 related to the Springstone transaction, partially offset by reduced pension expenses.
 
 
2015 Outlook

The Company’s 2014 earnings reflected the Company’s continued ability to manage through the existing and near future economic conditions and challenges in the financial services industry, while investing in the Company’s future. The Company believes effects of the economic crisis still exist and, as a result, there will be certain challenges faced in 2015. Significant items that may have an impact on 2015 results include:

The Company expects that it will experience some additional margin compression from the 2014 fourth quarter net interest margin of 3.61%. We expect that payments representing interest and principal on currently outstanding loans and investments will continue to be reinvested at rates that are lower than the rates currently outstanding on those loans and investments. In addition, deposit and borrowing rates are historically low and there are minimal opportunities for them to be lowered. Furthermore, the industry as a whole must focus on asset growth to increase interest income, thereby creating general pricing pressure in the entire industry.

If asset quality trends continue to show improvement, the Company would expect the level of provisioning to continue to decrease. However, the economy may have an adverse affect on asset quality indicators, particularly indicators related to loans secured by real estate, which could adversely affect charge-offs, the allowance for loan losses, and the provision for loan losses.

Compliance with regulatory mandates could continue to negatively impact certain fee generating products as well as increase costs to comply, which could negatively impact noninterest income, noninterest expense and earnings.

Competitive pressure on deposits could result in an increase in interest expense if interest rates begin to rise.

The Company’s 2015 outlook is subject to factors in addition to those identified above and those risks and uncertainties that could impact the Company’s future results are explained in ITEM 1A. RISK FACTORS.
 
 
 
Asset/Liability Management
 
The Company attempts to maximize net interest income and net income, while actively managing its liquidity and interest rate sensitivity through the mix of various core deposit products and other sources of funds, which in turn fund an appropriate mix of earning assets. The changes in the Company’s asset mix and sources of funds, and the resulting impact on net interest income, on a fully tax equivalent basis, are discussed below.  The following table includes the condensed consolidated average balance sheet, an analysis of interest income/expense and average yield/rate for each major category of earning assets and interest bearing liabilities on a taxable equivalent basis. Interest income for tax-exempt securities and loans has been adjusted to a taxable-equivalent basis using the statutory Federal income tax rate of 35%.

Average Balances and Net Interest Income
   
2014
   
2013
   
2012
 
(Dollars in thousands)
 
Average Balance
   
Interest
   
Yield/Rate
   
Average Balance
   
Interest
   
Yield/Rate
   
Average Balance
   
Interest
   
Yield/Rate
 
ASSETS
                                   
Short-term interest bearing accounts
 
$
4,344
   
$
28
     
0.64
%
 
$
30,522
   
$
116
     
0.38
%
 
$
66,207
   
$
179
     
0.27
%
Securities available for sale (1)
   
1,258,999
     
25,760
     
2.05
%
   
1,349,887
     
27,357
     
2.03
%
   
1,177,969
     
28,904
     
2.45
%
Securities held to maturity (1) 
   
233,465
     
6,558
     
2.81
%
   
88,193
     
3,692
     
4.19
%
   
65,582
     
3,583
     
5.46
%
Investment in FRB and FHLB Banks
   
39,290
     
2,005
     
5.10
%
   
37,998
     
1,771
     
4.66
%
   
28,358
     
1,378
     
4.86
%
Loans (2) 
   
5,528,015
     
244,162
     
4.42
%
   
5,106,607
     
239,572
     
4.69
%
   
4,053,420
     
209,370
     
5.17
%
Total interest earning assets
 
$
7,064,113
   
$
278,513
     
3.94
%
 
$
6,613,207
   
$
272,508
     
4.12
%
 
$
5,391,536
   
$
243,414
     
4.51
%
Other assets
   
691,934
                     
653,432
                     
483,248
                 
Total assets
 
$
7,756,047
                   
$
7,266,639
                   
$
5,874,784
                 
                                                                         
LIABILITIES AND STOCKHOLDERS' EQUITY
                                                                       
Money market deposit accounts
 
$
1,457,770
   
$
2,532
     
0.17
%
 
$
1,343,801
   
$
2,004
     
0.15
%
 
$
1,116,583
   
$
2,054
     
0.18
%
NOW deposit accounts
   
949,759
     
509
     
0.05
%
   
882,629
     
1,468
     
0.17
%
   
709,889
     
1,854
     
0.26
%
Savings deposits
   
1,020,974
     
760
     
0.07
%
   
929,226
     
789
     
0.08
%
   
680,092
     
522
     
0.08
%
Time deposits
   
1,015,748
     
9,837
     
0.97
%
   
1,069,228
     
12,029
     
1.13
%
   
993,117
     
14,418
     
1.45
%
  Total interest bearing deposits
 
$
4,444,251
   
$
13,638
     
0.31
%
 
$
4,224,884
   
$
16,290
     
0.39
%
 
$
3,499,681
   
$
18,848
     
0.54
%
Short-term borrowings
   
382,451
     
845
     
0.22
%
   
280,848
     
515
     
0.18
%
   
165,742
     
188
     
0.11
%
Junior Subordinated Debt
   
101,196
     
2,165
     
2.14
%
   
96,536
     
2,084
     
2.16
%
   
75,422
     
1,730
     
2.29
%
Long-term debt
   
224,556
     
6,555
     
2.92
%
   
338,697
     
11,755
     
3.47
%
   
368,270
     
14,428
     
3.92
%
  Total interest bearing liabilities
 
$
5,152,454
   
$
23,203
     
0.45
%
 
$
4,940,965
   
$
30,644
     
0.62
%
 
$
4,109,115
   
$
35,194
     
0.86
%
Demand deposits
   
1,670,188
                     
1,484,193
                     
1,139,896
                 
Other liabilities
   
83,940
                     
78,455
                     
64,551
                 
Stockholders' equity
   
849,465
                     
763,026
                     
561,222
                 
Total liabilities and stockholders' equity
 
$
7,756,047
                   
$
7,266,639
                   
$
5,874,784
                 
Net interest income (FTE)
           
255,310
                     
241,864
                     
208,220
         
Interest rate spread
                   
3.49
%
                   
3.50
%
                   
3.65
%
Net interest margin
                   
3.61
%
                   
3.66
%
                   
3.86
%
Taxable equivalent adjustment 
           
3,432
                     
3,785
                     
4,017
         
Net interest income
         
$
251,878
                   
$
238,079
                   
$
204,203
         
 
1. Securities are shown at average amortized cost.

2. For purposes of these computations, nonaccrual loans are included in the average loan balances outstanding. The interest collected thereon is included in interest income based upon the characteristics of the related loans.
 
 
2014 OPERATING RESULTS AS COMPARED TO 2013 OPERATING RESULTS

Net Interest Income

Net interest income was $251.9 million for the year ended December 31, 2014, up 5.8% from 2013.  Fully taxable equivalent (“FTE”) net interest margin was 3.61% for the year ended December 31, 2014, down from 3.66% for 2013.  Average interest earning assets were up $450.9 million, or 6.8%, for the year ended December 31, 2014 as compared to the same period in 2013.  This increase was driven primarily by the acquisition of Alliance in March 2013 as well as organic loan production during the past several quarters.  The net interest impact from the increase in average interest earning assets was partially offset by rate compression on earning assets, as their yield decreased from 4.12% during the year ended December 31, 2013 to 3.94% for 2014.  This rate compression was driven primarily by decreasing loan yields from 4.69% in 2013 to 4.42% for 2014.  As a result of the increase in average earning assets, interest income was up 2.4% for the year ended December 31, 2014 as compared to 2013.  Average interest bearing liabilities increased $211.5 million, or 4.3%, for the year ended December 31, 2014 as compared to 2013.  This increase was due primarily to an increase in deposits resulting from organic deposit growth as well as the aforementioned acquisition of Alliance.  The rates paid on interest bearing liabilities for 2014 decreased by 17 basis points from 2013.  This decrease was primarily driven by a decrease of 8 basis points in rates paid on deposits from improved funding mix as well as a 55 basis point decrease in the rate paid on long-term debt due primarily to maturity of long-term debt in the prior year, as well as the debt restructuring completed in the third quarter of 2014.  The following table presents changes in interest income, on a FTE basis, and interest expense attributable to changes in volume (change in average balance multiplied by prior year rate), changes in rate (change in rate multiplied by prior year volume), and the net change in net interest income. The net change attributable to the combined impact of volume and rate has been allocated to each in proportion to the absolute dollar amounts of change.

Analysis of Changes in Taxable Equivalent Net Interest Income
 
   
Increase (Decrease)
   
Increase (Decrease)
 
   
2014 over 2013
   
2013 over 2012
 
(In thousands)
 
Volume
   
Rate
   
Total
   
Volume
   
Rate
   
Total
 
Short-term interest-bearing accounts
 
$
(138
)
 
$
50
   
$
(88
)
 
$
(119
)
 
$
56
   
$
(63
)
Securities available for sale
   
(1,857
)
   
260
     
(1,597
)
   
3,884
     
(5,431
)
   
(1,547
)
Securities held to maturity
   
4,414
     
(1,548
)
   
2,866
     
1,063
     
(954
)
   
109
 
Investment in FRB and FHLB Banks
   
63
     
171
     
234
     
451
     
(58
)
   
393
 
Loans
   
19,093
     
(14,503
)
   
4,590
     
50,712
     
(20,510
)
   
30,202
 
Total interest income
   
21,575
     
(15,570
)
   
6,005
     
55,991
     
(26,897
)
   
29,094
 
Money market deposit accounts
   
179
     
349
     
528
     
377
     
(427
)
   
(50
)
NOW deposit accounts
   
104
     
(1,063
)
   
(959
)
   
385
     
(771
)
   
(386
)
Savings deposits
   
74
     
(103
)
   
(29
)
   
207
     
60
     
267
 
Time deposits
   
(580
)
   
(1,612
)
   
(2,192
)
   
1,042
     
(3,431
)
   
(2,389
)
Short-term borrowings
   
211
     
119
     
330
     
173
     
155
     
328
 
Junior subordinated debt
   
100
     
(19
)
   
81
     
461
     
(107
)
   
354
 
Long-term debt
   
(3,534
)
   
(1,666
)
   
(5,200
)
   
(1,104
)
   
(1,570
)
   
(2,674
)
Total interest expense
   
(3,446
)
   
(3,995
)
   
(7,441
)
   
1,541
     
(6,091
)
   
(4,550
)
Change in FTE net interest income
 
$
25,021
   
$
(11,575
)
 
$
13,446
   
$
54,450
   
$
(20,806
)
 
$
33,644
 
 
Loans and Corresponding Interest and Fees on Loans

The average balance of loans increased by approximately $421.4 million, or 8.3%, from 2013 to 2014. The yield on average loans decreased from 4.69% in 2013 to 4.42% in 2014, as loan rates declined due to the continued low rate environment in 2014. Interest income from loans on a FTE basis increased 1.9%, from $239.6 million in 2013 to $244.2 million in 2014. This increase was due to the increase in average loan balances noted above, partially offset by the decrease in yields.

Total loans increased $188.5 million, or 3.5%, from December 31, 2013 to December 31, 2014.  Increases in residential real estate mortgages, commercial real estate loans, and consumer loans were the primary drivers of the increase in total loans from 2013 as the Company experienced strong originations in 2014 in the upstate New York and Vermont markets.
 
 
The following table reflects the loan portfolio by major categories as of December 31 for the years indicated:

Composition of Loan and Lease Portfolio
 
   
December 31,
 
(In thousands)
 
2014
   
2013
   
2012
   
2011
   
2010
 
Residential real estate mortgages
 
$
1,115,589
   
$
1,041,637
   
$
651,107
   
$
581,511
   
$
548,394
 
Commercial
   
839,770
     
859,026
     
694,799
     
611,298
     
577,731
 
Commercial  real estate
   
1,442,989
     
1,328,313
     
1,072,807
     
888,879
     
844,458
 
Real estate construction and development
   
83,750
     
93,247
     
123,078
     
93,977
     
45,444
 
Agricultural and agricultural real estate
   
107,195
     
112,035
     
112,687
     
108,423
     
112,738
 
Consumer
   
1,436,382
     
1,352,638
     
1,047,856
     
946,470
     
905,563
 
Home equity
   
569,596
     
619,899
     
575,282
     
569,645
     
575,678
 
Total loans
 
$
5,595,271
   
$
5,406,795
   
$
4,277,616
   
$
3,800,203
   
$
3,610,006
 

Residential real estate mortgages consist primarily of loans secured by first or second deeds of trust on primary residences. Loans in the commercial and agricultural categories, including commercial and agricultural real estate mortgages, consist primarily of short-term and/or floating rate loans made to small and medium-sized entities. Consumer loans consist primarily of indirect installment credit to individuals, of which approximately 75% is secured by automobiles and other personal property including marine, recreational vehicles and manufactured housing. Consumer loans also consist of direct installment loans to individuals secured by similar collateral. Indirect installment loans represent $1.3 billion of total consumer loans at December 31, 2014, or 92%. Installment credit for automobiles accounts for approximately 74% of total consumer loans. Although automobile loans have generally been originated through dealers, all applications submitted through dealers are subject to the Company’s normal underwriting and loan approval procedures. Real estate construction and development loans include commercial construction and development and residential construction loans. Commercial construction loans are for small and medium sized office buildings and other commercial properties and residential construction loans are primarily for projects located in upstate New York and northeastern Pennsylvania.
 
Risks associated with the commercial real estate portfolio include the ability of borrowers to pay interest and principal during the loan’s term, as well as the ability of the borrowers to refinance at the end of the loan term.
 
The following table, Maturities and Sensitivities of Certain Loans to Changes in Interest Rates, summarizes the maturities of the commercial and agricultural and real estate construction and development loan portfolios and the sensitivity of those loans to interest rate fluctuations at December 31, 2014. Scheduled repayments are reported in the maturity category in which the contractual payment is due.

Maturities and Sensitivities of Certain Loans to Changes in Interest Rates
 
   
Remaining maturity at December 31, 2014
 
(In thousands)
 
Within One Year
   
After One Year But Within Five Years
   
After Five Years
   
Total
 
Floating/adjustable rate
               
Commercial, commercial real estate, agricultural, and agricultural real estate
 
$
408,348
   
$
338,854
   
$
978,024
   
$
1,725,226
 
Real estate construction and development
   
13,733
     
7,362
     
32,199
     
53,294
 
Total floating rate loans
   
422,081
     
346,216
     
1,010,223
     
1,778,520
 
                                 
Fixed rate
                               
Commercial, commercial real estate, agricultural, and agricultural real estate
   
54,237
     
351,691
     
258,800
     
664,728
 
Real estate construction and development
   
6,750
     
12,647
     
11,059
     
30,456
 
Total fixed rate loans
   
60,987
     
364,338
     
269,859
     
695,184
 
Total
 
$
483,068
   
$
710,554
   
$
1,280,082
   
$
2,473,704
 

Securities and Corresponding Interest and Dividend Income
 
The average balance of securities available for sale decreased $90.9 million, or 6.7%, from 2013 to 2014. The yield on average securities available for sale was 2.05% for 2014 compared to 2.03% in 2013.
 
The average balance of securities held to maturity increased from $88.2 million in 2013 to $233.5 million in 2014. At December 31, 2014, securities held to maturity were comprised primarily of tax-exempt municipal securities. The yield on securities held to maturity decreased from 4.19% in 2013 to 2.81% in 2014.

During the third quarter of 2014, the Company transferred approximately $340 million in securities from the available for sale portfolio to the held to maturity portfolio to mitigate the impact of volatility of interest rate changes on tangible book value.
 
The average balance of FRB and FHLB stock increased to $39.3 million in 2014 from $38.0 million in 2013. The yield from investments in FRB and FHLB banks increased from 4.66% in 2013 to 5.10% in 2014.
 
Securities Portfolio
 
   
As of December 31,
 
   
2014
   
2013
   
2012
 
   
Amortized
   
Fair
   
Amortized
   
Fair
   
Amortized
   
Fair
 
(In thousands)
 
Cost
   
Value
   
Cost
   
Value
   
Cost
   
Value
 
Securities available for sale
                       
U.S. Treasury
 
$
23,041
   
$
23,111
   
$
43,279
   
$
43,616
   
$
63,668
   
$
64,425
 
Federal agency
   
332,193
     
329,914
     
285,880
     
278,915
     
281,398
     
282,814
 
State & municipal
   
37,035
     
37,570
     
113,435
     
113,665
     
82,675
     
86,802
 
Mortgage-backed
   
356,557
     
364,727
     
359,590
     
364,164
     
237,461
     
250,281
 
Collateralized mortgage obligations
   
240,074
     
242,129
     
565,200
     
549,528
     
443,972
     
449,723
 
Other securities
   
12,818
     
15,720
     
12,367
     
14,993
     
11,210
     
13,954
 
Total securities available for sale
 
$
1,001,718
   
$
1,013,171
   
$
1,379,751
   
$
1,364,881
   
$
1,120,384
   
$
1,147,999
 
                                                 
Securities held to maturity
                                               
Mortgage-backed
 
$
755
   
$
868
   
$
953
   
$
1,081
   
$
1,168
   
$
1,352
 
Collateralized mortgage obligations
   
317,628
     
317,597
     
62,025
     
57,456
     
-
     
-
 
State & municipal
   
135,978
     
136,529
     
54,305
     
54,739
     
59,395
     
60,183
 
Total securities held to maturity
 
$
454,361
   
$
454,994
   
$
117,283
   
$
113,276
   
$
60,563
   
$
61,535
 

Our mortgage backed securities, U.S. agency notes, and CMOs are all “prime/conforming” and are guaranteed by Fannie Mae, Freddie Mac, the FHLB, the Federal Farm Credit Banks, or Ginnie Mae (“GNMA”). GNMA securities are considered equivalent to U.S. Treasury securities, as they are backed by the full faith and credit of the U.S. government. Currently, there are no securities backed by subprime mortgages in our investment portfolio.

The following tables set forth information with regard to contractual maturities of debt securities at December 31, 2014:
 
(In thousands) 
 
Amortized cost
   
Estimated fair value
   
Weighted Average Yield
 
Debt securities classified as available for sale
           
Within one year
 
$
28,193
   
$
28,310
     
2.15
%
From one to five years
   
356,696
     
356,107
     
1.75
%
From five to ten years
   
160,816
     
163,924
     
2.78
%
After ten years
   
443,195
     
449,110
     
2.49
%
Total
 
$
988,900
   
$
997,451
         
                         
Debt securities classified as held to maturity
                       
Within one year
 
$
22,999
   
$
23,075
     
2.77
%
From one to five years
   
15,506
     
15,606
     
4.06
%
From five to ten years
   
87,326
     
87,640
     
3.29
%
After ten years
   
328,530