10-K 1 ocfc-12312016x10k.htm 10-K Document

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
x
ANNUAL REPORT PURSUANT TO SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 2016
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from              to             .
Commission file number: 001-11713
OceanFirst Financial Corp.
(Exact name of registrant as specified in its charter)
DELAWARE
 
22-3412577
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
975 Hooper Avenue, Toms River, New Jersey 08753
(Address of principal executive offices)
Registrant’s telephone number, including area code: (732) 240-4500
Securities registered pursuant to Section 12(b) of the Act:
Common Stock, par value $0.01 per share
(Title of class)
The Nasdaq Global Select Market
(Name of each exchange on which registered)
Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.    Yes  ¨    No  x.
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  x.
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  x   No  ¨.
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, 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  x    No  ¨ .
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of the Form 10-K or any amendment to this Form 10-K.  ¨
Indicate by checkmark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. (Check one):
Large accelerated filer  o
 
Accelerated filer  x
 
Non-accelerated filer  o
 
Smaller reporting company  o
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).    Yes  ¨    No  x.
The aggregate market fair value of the voting and non-voting common equity held by non-affiliates of the registrant, i.e., persons other than the directors and executive officers of the registrant, was $444,843,000 based upon the closing price of such common equity as of the last business day of the registrant’s most recently completed second fiscal quarter.
The number of shares outstanding of the registrant’s Common Stock as of March 8, 2017 was 32,392,685.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for the 2017 Annual Meeting of Stockholders, which will be filed with the Securities and Exchange Commission within 120 days from December 31, 2016, are incorporated by reference into Part III of this Form 10-K.



INDEX
 
 
 
PAGE
PART I
Item 1.
Item 1A.
Item 1B.
Item 2.
Item 3.
Item 4.
PART II
Item 5.
Item 6.
Item 7.
Item 7A.
Item 8.
Item 9.
Item 9A.
Item 9B.
PART III
Item 10.
Item 11.
Item 12.
Item 13.
Item 14.
PART IV
Item 15.
Item 16.
 
 

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PART I

Item 1.
Business
General
OceanFirst Financial Corp. (the “Company”) is incorporated under Delaware law and serves as the holding company for OceanFirst Bank (the “Bank”). At December 31, 2016, the Company had consolidated total assets of $5.2 billion and total stockholders’ equity of $572.0 million. The Company is a savings and loan holding company subject to regulation by the Board of Governors of the Federal Reserve System (the “FRB”) and the Securities and Exchange Commission (“SEC”). The Bank is subject to regulation and supervision by the Office of the Comptroller of the Currency (“OCC”) and the Federal Deposit Insurance Corporation (“FDIC”). Currently, the Company does not transact any material business other than through its subsidiary, the Bank.
The Company has been the holding company for the Bank since it acquired the stock of the Bank upon the Bank’s conversion from a Federally-chartered mutual savings bank to a Federally-chartered capital stock savings bank in 1996 (the “Conversion”). The Bank’s principal business has been and continues to be attracting retail and business deposits in the communities surrounding its branch offices and investing those deposits primarily in loans, consisting of commercial real estate and other commercial loans which have become a key focus of the Bank and single-family, owner-occupied residential mortgage loans. The Bank also invests in other types of loans, including residential construction and consumer loans. In addition, the Bank invests in mortgage-backed securities (“MBS”), securities issued by the U.S. Government and agencies thereof, corporate securities and other investments permitted by applicable law and regulations. The Bank’s revenues are derived principally from interest on its loans, and to a lesser extent, interest on its investment and mortgage-backed securities. The Bank also receives income from fees and service charges on loan and deposit products, Bankcard services, wealth management services and the sale of alternative investment products, e.g., mutual funds, annuities and life insurance. The Bank’s primary sources of funds are deposits, principal and interest payments on loans and mortgage-backed securities, investment maturities, proceeds from the sale of loans, Federal Home Loan Bank (“FHLB”) advances and other borrowings.
The Company’s website address is www.oceanfirst.com. The Company’s annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and all amendments to those reports are available free of charge through its website, as soon as reasonably practicable after such material is electronically filed with, or furnished to, the SEC. The Company’s website and the information contained therein or connected thereto are not intended to be incorporated into this Annual Report on Form 10-K.
In addition to historical information, this Form 10-K contains certain forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 which are based on certain assumptions and describe future plans, strategies and expectations of the Company. These forward-looking statements are generally identified by use of the words “believe”, “expect”, “intend”, “anticipate”, “estimate”, “project”, “will”, “should”, “may”, “view”, “opportunity”, “potential”, or similar expressions or expressions of confidence. The Company’s ability to predict results or the actual effect of plans or strategies is inherently uncertain. Factors which could have a material adverse effect on the operations of the Company and its subsidiaries include, but are not limited to, those items discussed under Item 1A. Risk Factors herein and the following: changes in interest rates, general economic conditions, levels of unemployment in the Bank’s lending area, real estate market values in the Bank’s lending area, future natural disasters and increases to flood insurance premiums, the level of prepayments on loans and mortgage-backed securities, legislative/regulatory changes, monetary and fiscal policies of the U.S. Government including policies of the U.S. Treasury and the FRB, the quality or composition of the loan or investment portfolios, demand for loan products, deposit flows, competition, demand for financial services in the Company’s market area, accounting principles and guidelines and the Bank's ability to successfully integrate acquired operations. These risks and uncertainties should be considered in evaluating forward-looking statements and undue reliance should not be placed on such statements. The Company does not undertake, and specifically disclaims any obligation, to publicly release the result of any revisions which may be made to any forward-looking statements to reflect events or circumstances after the date of such statements or to reflect the occurrence of anticipated or unanticipated events.

Market Area and Competition
The Bank is a community-oriented financial institution, offering a wide variety of financial services to meet the needs of the communities it serves. The Bank conducts its business through an administrative/branch office located in Toms River, New Jersey, and sixty additional branch offices and two deposit production facilities located throughout Central and Southern New Jersey. The Bank also operates a wealth management office in Manchester, New Jersey and commercial loan production offices in the Philadelphia area and Mercer County, New Jersey. The Bank’s deposit gathering and lending activities are concentrated in the markets surrounding its branch office network.

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The Bank is the largest and oldest community-based financial institution headquartered in Ocean County, New Jersey, approximately midway between New York City and Philadelphia. The economy in the Bank’s primary market area, which represents the broader Central and Southern New Jersey market, is based upon a mixture of service and retail trade. Other employment is provided by a variety of wholesale trade, manufacturing, Federal, state and local government, hospitals and utilities. The area is also home to commuters working in areas in and around New York City and Philadelphia. The market area includes a significant number of vacation and second homes in the communities along the New Jersey shore.
The Bank’s future growth opportunities will be partly influenced by the growth and stability of its geographic marketplace and the competitive environment. The Bank faces significant competition both in making loans and in attracting deposits. The state of New Jersey, and the Bank's primary market areas of Central and Southern New Jersey, is an attractive market to many financial institutions. Many of the Bank’s competitors are branches of significantly larger institutions headquartered out-of-market which have greater financial resources than the Bank. The Bank’s competition for loans comes principally from commercial banks, savings banks, savings and loan associations, credit unions, mortgage banking companies, internet-based providers and insurance companies. Its most direct competition for deposits has historically come from commercial banks, savings banks, savings and loan associations and credit unions although the Bank also faces competition for deposits from short-term money market funds, other corporate and government securities funds, internet-only providers and from other financial service institutions such as brokerage firms and insurance companies. The Bank distinguishes itself from large banking competitors through its local presence and ability to deliver personalized service.
Community Involvement
The Bank proudly promotes a higher quality of life in the communities it serves through employee volunteer efforts and the work of OceanFirst Foundation (the “Foundation”). Employees are continually encouraged to become leaders in their communities and use the Bank’s support to help others. Through the Foundation, established in 1996, OceanFirst has donated $30 million to enrich the lives of local citizens by supporting initiatives in health and human services, education, affordable housing, youth development and the arts.
Acquisitions
On July 31, 2015, the Company completed its acquisition of Colonial American Bank (“Colonial American”), which added $142.4 million to assets, $121.2 million to loans, and $123.3 million to deposits. The in-market acquisition strengthened the Bank’s position in the attractive Monmouth County, New Jersey marketplace by adding offices in Middletown and Shrewsbury, New Jersey.
On March 11, 2016, the Bank purchased an existing retail branch located in the Toms River market with total deposits of $17.0 million.
On May 2, 2016, the Company completed its acquisition of Cape Bancorp, Inc. ("Cape") which added $1.5 billion to assets, $1.2 billion to loans, and $1.2 billion to deposits. The transaction was a market extension, creating a preeminent New Jersey based community banking franchise operating throughout Central and Southern New Jersey while also providing a gateway into the demographically attractive Philadelphia metropolitan area.
On November 30, 2016, the Company completed its acquisition of Ocean Shore Holding Company ("Ocean Shore") which added $995.9 million to assets, $875.1 million to deposits, and $774.0 million to loans. The in-market transaction solidified the Bank's position as the premier banking franchise in Central and Southern New Jersey with a strong core deposit franchise and enhanced operating scale.
While the Bank intends to concentrate on integrating its recent acquisitions, reducing non-interest expenses and on organic growth, the Company will continue to evaluate potential acquisition opportunities for those that are expected to create shareholder value.
Lending Activities
Loan Portfolio Composition. At December 31, 2016, the Bank had total loans outstanding of $3.831 billion, of which $1.653 billion, or 43.2% of total loans were one-to-four family, residential mortgage loans. The remainder of the portfolio consisted of $1.669 billion of commercial real estate, multi-family and land loans, or 43.6% of total loans; $65.4 million of residential construction loans, or 1.7% of total loans; $290.7 million of consumer loans, primarily home equity loans and lines of credit, or 7.6% of total loans; and, $152.8 million of commercial loans, or 4.0% of total loans. Included in total loans are $1.6 million in loans held-for-sale at December 31, 2016. At that same date, 31.5% of the Bank’s total loans had adjustable interest rates.
The types of loans that the Bank may originate are subject to Federal and state law and regulations. Interest rates charged by the Bank on loans are affected by the demand for such loans and the supply of money available for lending purposes and the rates offered by

4


competitors. These factors are, in turn, affected by, among other things, economic conditions, monetary policies of the Federal government, including the FRB, and legislative tax policies.

The following table sets forth the composition of the Bank’s loan portfolio in dollar amounts and as a percentage of the portfolio at the dates indicated.
 
 
At December 31,
 
2016
 
2015
 
2014
 
2013
 
2012
 
Amount
 
Percent
of Total
 
Amount
 
Percent
of Total
 
Amount
 
Percent
of Total
 
Amount
 
Percent
of Total
 
Amount
 
Percent
of Total
 
(dollars in thousands)
Real estate:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
One-to-four family
$
1,653,246

 
43.15
%
 
$
793,946

 
39.68
%
 
$
742,090

 
43.07
%
 
$
751,370

 
47.79
%
 
$
809,705

 
52.24
%
Commercial real estate, multi-family and land
1,668,872

 
43.56

 
818,445

 
40.90

 
649,951

 
37.73

 
528,945

 
33.64

 
475,155

 
30.66

Residential construction
65,408

 
1.71

 
50,757

 
2.54

 
47,552

 
2.76

 
30,821

 
1.96

 
9,013

 
0.58

Consumer (1)
290,676

 
7.59

 
193,160

 
9.65

 
199,349

 
11.57

 
200,683

 
12.76

 
198,143

 
12.78

Commercial and industrial
152,810

 
3.99

 
144,788

 
7.23

 
83,946

 
4.87

 
60,545

 
3.85

 
57,967

 
3.74

Total loans
3,831,012

 
100.00
%
 
2,001,096

 
100.00
%
 
1,722,888

 
100.00
%
 
1,572,364

 
100.00
%
 
1,549,983

 
100.00
%
Loans in process
(14,249
)
 
 
 
(14,206
)
 
 
 
(16,731
)
 
 
 
(12,715
)
 
 
 
(3,639
)
 
 
Deferred origination costs, net
3,414

 
 
 
3,232

 
 
 
3,207

 
 
 
3,526

 
 
 
4,112

 
 
Allowance for loan losses
(15,183
)
 
 
 
(16,722
)
 
 
 
(16,317
)
 
 
 
(20,930
)
 
 
 
(20,510
)
 
 
Total loans, net
3,804,994

 
 
 
1,973,400

 
 
 
1,693,047

 
 
 
1,542,245

 
 
 
1,529,946

 
 
Less:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Loans held for sale
1,551

 
 
 
2,697

 
 
 
4,201

 
 
 
785

 
 
 
6,746

 
 
Loans receivable, net
$
3,803,443

 
 
 
$
1,970,703

 
 
 
$
1,688,846

 
 
 
$
1,541,460

 
 
 
$
1,523,200

 
 
Total loans:
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
 
Adjustable rate
$
1,207,247

 
31.51
%
 
$
765,022

 
38.23
%
 
$
651,566

 
37.82
%
 
$
602,976

 
38.35
%
 
$
635,264

 
40.99
%
Fixed rate
2,623,765

 
68.49

 
1,236,074

 
61.77

 
1,071,322

 
62.18

 
969,388

 
61.65

 
914,719

 
59.01

 
$
3,831,012

 
100.00
%
 
$
2,001,096

 
100.00
%
 
$
1,722,888

 
100.00
%
 
$
1,572,364

 
100.00
%
 
$
1,549,983

 
100.00
%
 
(1)
Consists primarily of home equity loans and lines of credit, and to a lesser extent, loans on savings accounts and overdraft lines of credit.


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Loan Maturity. The following table shows the contractual maturity of the Bank’s total loans at December 31, 2016. The table does not include principal prepayments.
 
 
At December 31, 2016
 
 
One-to-
four
family
 
Commercial
real estate,
multi-family
and land
 
Residential construction (1)
 
Consumer
 
Commercial
and
industrial
 
Total
loans
receivable
 
 
(in thousands)
One year or less
 
$
1,544

 
$
236,204

 
$
61,491

 
$
3,813

 
$
49,733

 
$
352,785

After one year:
 
 
 
 
 
 
 
 
 
 
 
 
More than one year to three years
 
13,662

 
339,575

 
3,585

 
11,066

 
31,076

 
398,964

More than three years to five years
 
13,678

 
349,286

 

 
11,466

 
23,399

 
397,829

More than five years to ten years
 
95,764

 
494,419

 

 
72,326

 
21,735

 
684,244

More than ten years to twenty years
 
483,080

 
164,468

 

 
187,747

 
10,950

 
846,245

More than twenty years
 
1,045,518

 
84,920

 
332

 
4,258

 
15,917

 
1,150,945

Total due after December 31, 2017
 
1,651,702

 
1,432,668

 
3,917

 
286,863

 
103,077

 
3,478,227

Total amount due
 
$
1,653,246

 
$
1,668,872

 
$
65,408

 
$
290,676

 
$
152,810

 
3,831,012

Loans in process
 
 
 
 
 
 
 
 
 
 
 
(14,249
)
Deferred origination costs, net
 
 
 
 
 
 
 
 
 
 
 
3,414

Allowance for loan losses
 
 
 
 
 
 
 
 
 
 
 
(15,183
)
Loans receivable, net
 
 
 
 
 
 
 
 
 
 
 
3,804,994

Less: Loans held for sale
 
 
 
 
 
 
 
 
 
 
 
1,551

Total loans, net
 
 
 
 
 
 
 
 
 
 
 
$
3,803,443

 
 
(1)
Residential construction loans are primarily originated on a construction/permanent basis with such loans converting to an amortizing loan following the completion of the construction phase.
The following table sets forth at December 31, 2016, the dollar amount of total loans receivable, contractually due after December 31, 2017, and whether such loans have fixed interest rates or adjustable interest rates.
 
 
Due After December 31, 2017
 
 
Fixed
 
Adjustable
 
Total
 
 
(in thousands)
Real estate loans:
 
 
 
 
 
 
One-to-four family
 
$
1,234,389

 
$
417,313

 
$
1,651,702

Commercial real estate, multi-family and land
 
944,335

 
488,333

 
1,432,668

Residential construction
 
3,489

 
428

 
3,917

Consumer
 
137,872

 
148,991

 
286,863

Commercial and industrial
 
62,066

 
41,011

 
103,077

Total loans receivable
 
$
2,382,151

 
$
1,096,076

 
$
3,478,227



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Origination, Sale and Servicing of Loans. The following table sets forth the Bank’s loan originations, purchases, sales, principal repayments and loan activity, including loans held-for-sale, for the periods indicated.
 
 
For the Years Ended December 31,
 
 
2016
 
2015
 
2014
 
 
(in thousands)
Total loans:
 
 
 
 
 
 
Beginning balance
 
$
2,001,096

 
$
1,722,888

 
$
1,572,364

Loans originated:
 
 
 
 
 
 
One-to-four family
 
135,107

 
124,225

 
107,816

Commercial real estate, multi-family and land
 
122,806

 
187,454

 
193,025

Residential construction
 
42,805

 
48,558

 
50,556

Consumer
 
43,780

 
48,594

 
52,070

Commercial and industrial
 
138,495

 
76,931

 
50,833

Total loans originated
 
482,993

 
485,762

 
454,300

Loans purchased
 
37,561

 
21,992

 
20,363

Net loans acquired in acquisition
 
1,930,853

 
121,466

 

Total
 
4,452,503

 
2,352,108

 
2,047,027

Less:
 
 
 
 
 
 
Principal repayments
 
536,432

 
294,284

 
249,704

Sales of loans
 
78,736

 
48,614

 
62,318

Charge-offs (gross)
 
4,490

 
1,135

 
7,828

Transfer to other real estate owned
 
1,833

 
6,979

 
4,289

Total loans
 
$
3,831,012

 
$
2,001,096

 
$
1,722,888

One-to-Four Family Mortgage Lending. The Bank offers both fixed-rate and adjustable-rate mortgage (“ARM”) loans secured by one-to-four family residences with maturities up to 30 years. The majority of such loans are secured by property located in the Bank’s primary market area. Loan originations are typically generated by commissioned loan representatives in the exclusive employment of the Bank and their contacts within the local real estate industry, members of the local communities and the Bank’s existing or past customers. On occasion the Bank purchases loans originated by other banks.
At December 31, 2016, the Bank’s total loans outstanding were $3.831 billion, of which $1.653 billion, or 43.2%, were one-to-four family residential mortgage loans, primarily single family and owner occupied. To a lesser extent and included in this activity are residential mortgage loans secured by seasonal second homes and non-owner occupied investment properties. The average size of the Bank’s one-to-four family mortgage loans was approximately $181,000 at December 31, 2016.
The Bank currently offers a number of ARM loan programs with interest rates which adjust every three, five or ten years. The Bank’s ARM loans generally provide for periodic caps of 2% or 3% and an overall cap of 6% on the increase or decrease in the interest rate at any adjustment date and over the life of the loan. The interest rate on these loans is indexed to the applicable three-, five- or ten-year U.S. Treasury constant maturity yield, with a repricing margin which ranges generally from 2.75% to 3.50% above the index. The Bank also offers three-, five-, seven- and ten-year ARM loans which operate as fixed-rate loans for the first three, five, seven or ten years and then convert to one-year ARM loans for the remainder of the term. The ARM loans are then indexed to a margin of generally 2.75% to 3.50% above the one-year U.S. Treasury constant maturity yield.
Generally, ARM loans pose credit risks different than risks inherent in fixed-rate loans, primarily because as interest rates rise, the payments of the borrower rise, thereby increasing the potential for delinquency and default. At the same time, the marketability of the underlying property may be adversely affected by higher interest rates. In order to minimize risks, borrowers of ARM loans with an initial fixed period of five years or less must qualify based on the greater of the note rate plus 2% or the fully-indexed rate. Seven- to ten-year ARMs must qualify based on the note rate. The Bank does not originate ARM loans which provide for negative amortization.
The Bank’s fixed-rate mortgage loans are currently made for terms from 10 to 30 years. Prior to the fourth quarter of 2014, the Bank generally retained the servicing on loans sold. Currently, servicing rights are generally sold as part of the loan sale. The Bank generally holds for its portfolio shorter-term, fixed-rate loans and certain longer-term, fixed-rate loans, generally consisting of loans with balances exceeding the conforming loan limits of the government agencies (“Jumbo” loans) and loans to officers, directors or employees of the Bank. The Bank may retain a portion of its longer-term, fixed-rate loans after considering volume and yield and after evaluating interest rate risk and capital management considerations. The retention of fixed-rate mortgage loans may increase the level of interest rate risk exposure of the Bank, as the rates on these loans will not adjust during periods of rising interest rates and the loans can be subject to substantial increases in prepayments during periods of falling interest rates. During the past several years, the Bank has generally sold

7


much of its 30-year, fixed-rate, one-to-four family loans into the secondary market primarily to manage interest rate risk. With the recent rise in market interest rates and the reduction in refinance volume, the Bank anticipates retaining most of its 30-year fixed-rate loan originations in 2017 to replace anticipated repayments of the existing residential loan portfolio.
The Bank’s policy is to originate one-to-four family residential mortgage loans in amounts up to 80% of the lower of the appraised value or the selling price of the property securing the loan and up to 95% of the appraised value or selling price if private mortgage insurance is obtained. Appraisals are obtained for loans secured by real estate properties. The weighted average loan-to-value ratio of the Bank’s one-to-four family mortgage loans was 55.5% at December 31, 2016 based on appraisal values at the time of origination. Title insurance is typically required for first mortgage loans. Mortgage loans originated by the Bank include due-on-sale clauses which provide the Bank with the contractual right to declare the loan immediately due and payable in the event the borrower transfers ownership of the property without the Bank’s consent. Due-on-sale clauses are an important means of adjusting the rates on the Bank’s fixed-rate mortgage loan portfolio and the Bank has generally exercised its rights under these clauses.
The Bank currently brokers reverse mortgage loans for a third-party originator. The loans qualify under the Home Equity Conversion Mortgage program of the Federal Housing Administration and are insured by the Department of Housing and Urban Development. For the year ended December 31, 2016, the Bank recognized fee income on reverse mortgage loans of $95,000, as compared to $233,000 for the year ended December 31, 2015.
The Bank has made, and may continue to make, residential mortgage loans that will not qualify as Qualified Mortgage Loans under the Dodd-Frank Act and the Consumer Financial Protection Bureau (“CFPB”) regulations. See “Risk Factors – The Dodd-Frank Act imposes obligations on originators of residential mortgage loans, such as the Bank.”
Commercial Real Estate, Multi-Family and Land Lending. The Bank originates commercial real estate loans that are secured by properties, or properties under construction, generally used for business purposes such as office, industrial or retail facilities. A substantial majority of the Bank’s commercial real estate loans are located in its primary market area. The Bank’s underwriting procedures provide that commercial real estate loans may be made in amounts up to 80% of the appraised value of the property. The Bank generally originates commercial real estate loans with terms of up to ten years and amortization schedules up to thirty years with fixed or adjustable rates. The loans typically contain prepayment penalties over the initial term. In reaching its decision on whether to make a commercial real estate loan, the Bank considers the net operating income of the property and the borrower’s expertise, credit history and profitability among other factors. The Bank has generally required that the properties securing commercial real estate loans have debt service coverage ratios of at least 130%. The Bank generally requires the personal guarantee of the principal borrowers for commercial real estate loans.
The Bank’s commercial real estate loan portfolio at December 31, 2016 was $1.669 billion, or 43.6% of total loans, as compared to $818.4 million, or 40.9% of total loans, at December 31, 2015. The Bank continues to grow this market segment primarily through the addition of experienced commercial lenders and has commercial lending teams in Monmouth, Atlantic, Cape May, and Mercer Counties and in the Philadelphia area. Of the total commercial real estate portfolio, 32.0% is considered owner-occupied, whereby the underlying business owner occupies a majority of the property. The average size of the Bank’s commercial real estate loans at December 31, 2016 was approximately $778,000.
The commercial real estate portfolio includes loans for the construction of commercial properties. Typically, these loans are underwritten based upon commercial leases in place prior to funding. In many cases, commercial construction loans are extended to owners that intend to occupy the property for business operations, in which case the loan is based upon the financial capacity of the related business and the owner of the business. At December 31, 2016, the Bank had an outstanding balance in commercial construction loans of $123.2 million, as compared to $29.2 million at December 31, 2015. The increase was primarily due to the acquisitions of Cape and Ocean Shore and commercial construction loan origination opportunities in the Bank's local market.
The Bank also originates multi-family mortgage loans and land loans on a limited basis. The Bank’s multi-family loans and land loans at December 31, 2016 totaled $34.8 million and $7.7 million, respectively, as compared to $28.4 million and $8.0 million, respectively, at December 31, 2015.
Residential Construction Lending. At December 31, 2016, residential construction loans totaled $65.4 million, or 1.7%, of the Bank’s total loans outstanding.
The Bank originates residential construction loans primarily on a construction/permanent basis with such loans converting to an amortizing loan following the completion of the construction phase. Most of the Bank’s residential construction loans are made to individuals building a residence.
Construction lending, by its nature, entails additional risks compared to one-to-four family mortgage lending, attributable primarily to the fact that funds are advanced based upon a security interest in a project which is not yet complete. The Bank addresses these risks through its underwriting policies and procedures and its experienced staff.

8


Consumer Loans. At December 31, 2016, the Bank’s consumer loans totaled $290.7 million, or 7.6% of the Bank’s total loan portfolio. Of the total consumer loan portfolio, home equity loans comprised $149.8 million; home equity lines of credit comprised $143.4 million; overdraft line of credit loans totaled $771,000; loans on savings accounts and other consumer loans totaled $785,000. There was also $4.1 million of unaccreted fair value marks on the consumer loan portfolio.
The Bank originates home equity loans typically as fixed-rate loans with terms ranging from 5 to 20 years. The Bank also offers variable-rate home equity lines of credit. Home equity loans and lines of credit are based on the applicant’s income and their ability to repay and are secured by a mortgage on the underlying real estate, typically owner-occupied, one-to-four family residences. Generally, the loan when combined with the balance of any applicable first mortgage lien, may not exceed 80% of the appraised value of the property at the time of the loan commitment. The Bank charges an early termination fee should a home equity loan or line of credit be closed within two or three years of origination. A borrower is required to make monthly payments of principal and interest, at a minimum of $50, based upon a 10-, 15- or 20-year amortization period. Certain home equity lines of credit require the payment of interest-only during the first five years with fully-amortizing payments thereafter. At December 31, 2016, these loans totaled $41.4 million, as compared to $15.7 million at December 31, 2015.
Generally, the adjustable rate of interest charged is based upon the prime rate of interest (as published in the Wall Street Journal), although the range of interest rates charged may vary from 1.0% below prime to 1.5% over prime. The loans have an 18% lifetime cap on interest rate adjustments.
Commercial and Industrial Lending. At December 31, 2016, commercial and industrial (“C&I”) loans totaled $152.8 million, or 4.0% of the Bank’s total loans outstanding. The Bank originates commercial and industrial loans and lines of credit (including for working capital; fixed asset purchases; and acquisition, receivable and inventory financing) primarily in the Bank’s market area. In underwriting commercial and industrial loans and credit lines, the Bank reviews and analyzes financial history and capacity, collateral value, strength and character of the principals, and general payment history of the principal borrowers in coming to a credit decision. The Bank generally originates C&I loans secured by the assets of the business including accounts receivable, inventory, fixtures, etc. The Bank generally requires the personal guarantee of the principal borrowers for all commercial and industrial loans.
Commercial and industrial business lending is generally considered to involve a higher degree of risk than real estate lending. Risk of loss on a commercial and industrial business loan is dependent largely on the borrower’s ability to remain financially able to repay the loan from ongoing operations. The average size of the Bank’s commercial and industrial loans at December 31, 2016 was approximately $261,000.
Loan Approval Procedures and Authority. The Board establishes the loan approval policies of the Bank based on total exposure to the individual borrower. The Board has authorized the approval of loans by various officers of the Bank or a Management Credit Committee, on a scale which requires approval by personnel with progressively higher levels of responsibility as the loan amount increases. Pursuant to applicable regulations, loans to one borrower generally cannot exceed 15% of the Bank’s unimpaired capital. At December 31, 2016 this limit amounted to $66.8 million. At December 31, 2016, the Bank’s maximum loan exposure to a single borrower was a $22.3 million relationship secured by pledges and assignments of notes receivables and various real estate collateral.
Due to the recent acquisitions, a majority of the loan portfolio was underwritten under the underwriting standards and guidelines of the acquired bank. Acquired loans have been evaluated under OceanFirst's credit risk management policies during pre-closing due diligence and during post-closing risk rating reviews.
In addition to internal credit reviews, the Bank has engaged an independent firm specializing in commercial loan reviews to examine a selection of commercial real estate and commercial and industrial loans, and provide management with objective analysis regarding the quality of these loans throughout the year. The independent firm reviewed more than 60% of the Company’s commercial real estate and commercial and industrial loans during 2016. Their conclusion was that the Bank’s internal credit reviews are consistent with both Bank policy and general industry practice.
Loan Servicing. Loan servicing includes collecting and remitting loan payments, accounting for principal and interest, making inspections as required of mortgaged premises, contacting delinquent borrowers, supervising foreclosures and property dispositions in the event of unremedied defaults, making certain insurance and tax payments on behalf of the borrowers and generally administering the loans. The Bank also services mortgage loans for others. On October 31, 2014, the Bank sold most of the servicing rights on residential mortgage loans serviced for Federal agencies, recognizing a net gain of $408,000. Smaller sales in 2015 resulted in a net gain of $111,000. All of the remaining loans currently being serviced for others are loans which were originated by the Bank. At December 31, 2016, the Bank was servicing $137.9 million of loans for others. At December 31, 2016, 2015, and 2014, the balance of the Bank’s Mortgage Servicing Rights (“MSR”) totaled $228,000, $589,000, and $701,000, respectively. For the years ended December 31, 2016, 2015, and 2014, loan servicing income totaled $250,000, $268,000, and $816,000, respectively. The Bank evaluates the MSR for impairment on a quarterly basis. No impairment was recognized for the years ended December 31, 2016, 2015, and 2014. The valuation of MSR is determined through a discounted analysis of future cash flows, incorporating numerous assumptions which are subject to significant change in the near term. Generally, a decline in market interest rates will cause expected prepayment speeds to increase resulting in a lower valuation for mortgage servicing rights and ultimately lower future servicing fee income.

9


Delinquencies and Classified Assets. The steps taken by the Bank with respect to delinquencies vary depending on the nature of the loan and period of delinquency. When a borrower fails to make a required payment on a loan, the Bank takes a number of steps to have the borrower cure the delinquency and restore the loan to current status. The Bank sends the borrower a written notice of non-payment after the loan is first past due. In the event payment is not then received, additional letters and phone calls generally are made. The Bank may offer to modify the terms or take other forbearance actions which afford the borrower an opportunity to satisfy the loan terms. If the loan is still not brought current and it becomes necessary for the Bank to take legal action, which typically occurs after a loan is delinquent at least 120 days or more, the Bank will commence litigation to realize on the collateral, including foreclosure proceedings against any real property that secures the loan. If a foreclosure action is instituted and the loan is not brought current, paid in full, or an acceptable workout accommodation is not agreed upon before the foreclosure sale, the real property securing the loan generally is sold at foreclosure. Foreclosure timelines in New Jersey are among the longest in the nation and have remained protracted over the past several years.
The Bank’s internal Asset Classification Committee, which is chaired by the Chief Risk Officer, reviews and classifies the Bank’s assets quarterly and reports the results of its review to the Board. As part of this process, the Chief Risk Officer compiles a quarterly list of all criticized and classified loans, and a narrative report of classified commercial and industrial, commercial real estate, multi-family, land and construction loans. The Bank classifies assets in accordance with certain regulatory guidelines and definitions. At December 31, 2016, the Bank had $70.5 million of assets, including all other real estate owned ("OREO"), classified as “Substandard”, $111,000 classified as “Doubtful” and no assets classified as “Loss.” At December 31, 2015, the Bank had $33.3 million of assets classified as “Substandard,” no assets classified as “Doubtful” and no assets classified as “Loss.” Assets which do not currently expose the Bank to sufficient risk to warrant classification in one of the aforementioned categories but possess weaknesses, such as past delinquencies, are designated “Special Mention.” Special Mention assets totaled $15.7 million at December 31, 2016, as compared to $23.1 at December 31, 2015.
Non-Accrual Loans and OREO. The following table sets forth information regarding non-accrual loans and OREO, excluding Purchase Credit Impaired (“PCI”) loans. The Bank obtained PCI loans as part of its acquisitions of Colonial American, Cape and Ocean Shore. PCI loans are accounted for at fair value, based upon the present value of expected future cash flows with no related allowance for loan losses. PCI loans totaled $7.6 million and $461,000 at December 31, 2016 and 2015, respectively. It is the policy of the Bank to cease accruing interest on loans 90 days or more past due or in the process of foreclosure. For the years ended December 31, 2016, 2015 and 2014, respectively, the amount of interest income that would have been recognized on non-accrual loans if such loans had continued to perform in accordance with their contractual terms was $391,000, $848,000, and $1,630,000, respectively.
 
 
December 31,
 
 
2016
 
2015
 
2014
 
2013
 
2012
 
 
(dollars in thousands)
Non-accrual loans:
 
 
 
 
 
 
 
 
 
 
Real estate:
 
 
 
 
 
 
 
 
 
 
One-to-four family
 
$
8,126

 
$
5,779

 
$
3,115

 
$
28,213

 
$
26,521

Commercial real estate, multi-family and land
 
2,935

 
10,796

 
12,758

 
12,304

 
11,567

Consumer
 
2,064

 
1,576

 
1,877

 
4,328

 
4,540

Commercial and industrial
 
441

 
123

 
557

 
515

 
746

Total
 
13,566

 
18,274

 
18,307

 
45,360

 
43,374

OREO
 
9,803

 
8,827

 
4,664

 
4,345

 
3,210

Total non-performing assets
 
$
23,369

 
$
27,101

 
$
22,971

 
$
49,705

 
$
46,584

Allowance for loan losses as a percent of total loans receivable (1)
 
0.40
%
 
0.84
%
 
0.95
%
 
1.33
%
 
1.32
%
Allowance for loan losses as a percent of total non-performing loans (2)
 
111.92

 
91.51

 
89.13

 
46.14

 
47.29

Non-performing loans as a percent of total loans receivable (1)(2)
 
0.35

 
0.91

 
1.06

 
2.88

 
2.80

Non-performing assets as a percent of total assets (2)
 
0.45

 
1.05

 
0.97

 
2.21

 
2.05

 
(1)
Total loans includes loans receivable and loans held for sale.
(2)
Non-performing assets consist of non-performing loans and OREO. Non-performing loans consist of all loans 90 days or more past due and other loans in the process of foreclosure.
Non-performing loans totaled $13.6 million at December 31, 2016, a decrease of $4.7 million, as compared to December 31, 2015, partly due to the bulk sale of non-performing and under-performing loans during the year. Non-performing loans at December 31, 2016 and 2015 do not include $7.6 million and $461,000, respectively, of PCI loans acquired from Colonial American, Cape and Ocean Shore. The Company’s OREO totaled $9.8 million at December 31, 2016, a $976,000 increase from December 31, 2015. The amount

10


at December 31, 2016 and 2015 includes $7.0 million relating to a hotel, golf and banquet facility located in New Jersey which the Company acquired in the fourth quarter of 2015.
Allowance for Loan Losses. The allowance for loan losses is a valuation account that reflects probable incurred losses in the loan portfolio. The adequacy of the allowance for loan losses is based on management’s evaluation of the Company’s past loan loss experience, known and inherent risks in the portfolio, adverse situations that may affect the borrower’s ability to repay, estimated value of any underlying collateral and current economic conditions. Additions to the allowance arise from charges to operations through the provision for loan losses or from the recovery of amounts previously charged-off. The allowance is reduced by loan charge-offs. A description of the methodology used in establishing the allowance for loan losses is set forth in the section “Management’s Discussion and Analysis of Financial Condition and Results of Operations, Critical Accounting Policies, Allowance for Loan Losses”.
As of December 31, 2016 and 2015, the Bank’s allowance for loan losses was 0.40% and 0.84% respectively, of total loans. The decline in the loan coverage ratio from the prior year was primarily a result of Cape and Ocean Shore loans acquired at fair value, with no corresponding allowance. The net credit mark on all acquired loans, not reflected in the allowance for loan losses, was $26.0 million and $2.2 million, respectively, at December 31, 2016 and 2015. The allowance for loan losses as a percent of total non-performing loans was 111.92% at December 31, 2016, an increase from 91.51% in the prior year. The Bank had non-accrual loans of $13.6 million at December 31, 2016, a decrease from $18.3 million at December 31, 2015. The Bank will continue to monitor its allowance for loan losses as conditions dictate.
The following table sets forth activity in the Bank’s allowance for loan losses for the periods set forth in the table.
 
 
 
At or for the Years Ended December 31,
 
 
2016
 
2015
 
2014
 
2013
 
2012
 
 
(dollars in thousands)
Balance at beginning of year
 
$
16,722

 
$
16,317

 
$
20,930

 
$
20,510

 
$
18,230

Charge-offs:
 
 
 
 
 
 
 
 
 
 
Residential real estate
 
558

 
295

 
6,955

 
2,444

 
4,679

Commercial real estate
 
3,399

 
103

 
323

 

 
47

Consumer
 
349

 
678

 
471

 
842

 
2,282

Commercial and industrial
 
184

 
59

 
78

 
235

 
76

Total
 
4,490

 
1,135

 
7,827

 
3,521

 
7,084

Recoveries
 
328

 
265

 
584

 
1,141

 
1,464

Net charge-offs
 
4,162

 
870

 
7,243

 
2,380

 
5,620

Provision for loan losses
 
2,623

 
1,275

 
2,630

 
2,800

 
7,900

Balance at end of year
 
$
15,183

 
$
16,722

 
$
16,317

 
$
20,930

 
$
20,510

Ratio of net charge-offs during the year to average net loans outstanding during the year
 
0.15
%
 
0.05
%
 
0.45
%
 
0.16
%
 
0.36
%
The increase in net charge-offs for the year ended December 31, 2016, was primarily due to charge-offs of $2.1 million on the bulk sales of non-performing and under-performing loans. The elevated charge-offs in 2014 was due to the bulk sale of non-performing residential and consumer loans which resulted in a charge-off of $5.0 million on these loans.


11


The following table sets forth the Bank’s percent of allowance for loan losses to total allowance and the percent of loans to total loans in each of the categories listed at the dates indicated (dollars in thousands).
 
 
At December 31,
 
2016
2015
2014
2013
2012
 
Amount
Percent of
Allowance
to Total
Allowance
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent of
Allowance
to Total
Allowance
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent of
Allowance
to Total
Allowance
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent of
Allowance
to Total
Allowance
Percent
of Loans
in Each
Category
to Total
Loans
Amount
Percent of
Allowance
to Total
Allowance
Percent
of Loans
in Each
Category
to Total
Loans
Residential real estate
$
2,245

14.79
%
44.86
%
$
6,590

39.41
%
42.22
%
$
4,291

26.30
%
45.83
%
$
4,859

23.22
%
49.75
%
$
5,241

25.56
%
52.82
%
Commercial real estate
9,360

61.65

43.56

7,165

42.85

40.90

8,935

54.76

37.73

10,371

49.55

33.64

8,937

43.57

30.66

Consumer
1,110

7.31

7.59

1,095

6.55

9.65

1,146

7.02

11.57

1,360

6.50

12.76

2,264

11.04

12.78

Commercial and industrial
2,037

13.41

3.99

1,639

9.80

7.23

863

5.29

4.87

1,383

6.61

3.85

1,348

6.57

3.74

Unallocated
431

2.84


233

1.39


1,082

6.63


2,957

14.12


2,720

13.26


Total
$
15,183

100.00
%
100.00
%
$
16,722

100.00
%
100.00
%
$
16,317

100.00
%
100.00
%
$
20,930

100.00
%
100.00
%
$
20,510

100.00
%
100.00
%

Throughout 2014, 2015, and 2016, the Bank has refined and enhanced its assessment of the adequacy of the allowance by reviewing the look-back periods, updating the loss emergence periods, and enhancing the analysis of qualitative factors. These refinements have increased the level of precision in the allowance and the unallocated portion has declined substantially. Additionally, the reduction in the unallocated portion of the allowance for loan losses in 2014 was due to the improved risk profile of the loan portfolio and related credit metrics, and the lower level of uncertainty relating to future loan losses due to the bulk sale of non-performing residential and consumer loans.
Reserve for Repurchased Loans and Loss Sharing Obligations. The reserve for repurchased loans and loss sharing obligations was established to provide for expected losses related to repurchase requests which may be received on residential mortgage loans previously sold to investors. The reserve also includes an estimate of the Bank’s obligation under a loss sharing arrangement with the FHLB relating to loans sold into their Mortgage Partnership Finance (“MPF”) program. The Company prepares a comprehensive analysis of the adequacy of the reserve for repurchased loans and loss sharing obligations at each quarter-end.
At December 31, 2016 and 2015, the Company maintained a reserve for repurchased loans and loss sharing obligations of $846,000 and $986,000, respectively. Provisions for losses are charged to gain on sale of loans and credited to the reserve while actual losses are charged to the reserve. Losses were $140,000, $56,000, and $436,000, respectively, for the years ended December 31, 2016, 2015 and 2014. Included in the losses on loans repurchased are cash settlements in lieu of repurchases. At December 31, 2016 and 2015, there were no outstanding loan repurchase requests.
Management believes that the Bank has established and maintained the reserve for repurchased loans and loss sharing obligations at adequate levels, however, future adjustments to the reserve may be necessary due to economic, operating or other conditions beyond the Bank’s control.
Investment Activities
The investment policy of the Bank as established by the Board attempts to provide and maintain liquidity, generate a favorable return on investments without incurring undue interest rate and credit risk, and complement the Bank’s lending activities. Specifically, the Bank’s policies generally limit investments to government and Federal agency-backed securities, municipal securities and corporate debt obligations. The Bank’s policies provide that all investment purchases must be evaluated internally for creditworthiness and be approved by two officers (any two of the Senior Vice President/Treasurer, the Executive Vice President/Chief Financial Officer, and the President/Chief Executive Officer). The Company’s investment policy mirrors that of the Bank except that it allows for the purchase of equity securities in limited amounts.
Management determines the appropriate classification of securities at the time of purchase. If the Bank has the intent and the ability at the time of purchase to hold securities until maturity, they may be classified as held-to-maturity. Investment and mortgage-backed securities identified as held-to-maturity are carried at cost, adjusted for amortization of premium and accretion of discount, which are recognized as adjustments to interest income. Securities to be held for indefinite periods of time, but not necessarily to maturity are classified as available-for-sale. Securities available-for-sale include securities that management intends to use as part of its asset/liability management strategy. Such securities are carried at estimated fair value and unrealized gains and losses, net of related tax effect, are excluded from earnings, but are included as a separate component of stockholders’ equity. See “Note 4 to the Consolidated Financial Statements.”

12


Mortgage-backed Securities. Mortgage-backed securities represent a participation interest in a pool of single-family or multi-family mortgages, the principal and interest payments on which, in general, are passed from the mortgage originators, through intermediaries that pool and repackage the participation interests in the form of securities, to investors such as the Bank. Such intermediaries may be private issuers, or agencies including the Federal Home Loan Mortgage Company (“FHLMC”), the Federal National Mortgage Association (“FNMA”), the Government National Mortgage Association (“GNMA”), and the Small Business Administration ("SBA") that guarantee the payment of principal and interest to investors. Mortgage-backed securities typically are issued with stated principal amounts, and the securities are backed by pools of mortgages that have loans with interest rates that are within a certain range and with varying maturities. The underlying pool of mortgages can be composed of either fixed-rate or ARM loans.
The actual maturity of a mortgage-backed security varies, depending on when the mortgagors repay or prepay the underlying mortgages. Prepayments of the underlying mortgages may shorten the life of the security, thereby affecting its yield to maturity and the related estimated fair value of the mortgage-backed security. The prepayments of the underlying mortgages depend on many factors, including the type of mortgages, the coupon rates, the age of mortgages, the geographical location of the underlying real estate collateralizing the mortgages, the general levels of market interest rates, and general economic conditions. GNMA mortgage-backed securities that are backed by assumable Federal Housing Administration (“FHA”) or Department of Veterans Affairs (“VA”) loans generally have a longer life than conventional non-assumable loans underlying FHLMC and FNMA mortgage-backed securities. During periods of falling mortgage interest rates, prepayments generally increase, as opposed to periods of increasing interest rates when prepayments generally decrease. If the interest rate of underlying mortgages significantly exceeds the prevailing market interest rates offered for mortgage loans, refinancing generally increases and accelerates the prepayment of the underlying mortgages. Prepayment experience is more difficult to estimate for adjustable-rate mortgage-backed securities. With the increase in interest rates at the end of 2016, prepayments have slowed as compared to recent years.
The Bank has investments in mortgage-backed securities and has utilized such investments to complement its lending activities. The Bank invests in a large variety of mortgage-backed securities, including ARM, balloon and fixed-rate securities and all were directly insured or guaranteed by either FHLMC, FNMA, GNMA or SBA.
The following table sets forth the Bank’s mortgage-backed securities activities at amortized cost for the periods indicated.
 
For the Years Ended December 31,
 
2016
 
2015
 
2014
 
(in thousands)
Beginning balance
$
280,872

 
$
326,117

 
$
349,550

Mortgage-backed securities acquired
203,416

 

 

Mortgage-backed securities purchased
59,590

 
16,913

 
35,203

Less: Principal repayments
(73,470
)
 
(60,924
)
 
(57,199
)
Less: Sales
(6,394
)
 

 

Amortization of premium
(1,131
)
 
(1,234
)
 
(1,437
)
Ending balance
$
462,883

 
$
280,872

 
$
326,117

The following table sets forth certain information regarding the amortized cost and estimated fair value of the Bank’s mortgage-backed securities at the dates indicated.
 
At December 31,
 
2016
 
2015
 
2014
 
Amortized
Cost
 
Estimated
Fair
Value
 
Amortized
Cost
 
Estimated
Fair
Value
 
Amortized
Cost
 
Estimated
Fair
Value
 
(in thousands)
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
FHLMC
$
144,016

 
$
141,754

 
$
120,116

 
$
118,991

 
$
141,494

 
$
140,444

FNMA
217,445

 
217,096

 
160,254

 
162,170

 
184,003

 
187,495

GNMA
92,475

 
92,230

 
502

 
597

 
620

 
739

SBA
8,947

 
8,975

 

 

 

 

Total mortgage-backed securities
$
462,883

 
$
460,055

 
$
280,872

 
$
281,758

 
$
326,117

 
$
328,678

Investment Securities. At December 31, 2016, the amortized cost of the Company’s investment securities totaled $157.5 million, and consisted of $32.5 million of U.S. agency obligations, $39.2 million of state and municipal obligations, $77.1 million of corporate debt securities, and $8.8 million of other investments. Each of the U.S. agency obligations are rated AA+ by Standard

13


and Poor’s and Aaa by Moody’s. The state and municipal obligations are issued by government entities with current credit ratings that are considered investment grade ranging from a high of AAA to a low of A+. The corporate debt securities include a $1.0 million issue of a local community bank purchased in late 2015 which is not rated by any of the credit rating services. Excluding this item, the remaining corporate debt securities are issued by various corporate entities with an amortized cost of $76.1 million. Credit ratings range from a high of AA- to a low of Ba1 as rated by one of the internationally-recognized credit rating services. See “Note 4 to the Consolidated Financial Statements”.
The following table sets forth certain information regarding the amortized cost and estimated fair value of the Company’s investment securities at the dates indicated.
 
At December 31,
 
2016
 
2015
 
2014
 
Amortized
Cost
 
Estimated
Fair
Value
 
Amortized
Cost
 
Estimated
Fair
Value
 
Amortized
Cost
 
Estimated
Fair
Value
 
(in thousands)
Investment securities:
 
 
 
 
 
 
 
 
 
 
 
U.S. agency obligations
$
32,502

 
$
32,253

 
$
85,084

 
$
85,108

 
$
106,294

 
$
106,245

State and municipal obligations
39,155

 
38,309

 
13,311

 
13,326

 
13,829

 
13,846

Corporate debt securities
77,057

 
71,141

 
56,000

 
47,473

 
55,000

 
45,250

Other investments
8,778

 
8,550

 

 

 

 

Total investment securities
$
157,492

 
$
150,253

 
$
154,395

 
$
145,907

 
$
175,123

 
$
165,341


The table below sets forth certain information regarding the amortized cost, weighted average yields and contractual maturities, excluding scheduled principal amortization, of the Bank’s investment and mortgage-backed securities as of December 31, 2016. Other investments consist of mutual funds that do not have a contractual maturity date and are excluded from the table. Actual maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties. See “Investment Activities – Mortgage-backed Securities”.
 
At December 31, 2016
 
 
 
 
 
 
 
 
 
Total
 
One Year
or Less
Amortized
Cost
 
More than
One Year
to Five
Years
Amortized
Cost
 
More than
Five
Years to
Ten Years
Amortized
Cost
 
More than
Ten Years
Amortized
Cost
 
Amortized
Cost
 
Estimated
Fair
Value
 
(dollars in thousands)
Investment securities:
 
 
 
 
 
 
 
 
 
 
 
U.S. agency obligations
$
5,032

 
$
27,470

 
$

 
$

 
$
32,502

 
$
32,253

State and municipal obligations (1)
4,387

 
17,360

 
17,408

 

 
39,155

 
38,309

Corporate debt securities (2)
1,000

 
16,144

 
2,971

 
56,942

 
77,057

 
71,141

Total investment securities
$
10,419

 
$
60,974

 
$
20,379

 
$
56,942

 
$
148,714

 
$
141,703

Weighted average yield
1.35
%
 
1.75
%
 
2.75
%
 
1.54
%
 
1.78
%
 
 
Mortgage-backed securities:
 
 
 
 
 
 
 
 
 
 
 
FHLMC
$

 
$
1,865

 
$
26,685

 
$
115,466

 
$
144,016

 
$
141,754

FNMA
8

 
670

 
49,013

 
167,754

 
217,445

 
217,096

GNMA

 

 
151

 
92,324

 
92,475

 
92,230

SBA

 

 

 
8,947

 
8,947

 
8,975

Total mortgage-backed securities
$
8

 
$
2,535

 
$
75,849

 
$
384,491

 
$
462,883

 
$
460,055

Weighted average yield
4.49
%
 
1.69
%
 
2.65
%
 
2.28
%
 
2.14
%
 
 
 
(1)
State and municipal obligations are reported at tax equivalent yield.
(2)
$60.9 million of the Bank’s corporate debt securities carry interest rates which adjust to a spread over LIBOR on a quarterly basis.
Sources of Funds
General. Deposits, repayments and prepayments of loans and mortgage-backed securities, proceeds from sales of loans, investment maturities, cash flows generated from operations and FHLB advances and other borrowings are the primary sources of the Bank’s funds for use in lending, investing and for other general purposes.

14


Deposits. The Bank offers a variety of deposit accounts with a range of interest rates and terms to retail, government and business customers. The Bank’s deposits consist of money market accounts, savings accounts, interest-bearing checking accounts, non-interest-bearing accounts and time deposits. The flow of deposits is influenced significantly by general economic conditions, changes in money market rates, prevailing interest rates and competition. The Bank’s deposits are obtained predominantly from the areas in which its branch offices are located. The Bank relies on its community-banking focus, stressing customer service and long-standing relationships with its customers to attract and retain these deposits; however, market interest rates and rates offered by competing financial institutions could significantly affect the Bank’s ability to attract and retain deposits.

At December 31, 2016, the Bank had $269.0 million in time deposits in amounts of $100,000 or more maturing as follows:
Maturity Period
 
Amount
 
Weighted
Average
Rate
 
 
(dollars in thousands)
Three months or less
 
$
52,447

 
1.02
%
Over three through six months
 
43,077

 
1.19

Over six through 12 months
 
55,562

 
1.03

Over 12 months
 
117,864

 
1.55

Total
 
$
268,950

 
1.28
%
The following table sets forth the distribution of the Bank’s average deposit accounts and the average rate paid on those deposits for the periods indicated.
 
 
For the Years Ended December 31,
 
 
2016
 
2015
 
2014
 
 
Average
Balance
 
Percent
of Total
Average
Deposits
 
Average
Rate
Paid
 
Average
Balance
 
Percent
of Total
Average
Deposits
 
Average
Rate
Paid
 
Average
Balance
 
Percent
of Total
Average
Deposits
 
Average
Rate
Paid
 
 
(dollars in thousands)
Money market deposit accounts
 
$
316,977

 
10.75
%
 
0.27
%
 
$
129,775

 
6.95
%
 
0.14
%
 
$
113,406

 
6.49
%
 
0.08
%
Savings accounts
 
447,484

 
15.17

 
0.04

 
306,151

 
16.39

 
0.03

 
295,289

 
16.89

 
0.04

Interest-bearing checking
accounts
 
1,266,135

 
42.92

 
0.17

 
875,326

 
46.85

 
0.11

 
869,383

 
49.71

 
0.11

Non-interest-bearing accounts
 
497,166

 
16.85

 

 
327,216

 
17.51

 

 
257,058

 
14.70

 

Time deposits
 
422,026

 
14.31

 
1.03

 
229,785

 
12.30

 
1.33

 
213,566

 
12.21

 
1.39

Total average deposits
 
$
2,949,788

 
100.00
%
 
0.25
%
 
$
1,868,253

 
100.00
%
 
0.23
%
 
$
1,748,702

 
100.00
%
 
0.24
%
Borrowings. The Bank has obtained advances from the FHLB for cash management and interest rate risk management purposes or as an alternative to deposit funds and may do so in the future as part of its operating strategy. FHLB term advances are also used to acquire certain other assets as may be deemed appropriate for investment purposes. Advances are collateralized primarily by certain of the Bank’s mortgage loans and investment and mortgage-backed securities and secondarily by the Bank’s investment in capital stock of the FHLB. The maximum amount that the FHLB will advance to member institutions, including the Bank, fluctuates from time to time in accordance with the policies of the FHLB. At December 31, 2016, the Bank had $250.5 million in outstanding advances from the FHLB. The Bank also has outstanding municipal letters of credit issued by the FHLB used to secure government deposits. At December 31, 2016, these letters of credit totaled $456.0 million.
The Bank also borrows funds using securities sold under agreements to repurchase. Under this form of borrowing specific U.S. Government agency and/or mortgage-backed securities are pledged as collateral to secure the borrowing. These pledged securities are held by a third-party custodian. At December 31, 2016, the Bank had borrowed $69.9 million through securities sold under agreements to repurchase.
The Bank can also borrow from the Federal Reserve Bank of Philadelphia (“Reserve Bank”) under the primary credit program. Primary credit is available on a short-term basis, typically overnight, at a rate above the Federal Open Market Committee’s Federal funds target rate. All extensions of credit by the Reserve Bank must be secured. At December 31, 2016, the Bank had no borrowings outstanding with the Reserve Bank.

15



Subsidiary Activities
At December 31, 2016, the Bank owned 9 direct subsidiaries:
OceanFirst REIT Holdings, Inc. was established in 2007 as a wholly-owned subsidiary of the Bank and now acts as the holding company for OceanFirst Management Corp, which was organized in 2016 for the purpose of holding and managing investment securities, including the stock of OceanFirst Realty Corp. OceanFirst Realty Corp. was established in 1997 and invests in qualifying mortgage loans and is intended to qualify as a real estate investment trust, which may, among other things, be utilized by the Company to raise capital in the future.
OCHB Preferred Corp. was acquired by the Bank part of its acquisition of Ocean Shore in 2016 and, like OceanFirst Realty Corp., is intended to qualify as a real estate investment trust.
OCHB Investment Corp. was acquired by the Bank as part of its acquisition of Ocean Shore in 2016 and serves to hold and manage investment securities.
975 Holdings, LLC, Hooper Holdings, LLC, and TRREO Holdings, LLC were established in 2010, 2015, and 2016, respectively, as wholly-owned subsidiaries of the Bank. Casaba Real Estate Holding Corporation and Cohensey Bridge, L.L.C. were acquired by the Bank as wholly-owned subsidiaries as part of its acquisition of Cape in 2016. All of these subsidiaries are maintained for the purpose of taking legal possession of certain repossessed collateral for resale to third parties.
OceanFirst Services, LLC is a wholly-owned subsidiary of the Bank that is now the holding company for OFB Reinsurance, Ltd., which was established in 2002 to reinsure a percentage of the private mortgage insurance (“PMI”) risks on one-to-four family residential mortgages originated by the Bank.

Personnel
As of December 31, 2016, the Bank had 675 full-time employees and 122 part-time employees, for a total of 797 employees. The employees are not represented by a collective bargaining unit and the Bank considers its relationship with its employees to be good. From time to time the Bank may operate subsidiaries which may include employees not directly employed in banking activities. As of December 31, 2016, subsidiaries of the Bank had 81 full-time and 23 part-time employees to manage a repossessed commercial property.

REGULATION AND SUPERVISION
General
As a savings and loan holding company, the Company is required by Federal law to file reports with, and comply with the rules and regulations of the FRB. As a Federally-chartered savings bank, the Bank is subject to extensive regulation, examination and supervision by the OCC, as its primary Federal regulator, and the FDIC, as the deposit insurer. The Bank is a member of the Federal Home Loan Bank System and, with respect to deposit insurance, of the Deposit Insurance Fund managed by the FDIC. The Bank must file reports with the OCC and the FDIC concerning its activities and financial condition in addition to obtaining regulatory approvals prior to consummating certain transactions such as mergers with, or acquisitions of, other insured depository institutions. The OCC conducts periodic examinations to test the Bank’s safety and soundness and compliance with various regulatory requirements. This regulation and supervision establishes a comprehensive framework of activities in which an institution can engage and is intended primarily for the protection of the insurance fund and depositors and to ensure the safe and sound operation of the Bank. The regulatory structure also gives the regulatory authorities extensive discretion in connection with their supervisory and enforcement activities and examination policies, including policies with respect to the classification of assets and the establishment of adequate loan loss reserves for regulatory purposes. The description of statutory provisions and regulations applicable to savings institutions and their holding companies set forth in this Form 10-K does not purport to be a complete description of such statutes and regulations and their effects on the Bank and the Company, is subject to change and is qualified in its entirety by reference to the actual laws and regulations involved.
The Dodd-Frank Act. The Dodd-Frank Act significantly changed the bank regulatory structure and affects the lending, deposit, investment, compliance 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 implementing rules and regulations, and to prepare numerous studies and reports for Congress. The Federal agencies are given significant discretion in drafting the implementing rules and regulations, and consequently, many of the details and the full impact of the Dodd-Frank Act are still not yet known. In addition, as a result of the 2016 election, there is some chance that certain provisions of the Dodd-Frank Act may be repealed or amended.

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The Dodd-Frank Act created the CFPB with broad powers to supervise and enforce consumer protection laws. The CFPB has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions, 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. Savings institutions such as the Bank with $10 billion or less in assets will continue to be examined for compliance with the consumer laws by their primary bank regulators (the OCC in the case of the Bank), although the CFPB will have back-up authority over such institutions. The Dodd-Frank Act also weakens the Federal preemption rules that have been applicable for national banks and Federal savings associations, and gives state attorney generals the ability to enforce Federal consumer protection laws.
Additionally, the Dodd-Frank Act includes a series of provisions covering mortgage loan origination standards affecting, among other things, originator compensation, minimum repayment standards and prepayments. The Dodd-Frank Act requires originators to make a reasonable and good faith determination based on documented information that a borrower has a reasonable ability to repay a particular mortgage loan over the long term. If the originator cannot meet this standard, the burden is on the lender to demonstrate the appropriateness of its policies and the strength of its controls. The Dodd-Frank Act contains an exception from this Ability-To-Repay rule for “Qualified Mortgages.” The rule sets forth specific underwriting criteria for a loan to qualify as a Qualified Mortgage. The criteria generally exclude loans that (1) are interest-only, (2) have excessive upfront points or fees, or (3) have negative amortization features, balloon payments, or terms in excess of 30 years. To be defined as an Ability-To-Repay Qualified Mortgage, the underwriting criteria also impose a maximum debt to income ratio of 43%, based upon documented and verifiable information. If a loan meets these criteria and is not a “higher priced loan” as defined in FRB regulations, the CFPB rule establishes a safe harbor preventing a consumer from asserting the failure of the originator to establish the consumer’s Ability-To-Repay. Additionally, conforming fixed-rate loans with a debt-to-income ratio greater than 43% would also qualify as an Ability-To-Repay Qualified Mortgage based upon an automated loan approval from one of the government sponsored mortgage entities. However, a consumer may assert the lender’s failure to comply with the Ability-To-Repay rule for all residential mortgage loans other than Qualified Mortgages, and may challenge a lender's determination that a loan was in fact a Qualified Mortgage. The qualified mortgage rule has yet to be fully addressed by the foreclosure courts and depending on the interpretation of these rules, collectability of non-qualifying mortgages could be subject to future action by the courts. See "Risk Factors – The Dodd-Frank Act imposes obligations on originators of residential mortgage loans, such as the Bank."
The Dodd-Frank Act also directed the FRB to issue rules to limit debit card interchange fees (the fees that issuing banks charge merchants each time a consumer uses a debit card) collected by banks with assets of $10 billion or more. The FRB issued a final rule which caps an issuer’s debit card interchange base fee at twenty-one cents ($0.21) per transaction and allows an additional 5 basis point charge per transaction to cover fraud losses. The FRB also issued an interim final rule that allows a fraud-prevention adjustment of one cent ($0.01) per transaction conditioned upon an issuer adopting effective fraud prevention policies and procedures. The Bank’s average interchange fee per transaction is 39 cents ($0.39). The Dodd-Frank Act exempts from the FRB’s rule banks with assets less than $10 billion, such as the Bank. Although exempt from the rule, market forces in future periods may result in reduced fees charged by all issuers, regardless of asset size, which may result in reduced revenues for the Bank. For the year ended December 31, 2016, the Bank’s revenues from interchange fees was $4.3 million, an increase of $1.2 million from 2015.
The Dodd-Frank Act requires publicly-traded companies to give stockholders a non-binding vote on executive compensation and so-called “golden parachute” payments, and allow greater access by stockholders to the company’s proxy material by authorizing the SEC to promulgate rules that would allow stockholders to nominate their own candidates using a company’s proxy materials. The legislation also directs the Federal banking agencies to promulgate rules prohibiting excessive compensation paid to bank executives, regardless of whether the company is publicly traded. The rules prohibit incentive-based compensation that would encourage inappropriate risks by providing excessive compensation or that would expose the bank to inappropriate risks by providing compensation that could lead to a material financial loss.
It is still uncertain to what extent and how full implementation of and promulgation of rules under the Dodd-Frank Act, will occur and affect the Bank.
Holding Company Regulation
The Company is a nondiversified unitary savings and loan holding company within the meaning of Federal law. Generally, a unitary savings and loan holding company, such as the Company, is not restricted as to the types of business activities in which it may engage, provided that the Bank continues to be a qualified thrift lender (“QTL”). See “Federal Savings Institution Regulation—QTL Test.” The Gramm-Leach-Bliley Act of 1999 provides that no company may acquire control of a savings association unless it engages only in the financial activities permitted for financial holding companies or for multiple savings and loan holding companies as described below. Further, the Gramm-Leach-Bliley Act specifies that existing savings and loan holding companies may only engage in such activities. The Gramm-Leach-Bliley Act, however, grandfathered the unrestricted authority for activities with respect to unitary savings and loan holding companies existing prior to May 4, 1999, such as the Company, so long as the

17


Bank continues to comply with the QTL test. The Company qualifies for the grandfather provision. Upon any non-supervisory acquisition by the Company of another savings institution or savings bank that meets the QTL test and is deemed to be a savings institution, the Company would become a multiple savings and loan holding company (if the acquired institution is held as a separate subsidiary) and would generally be limited to activities permissible for bank holding companies under Section 4(c)(8) of the Bank Holding Company Act.
A savings and loan holding company is prohibited from, directly or indirectly, acquiring more than 5% of the voting stock of another savings institution or savings and loan holding company without prior written approval of the FRB and from acquiring or retaining control of a depository institution that is not insured by the FDIC. In evaluating applications by holding companies to acquire savings institutions, the FRB considers the financial and managerial resources and future prospects of the company and institution involved, the effect of the acquisition on the risk to the deposit insurance funds, the convenience and needs of the community and competitive factors.
Holding Company Capital Requirements. Until recently, savings and loan holding companies were not subject to specific regulatory capital requirements. The Dodd-Frank Act, however, required the Federal Reserve Board to promulgate consolidated capital requirements for depository institution holding companies that are no less stringent, both quantitatively and in terms of components of capital, than those applicable to depository institutions themselves. The Dodd-Frank Act final rule applied consolidated regulatory capital requirements to savings and loan holding companies as of January 1, 2015. As is the case with depository institutions themselves, a capital conservation buffer will be phased in between 2016 and 2019. The Dodd-Frank Act also extended the “source of strength” doctrine to savings and loan holding companies. The Federal Reserve Board has issued regulations requiring that all bank and savings and loan holding companies serve as a source of strength to their subsidiary depository institutions by providing capital, liquidity and other support in times of financial stress.
Dividends. The FRB has issued a policy statement regarding the payment of dividends and the repurchase of shares of common stock by bank holding companies and savings and loan holding companies. In general, the policy provides that dividends should be paid only out of current earnings and only if the prospective rate of earnings retention by the holding company appears consistent with the organization’s capital needs, asset quality and overall financial condition. Regulatory guidance provides for prior regulatory review of capital distributions in certain circumstances such as where the Company’s net income for the past four quarters, net of dividends previously paid over that period is insufficient to fully fund the dividend or the Company’s overall rate of earnings retention is inconsistent with the Company’s capital needs and overall financial condition. The ability of a holding company to pay dividends may be restricted if a subsidiary bank becomes undercapitalized. The policy statement also states that a holding company should inform the FRB supervisory staff prior to redeeming or repurchasing common stock or perpetual preferred stock if the holding company is experiencing financial weaknesses or if the repurchase or redemption would result in a net reduction, as of the end of the quarter, in the amount of such instruments outstanding compared with the beginning of the quarter in which the redemption or repurchase occurred. These regulatory policies may affect the ability of the Company to pay dividends, repurchase shares of common stock or otherwise engage in capital distributions.
Acquisition of the Company. Under the Federal Change in Bank Control Act (“CBCA”) and applicable regulations, a notice must be submitted to the FRB if any person (including a company), or group acting in concert, seeks to acquire 10% or more of the Company’s outstanding voting stock, unless the FRB has found that the acquisition will not result in a change of control of the Company. Under CBCA, the FRB has 60 days from the filing of a complete notice to act, taking into consideration certain factors, including the financial and managerial resources of the acquirer and the anti-trust effects of the acquisition. Any company that so acquires control would then be subject to regulation as a savings and loan holding company.
Federal Savings Institution Regulation
Business Activities. The activities of Federal savings institutions are governed by Federal law and regulations. These laws and regulations delineate the nature and extent of the activities in which Federal savings banks may engage. In particular, many types of lending authority for Federal savings banks, e.g., commercial, non-residential real property loans and consumer loans, are limited to a specified percentage of the institution’s capital or assets.
Capital Requirements. FDIC regulations require banks to maintain minimum levels of capital including: a common equity Tier 1 capital to risk-based assets ratio of 4.5%, a Tier 1 capital to risk-based assets ratio of 6.0%, a total capital to risk-based assets of 8%, and a 4% Tier 1 capital to total assets leverage ratio. These capital requirements were effective January 1, 2015 and are the result of a final rule implementing regulatory amendments based on recommendations of the Basel Committee on Banking Supervision and certain requirements of the Dodd-Frank Act.

As noted, the risk-based capital standards for banks require the maintenance of common equity Tier 1 capital, Tier 1 capital and total capital to risk-weighted assets of at least 4.5%, 6%, and 8%, respectively. In determining the amount of risk-weighted assets, all assets, including certain off-balance sheet assets (e.g., recourse obligations, direct credit substitutes, residual interests) are

18


multiplied by a risk weight factor assigned by the regulations based on the risks believed inherent in the type of asset. Higher levels of capital are required for asset categories believed to present greater risk. Common equity Tier 1 capital is generally defined as common stockholders’ equity and retained earnings. Tier 1 capital is generally defined as common equity Tier 1 and additional Tier 1 capital. Additional Tier 1 capital includes certain noncumulative perpetual preferred stock and related surplus and minority interests in equity accounts of consolidated subsidiaries. Total capital includes Tier 1 capital (common equity Tier 1 capital plus additional Tier 1 capital) and Tier 2 capital. Tier 2 capital is comprised of capital instruments and related surplus, meeting specified requirements, and may include cumulative preferred stock and long-term perpetual preferred stock, mandatory convertible securities, intermediate preferred stock and subordinated debt. Also included in Tier 2 capital is the allowance for loan and lease losses limited to a maximum of 1.25% of risk-weighted assets. Unrealized gains and losses on certain “available-for-sale” securities are included for purposes of calculating regulatory capital unless a one-time opt-out is exercised. The Bank has exercised the opt-out. Calculation of all types of regulatory capital is subject to deductions and adjustments specified in the regulations. In assessing an institution’s capital adequacy, the FDIC takes into consideration, not only these numeric factors, but qualitative factors as well, and has the authority to establish higher capital requirements for individual banks where necessary.
In addition to establishing the minimum regulatory capital requirements, the regulations limit capital distributions and certain discretionary bonus payments to management if the institution does not hold a “capital conservation buffer” consisting of 2.5% of common equity Tier 1 capital to risk-weighted assets above the amount necessary to meet its minimum risk-based capital requirements. The capital conservation buffer requirement is being phased in over four years beginning January 1, 2016. The capital conservation buffer requirement is being phased in incrementally, starting at 0.625% on January 1, 2016, and increasing to 1.25% on January 1, 2017, 1.875% on January 1, 2018, and 2.50% on January 1, 2019, when the full capital conservation buffer requirement will be effective. Both the Bank and the Company are in compliance with the capital conservation buffer requirements applicable to them.
The Federal banking agencies, including the FDIC, have also adopted regulations to require an assessment of an institution’s exposure to declines in the economic value of a bank’s capital due to changes in interest rates when assessing the bank’s capital adequacy. Under such a risk assessment, examiners evaluate a bank’s capital for interest rate risk on a case-by-case basis, with consideration of both quantitative and qualitative factors. Institutions with significant interest rate risk may be required to hold additional capital. According to the Federal banking agencies, applicable considerations include: quality of the bank’s interest rate risk management process; the overall financial condition of the bank; and the level of other risks at the bank for which capital is needed.
The following table presents the Bank’s capital position at December 31, 2016. The Bank exceeded all of its capital requirements at that date.
 
 
 
 
 
 
 
 
Capital
 
As of December 31, 2016
 
Actual
Capital
 
Required
Capital
 
Excess
Amount
 
Actual
Percent
 
Required
Percent
 
Bank:
 
(dollars in thousands)
 
 
 
 
 
Tier 1 capital (to average assets)
 
$
445,576

 
$
176,856

 
$
268,720

 
10.08
%
(2)
4.000
%
 
Common equity Tier 1 (to risk-weighted assets)
 
445,576

 
180,178

 
$
265,398

 
12.67

 
5.125

(1)
Tier 1 capital (to risk-weighted assets)
 
445,576

 
232,913

 
$
212,663

 
12.67

 
6.625

(1)
Total capital (to risk-weighted assets)
 
461,386

 
303,227

 
$
158,159

 
13.12

 
8.625

(1)
(1) Includes the Capital Conservation Buffer of 0.625%
(2) Tier 1 capital ratios are calculated based on outstanding capital at the end of the quarter divided by average assets for the quarter. The average assets for the fourth quarter exclude the assets acquired from Ocean Shore for the period from October 1, 2016 through November 30, 2016. The Tier 1 capital ratio for the Bank based on total assets as of the end of the period is 8.75%.

Prompt Corrective Action. Federal law requires, among other things, that the Federal bank regulatory authorities take “prompt corrective action” with respect to institutions that do not meet minimum capital requirements. For these purposes, the law establishes five categories: well capitalized, adequately capitalized, undercapitalized, significantly undercapitalized and critically undercapitalized. The FDIC’s regulations define the five categories as follows:
An institution is classified as “well capitalized” if:
its ratio of Tier 1 capital to total assets is at least 5%, and it is not subject to any order or directive by the FDIC to meet a specific capital level; and
its ratio of common equity tier 1 capital to risk-weighted assets is at least 6.5%; and
its ratio to Tier 1 capital to risk-weighted assets is at least 8%; and
its ratio of total capital to risk-weighted assets is at least 10%.

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An institution is classified as “adequately capitalized” if:
its ratio of Tier 1 capital to total assets is at least 4%; and
its ratio of common equity tier 1 capital to risk-weighted assets is at least 4.5%; and
its ratio to Tier 1 capital to risk-weighted assets is at least 6%; and
its ratio of total capital to risk-weighted assets is at least 8%.
An institution is classified as “undercapitalized” if:
its leverage ratio is less than 4%; and
its ratio of common equity tier 1 capital to risk-weighted assets is less than 4.5%; and
its ratio to Tier 1 risk based capital is at less than 6%; and
its ratio of total capital to risk-weighted assets is at least 8%.
An institution is classified as “significantly undercapitalized” if:
its leverage ratio is less than 3%; or
its ratio of common equity tier 1 capital to risk-weighted assets is less than 3.0%; or
its ratio to Tier 1 risk based capital is at less than 4%; or
its total risk-based capital is less than 6%.
An institution that has a tangible capital to total assets ratio equal to or less than 2% is deemed to be “critically undercapitalized.”
The FDIC is required, with some exceptions, to appoint a receiver or conservator for an insured bank if that bank is “critically undercapitalized.” The FDIC may also appoint a conservator or receiver for a state bank on the basis of the institution’s financial condition or upon the occurrence of certain events, including:
insolvency, or when the assets of the bank are less than its liabilities to depositors and others;
substantial dissipation of assets or earnings through violations of law or unsafe or unsound practices;
existence of an unsafe or unsound condition to transact business;
likelihood that the bank will be unable to meet the demands of its depositors or to pay its obligations in the normal course of business; and
insufficient capital, or the incurring or likely incurring of losses that will deplete substantially all of the institution’s capital with no reasonable prospect of replenishment of capital without Federal assistance.
Based on the regulatory guidelines, the Bank meets the requirements to be classified as “well-capitalized.”

Insurance of Deposit Accounts. Deposit accounts at the Bank are insured by the Deposit Insurance Fund (“DIF”) of the FDIC. The Bank is therefore subject to FDIC deposit insurance assessments which are determined using a risk-based system.
In 2011 the FDIC approved a final rule, required by Dodd-Frank, that changed the assessment base from domestic deposits to average assets minus average tangible equity, adopted a new large-bank pricing assessment scheme, and set a target size for the DIF. The rule finalized a target size for the DIF at 2% of insured deposits. It also implemented a lower assessment rate schedule when the fund reaches 1.15% (so that the average rate over time should be about 8.5 basis points) and, in lieu of dividends, provided for a lower rate schedule when the reserve ratio reaches 2% and 2.5%. The rule lowered overall assessment rates in order to generate the same approximate amount of revenue under the new larger base as was raised under the old base. The assessment rates in total are between 2.5 and 9 basis points on the broader base for banks in the lowest risk category, and 30 to 45 basis points for banks in the highest risk category. Deposit accounts are insured by the FDIC generally up to a maximum of $250,000 per separately insured depositor.
The FDIC may terminate the insurance of an institution’s deposits upon a finding that the institution has engaged in unsafe or unsound practices, is in an unsafe or unsound condition to continue operations or has violated any applicable law, regulation, rule, order or condition imposed by the FDIC. The management of the Bank does not know of any practice, condition or violation that might lead to termination of deposit insurance.
In addition to the FDIC assessments, the Financing Corporation, formed in the 1980s to recapitalize the former Federal Savings and Loan Insurance Corporation, is authorized to impose and collect, through the FDIC, assessments for anticipated payments, issuance costs and custodial fees on bonds issued by the Financing Corporation. The bonds issued by the Financing Corporation are due to mature in 2017 through 2019.
The total expense incurred in 2016 and 2015 for the deposit insurance assessment and the Financing Corporation payments was $2.2 million and $1.6 million, respectively.


20


Loans to One Borrower. Federal law provides that savings institutions are generally subject to the limits on loans to one borrower applicable to national banks. Subject to certain exceptions, a savings institution may not make a loan or extend credit to a single or related group of borrowers in excess of 15% of its unimpaired capital and surplus. An additional amount may be lent, equal to 10% of unimpaired capital and surplus, if secured by specified readily-marketable collateral. At December 31, 2016, the Bank’s limit on loans to one borrower was $66.8 million and the largest loan exposure to a single borrower was $22.3 million.
Qualified Thrift Lender Test. The Home Owners Loan Act requires savings institutions to meet a qualified thrift lender test. Under the test, a savings institution is required to either qualify as a “domestic building and loan association” under the Internal Revenue Code or maintain at least 65% of its “portfolio assets” (total assets less: (1) specified liquid assets up to 20% of total assets; (2) intangibles, including goodwill; and (3) the value of property used to conduct business) in certain “qualified thrift investments” (primarily residential mortgages and related investments, including certain mortgage-backed securities) in at least nine months out of each 12 month period. Additionally, education loans, credit card loans and small business loans may be considered “qualified thrift investments.”
A savings institution that fails the qualified thrift lender test is subject to certain operating restrictions and may be required to convert to a bank charter. As of December 31, 2016, the Bank met the qualified thrift lender test with a ratio of qualified thrift investments to portfolio assets of 70.6%. See “Risk Factors. The Bank is required to maintain a significant percentage of total assets in residential mortgage loans and investments secured by residential mortgage loans, which restricts the ability to diversify the loan portfolio.”
Limitation on Capital Distributions. Applicable regulations impose limitations upon all capital distributions by a savings institution, including cash dividends, payments to repurchase its shares and payments to stockholders of another institution in a cash-out merger. Under the regulations, an application to and the approval of the OCC, is required prior to any capital distribution if the institution does not meet the criteria for “expedited treatment” of applications under the regulations (i.e., generally, examination ratings in the two top categories), the total capital distributions for the calendar year exceed net income for that year plus the amount of retained net income for the preceding two years, the institution would be undercapitalized following the distribution or the distribution would otherwise be contrary to a statute, regulation or agreement with the OCC. If an application is not required, the institution must still provide prior notice to the FRB of the capital distribution if, like the Bank, it is a subsidiary of a holding company. In the event the Bank’s capital fell below its regulatory requirements or the FRB or OCC notified it that it was in need of more than normal supervision, the Bank’s ability to make capital distributions could be restricted. In addition, the FRB or OCC could prohibit a proposed capital distribution by any institution, which would otherwise be permitted by the regulation, if the FRB or OCC determine that such distribution would constitute an unsafe or unsound practice. If the FRB or OCC objects to the Bank’s notice to pay a dividend to the Company, the Company may not have the liquidity necessary to pay a dividend in the future, pay a dividend at the same rate as historically paid, be able to repurchase stock, or to meet current debt obligations. In addition, capital requirements made applicable to the Company as a result of the Dodd-Frank Act and Basel III may limit the Company’s ability to pay dividends or repurchase stock in the future.
Assessments. Savings institutions are required to pay assessments to fund regulatory operations. The assessments, paid on a semi-annual basis, are based upon the institution’s total assets, including consolidated subsidiaries as reported in the Bank’s latest quarterly regulatory report, as well as the institution’s regulatory rating and complexity component. The assessments paid by the Bank for the years ended December 31, 2016 and 2015 totaled $623,000 and $477,000, respectively.
Transactions with Related Parties. The Bank’s authority to engage in transactions with “affiliates” (e.g., any company that controls or is under common control with an institution, including the Company and its non-savings institution subsidiaries) is limited by Federal law. The aggregate amount of covered transactions with any individual affiliate is limited to 10% of the capital and surplus of the savings institution. The aggregate amount of covered transactions with all affiliates is limited to 20% of the savings institution’s capital and surplus. Certain transactions with affiliates are required to be secured by collateral in an amount and of a type described in Federal law. The purchase of low quality assets from affiliates is generally prohibited. The transactions with affiliates must be on terms and under circumstances, that are at least as favorable to the institution as those prevailing at the time for comparable transactions with non-affiliated companies. In addition, savings institutions are prohibited from lending to any affiliate that is engaged in activities that are not permissible for bank holding companies and no savings institution may purchase the securities of any affiliate other than a subsidiary.
Federal Home Loan Bank System
The Bank is a member of the Federal Home Loan Bank System, which consists of 12 regional FHLBs. Each FHLB provides member institutions with a central credit facility. The Bank, as a member of the FHLB-NY is required to acquire and hold shares of capital stock in that FHLB in an amount at least equal to 0.20% of mortgage-related assets and 4.5% of the specified value of certain transactions with the FHLB. The Bank was in compliance with this requirement with an investment in FHLB-NY stock at December 31, 2016 of $19.3 million.

21


Federal Reserve System
The Federal Reserve Board regulations require depository institutions to maintain reserves against their transaction accounts (primarily interest-bearing checking and regular checking accounts). The regulations generally provide that reserves be maintained against aggregate transaction accounts as follows: a 3% reserve ratio is assessed on net transaction accounts up to and including $110.2 million; a 10% reserve ratio is applied above $110.2 million. The first $15.2 million of otherwise reservable balances (subject to adjustments by the FRB) are exempt from the reserve requirements. The amounts are adjusted annually. The Bank complies with the foregoing requirements. For 2017, the FRB has set the 3% reserve limit at $115.1 million and the exemption at $15.5 million.

FEDERAL AND STATE TAXATION
Federal Taxation
General. The Company and the Bank report their income on a calendar year basis using the accrual method of accounting, and are subject to Federal income taxation in the same manner as other corporations with some exceptions, including particularly the Bank’s reserve for bad debts. The following discussion of tax matters is intended only as a summary and does not purport to be a comprehensive description of the tax rules applicable to the Bank or the Company. The Bank has not been audited by the IRS in over 10 years. For its 2016 taxable year, the Bank is subject to a maximum Federal income tax rate of 35%.
Corporate Alternative Minimum Tax. The Internal Revenue Code of 1986, as amended (the “Code”) imposes a tax on alternative minimum taxable income (“AMTI”) at a rate of 20%. Only 90% of AMTI can be offset by net operating loss carryovers. AMTI is increased by an amount equal to 75% of the amount by which the Bank’s adjusted current earnings exceeds its AMTI (determined without regard to this preference and prior to reduction for net operating losses). The Bank does not expect to be subject to the AMTI.
Dividends Received Deduction and Other Matters. The Company may exclude from its income 100% of dividends received from the Bank as a member of the same affiliated group of corporations. The corporate dividends received deduction is generally 70% in the case of dividends received from unaffiliated corporations with which the Company and the Bank will not file a consolidated tax return, except that if the Company or the Bank own more than 20% of the stock of a corporation distributing a dividend then 80% of any dividends received may be deducted.
State and Local Taxation
New Jersey Taxation. The Bank files New Jersey income tax returns. For New Jersey income tax purposes, the Bank is subject to a tax rate of 9% of taxable income. For this purpose, “taxable income” generally means Federal taxable income, subject to certain adjustments (including addition of interest income on state and municipal obligations).
The Company is required to file a New Jersey income tax return because it does business in New Jersey. For New Jersey tax purposes, regular corporations are presently taxed at a rate equal to 9% of taxable income. However, if the Company meets certain requirements, it may be eligible to elect to be taxed as a New Jersey Investment Company at a tax rate presently equal to 3.60% (40% of 9%) of taxable income.
OceanFirst REIT Holdings, Inc. files a New Jersey income tax return and qualifies as a New Jersey Investment Company which is taxed at a rate presently equal to 3.60% of taxable income.
New York Taxation. Due to an increase in loan activity both organically and through acquisition, the Bank is required to file a New York State and MTA tax return. The New York return requires consolidation of all entities, including OceanFirst Realty, and New York taxable income, consistent with other states, generally means Federal taxable income subject to certain adjustments. The allocation and apportionment of taxable income to New York state may positively effect the overall tax rate.
Delaware Taxation. As a Delaware holding company not earning income in Delaware, the Company is exempted from Delaware corporate income tax but is required to file an annual report with and pay an annual franchise tax to the State of Delaware.
Item 1A.
Risk Factors
An investment in the Company's common stock involves risks. Stockholders should carefully consider the risks described below, together with other information contained in this Annual Report on Form 10-K, before making any purchase or sale decisions regarding the Company's common stock. If any of the following risks actually occur, the Company's financial condition or operating results may be harmed. In that case, the trading price of the Company's common stock may decline, and stockholders may lose part or all of their investment in the Company's common stock.

22


A downturn in the local economy or in local real estate values could adversely impact profits. Most of the Bank’s loans are secured by real estate and are made to borrowers in Central and Southern New Jersey and the surrounding areas. A downturn in the local economy or a decline in real estate values could increase the amount of non-performing loans and cause residential and commercial mortgage loans to become inadequately collateralized, which could expose the Bank to a greater risk of loss.
Hurricanes and other natural disasters, climate change or increases to flood insurance premiums could adversely affect asset quality and earnings. The Bank’s trade area includes counties in New Jersey with extensive coastal regions. These areas may be vulnerable to flooding or other damage from future storms or hurricanes. This damage may be as bad as, or worse than, that suffered during Superstorm Sandy in 2012. Further storms like this, although rare, could negatively impact the Company’s results of operations by disrupting operations, adversely impacting the ability of the Company’s borrowers to repay their loans, damaging collateral or reducing the value of real estate used as collateral.
Increased emphasis on commercial lending may expose the Bank to increased lending risks. At December 31, 2016, $1.8 billion, or 47.6%, of the Bank’s total loans consisted of commercial real estate, multi-family and land loans, and commercial and industrial loans. This portfolio has grown in recent years and the Bank intends to continue to emphasize these types of lending. These types of loans may expose a lender to greater risk of non-payment and loss than one-to-four family residential mortgage loans because repayment of the loans often depends on the successful operation of the property and the income stream of the borrowers. Such loans typically involve larger loan balances to single borrowers or groups of related borrowers compared to one-to-four family residential mortgage loans.
The long foreclosure timeline in New Jersey continues to adversely impact the Bank’s recoveries on non-performing loans. The Judicial foreclosure process in New Jersey is protracted, which delays the Company’s ability to resolve non-performing loans through the sale of the underlying collateral. The longer timelines were the result of the economic crisis, additional consumer protection initiatives related to the foreclosure process, increased documentary requirements and judicial scrutiny, and, both voluntary and mandatory programs under which lenders may consider loan modifications or other alternatives to foreclosure. These reasons, historical issues at the largest mortgage loan servicers, and the legal and regulatory responses have impacted the foreclosure process and completion time of foreclosures for residential mortgage lenders, which may result in a material adverse effect on collateral values and the Bank’s ability to minimize its losses.
The Company has grown and may continue to grow through acquisitions. To be successful as a larger institution, the Company must successfully integrate the operations and retain the customers of acquired institutions, attract and retain the management required to successfully manage larger operations, and control costs. Since July 31, 2015, the Company has acquired Colonial, Cape and Ocean Shore.
Future results of operations will depend in large part on the Company’s ability to successfully integrate the operations of the acquired institutions and retain the customers of those institutions. If the Company is unable to successfully manage the integration of the separate cultures, customer bases and operating systems of the acquired institutions, and any other institutions that may be acquired in the future, the Company’s results of operations may be adversely affected.
In addition, to successfully manage substantial growth, the Company may need to increase non-interest expenses through additional personnel, leasehold and data processing costs, among others. In order to successfully manage growth, the Company may need to adopt and effectively implement policies, procedures and controls to maintain credit quality, control costs and oversee the Company’s operations. No assurance can be given that the Company will be successful in this strategy.
The Company may be challenged to successfully manage its business as a result of the strain on management and operations that may result from growth. The ability to manage growth will depend on its ability to continue to attract, hire and retain skilled employees. Success will also depend on the ability of officers and key employees to continue to implement and improve operational and other systems, to manage multiple, concurrent customer relationships and to hire, train and manage employees.
Finally, substantial growth may stress regulatory capital levels, and may require the Company to raise additional capital. No assurance can be given that the Company will be able to raise any required capital, or that it will be able to raise capital on terms that are beneficial to stockholders.
Future acquisition activity could dilute tangible book value. Both nationally and locally, the banking industry is undergoing consolidation marked by numerous mergers and acquisitions. From time to time the Company may be presented with opportunities to acquire institutions and/or bank branches which result in discussions and negotiations. Acquisitions typically involve the payment of a premium over book and trading values, and therefore, may result in the dilution of tangible book value per share.
The Dodd-Frank Act imposes obligations on originators of residential mortgage loans, such as the Bank. Among other things, the Dodd-Frank Act requires originators to make a reasonable and good faith determination based on documented information that a borrower has a reasonable ability to repay a particular mortgage loan over the long term. If the originator cannot meet this standard,

23


the burden is on the lender to demonstrate the appropriateness of its policies and the strength of its controls. The Dodd-Frank Act contains an exception from this Ability-To-Repay rule for “Qualified Mortgages.” The rule sets forth specific underwriting criteria for a loan to qualify as a Qualified Mortgage. If a loan meets these criteria and is not a “higher priced loan” as defined in FRB regulations, the CFPB rule establishes a safe harbor preventing a consumer from asserting the failure of the originator to establish the consumer’s Ability-To-Repay. Additionally, conforming fixed-rate loans with a debt-to-income ratio greater than 43% would also qualify as an Ability-To-Repay Qualified Mortgage based upon an automated loan approval from one of the government sponsored mortgage entities. However, a consumer may assert the lender’s failure to comply with the Ability-To-Repay rule for all residential mortgage loans other than Qualified Mortgages, and may challenge whether a loan actually met the criteria to be deemed an Ability-to-Pay Qualified Mortgage. These challenges have yet to be addressed by the courts.
Although the majority of residential mortgages historically originated by the Bank would be considered Qualified Mortgages, the Bank currently originates residential mortgage loans that do not qualify. As a result of the Ability-to-Repay rules, the Bank may experience loan losses, litigation related expenses and delays in taking title to real estate collateral in a foreclosure proceeding if these loans do not perform and borrowers challenge whether the Bank satisfied the Ability-To-Repay rule upon originating the loan.
The Bank’s allowance for loan losses may be inadequate, which could hurt the Company’s earnings. The Bank’s allowance for loan losses may prove to be inadequate to cover actual loan losses and if the Bank is required to increase its allowance, current earnings may be reduced. The Bank provides for losses by reserving what it believes to be an adequate amount to absorb any probable incurred losses. A “charge-off” reduces the Bank’s reserve for possible loan losses. If the Bank’s reserves were insufficient, it would be required to record a larger reserve, which would reduce earnings for that period.
Changes in interest rates could adversely affect results of operations and financial condition. The Bank’s ability to make a profit largely depends on net interest income, which could be negatively affected by changes in interest rates. The interest income earned on interest-earning assets and the interest expense paid on interest-bearing liabilities are generally fixed for a contractual period of time. Interest-bearing liabilities generally have shorter contractual maturities than interest-earning assets. This imbalance can create significant earnings volatility, because market interest rates change over time. In a period of rising interest rates, the interest income earned on interest-earning assets may not increase as rapidly as the interest paid on interest-bearing liabilities.
In addition, changes in interest rates can affect the average life of loans and mortgage-backed securities. A reduction in interest rates causes increased prepayments of loans and mortgage-backed securities as borrowers refinance their debt to reduce their borrowing costs. This creates reinvestment risk, which is the risk that the Bank may not be able to reinvest the funds from faster prepayments at rates that are comparable to the rates earned on the prepaid loans or mortgage-backed securities. Conversely, an increase in interest rates generally reduces prepayments. Additionally, increases in interest rates may decrease loan demand and/or make it more difficult for borrowers to repay adjustable-rate loans.
Changes in interest rates also affect the current estimated fair value of the interest-earning securities portfolio. Generally, the value of securities moves inversely with changes in interest rates. Unrealized net losses on securities available-for-sale are reported as a separate component of equity. To the extent interest rates increase and the value of the available-for-sale portfolio decreases, stockholders’ equity will be adversely affected.
Changes in the estimated fair value of securities may reduce stockholders’ equity and net income. At December 31, 2016, the Company maintained a securities portfolio of $610.9 million, of which $12.2 million was classified as available-for-sale. The estimated fair value of the available-for-sale securities portfolio may increase or decrease depending on the credit quality of the underlying issuer, market liquidity, changes in interest rates and other factors. Stockholders’ equity is increased or decreased by the amount of the change in the unrealized gain or loss (difference between the estimated fair value and the amortized cost) of the available-for-sale securities portfolio, net of the related tax expense or benefit, under the category of accumulated other comprehensive income (loss). Therefore, a decline in the estimated fair value of this portfolio will result in a decline in reported stockholders’ equity, as well as book value per common share. The decrease will occur even though the securities are not sold.
The Company conducts a periodic review and evaluation of the complete securities portfolio to determine if the decline in the estimated fair value of any security below its cost basis is other-than-temporary. Factors which are considered in the analysis include, but are not limited to, the severity and duration of the decline in estimated fair value of the security, the financial condition and near-term prospects of the issuer, whether the decline appears to be related to issuer conditions or general market or industry conditions, the intent and ability to retain the security for a period of time sufficient to allow for any anticipated recovery in fair value and the likelihood of any near-term fair value recovery. If such decline is deemed to be other-than-temporary, the security is written down to a new cost basis and the resulting loss is charged to earnings as a component of non-interest income.
At December 31, 2016 the securities portfolio included corporate debt securities issued by national and regional banks in an unrealized loss position for greater than one year. The portfolio consisted of ten $5.0 million issues and two $2.5 million issues spread among eight issuers. At December 31, 2016, the securities in a loss position had a book value of $55.0 million and an

24


estimated fair value of $49.1 million. At December 31, 2016, the Company determined that no other-than-temporary charge was required. However, the Company may be required to recognize an other-than-temporary impairment charge related to these securities if circumstances change.
The Bank may be required to repurchase mortgage loans for a breach of representations and warranties, which could harm the Company’s earnings. The Company has entered into loan sale agreements with investors in the normal course of business. The loan sale agreements generally require the repurchase of certain loans previously sold in the event of a violation of various representations and warranties customary to the mortgage banking industry. FNMA, FHLMC and investors carefully examine loan documentation on delinquent loans for a possible reason to request a repurchase by the loan originator. A subsequent sale of the repurchased mortgage loan or underlying collateral could typically be at a significant discount to the unpaid principal balance. The Company maintains a reserve for repurchased loans, however, if repurchase activity is greater than anticipated, the reserve may need to be increased to cover actual losses which could harm future earnings.
The Company and the Bank operate in a highly regulated environment and may be adversely affected by changes in laws and regulations. The Company is subject to examination and regulation by the FRB. The Bank is subject to extensive regulation, supervision and examination by the OCC, its primary Federal regulator, and by the FDIC, as insurer of deposits. Such regulation and supervision governs the activities in which an institution and its holding company may engage. Regulatory authorities have extensive discretion in their supervisory and enforcement activities, including the imposition of restrictions on operations, the classification of assets and determination of the level of the allowance for loan losses. The laws and regulations that govern the Company and the Bank’s operations are designed for the protection of depositors and the public, but not the Company’s stockholders.
In July of 2010, the Dodd-Frank Act was enacted. The Dodd-Frank Act is a broad legislative initiative that is significantly changing the bank regulatory structure and affecting the operating activities of financial institutions and their holding companies. In addition, the Dodd-Frank Act created the CFPB with broad powers to supervise and enforce consumer protection laws. The CFPB has broad rule-making authority for a wide range of consumer protection laws that apply to all banks and savings institutions, including the authority to prohibit “unfair, deceptive or abusive” acts and practices.
The Dodd-Frank Act also directed the FRB to issue rules to limit debit-card interchange fees, (the fees that issuing banks charge merchants each time a consumer uses a debit card) collected by banks with assets of $10 billion or more. Although the Bank is exempt from this rule, market forces in future periods, may result in reduced fees charged by all issuers, regardless of asset size, which may result in reduced revenues for the Bank. For the year ended December 31, 2016, the Bank’s revenues from interchange fees were $4.3 million, an increase of $1.2 million from 2015. See “Regulation and Supervision, General, The Dodd-Frank Act.”
In July 2013 the FDIC and the other Federal bank regulatory agencies issued a final rule that revised their leverage and risk-based capital requirements and the method for calculating risk-weighted assets to make them consistent with agreements that were reached by the Basel Committee on Banking Supervision and certain provisions of the Dodd-Frank Act. See “Regulation and Supervision, General, The Dodd-Frank Act”.
The USA Patriot and Bank Secrecy Acts require financial institutions to develop programs to prevent financial institutions from being used for money laundering, terrorist financing and other illicit activities. If such activities are detected, financial institutions are obligated to file suspicious activity reports with the U.S. Treasury’s Office of Financial Crimes Enforcement Network. These rules require financial institutions to establish procedures for identifying and verifying the identity of customers seeking to open new financial accounts. Failure to comply with these regulations could result in fines or sanctions. Although the Bank has developed policies and procedures designated to comply with these laws and regulations, these policies and procedures may not be totally effective in preventing violations of these laws and regulations.
These provisions, as well as any other aspects of current or proposed regulatory or legislative changes to laws applicable to the financial industry, may impact the profitability of the Company’s business activities and may change certain business practices, including the ability to offer new products, obtain financing, attract deposits, make loans and achieve satisfactory interest spreads, and could expose the Company to additional costs, including increased compliance costs. These changes also may require the Company to invest significant management attention and resources to make any necessary changes to operations in order to comply, and could therefore also materially and adversely affect the Company’s business, financial condition and results of operations.
There is no guaranty that the Company will be able to continue to pay a dividend or, if continued, will be able to pay a dividend at the current rate. The Board of Directors of the Company determines at its discretion if, when and the amount of dividends that may be paid on the common stock. In making such determination under the Company’s capital management plan, the Board of Directors takes into account various factors including economic conditions, earnings, liquidity needs, the financial condition of the Company, applicable state law, regulatory requirements and other factors deemed relevant by the Board of Directors. Although the Company has a history of paying a quarterly dividend on its common stock, there is no guaranty that such dividends will continue to be paid in the future or at what rate.

25


Competition from other banks, financial institutions, government-sponsored entities and emerging technological providers in originating loans, attracting deposits and providing various financial services may adversely affect profitability and liquidity. The Company has substantial competition in originating loans, both commercial and consumer, in its market area. This competition comes principally from other banks, savings institutions, mortgage banking companies and other lenders. Many of these competitors enjoy advantages, including greater financial resources and access to capital, stronger regulatory ratios and higher lending limits, a wider geographic presence, more accessible branch office locations, the ability to offer a wider array of services or more favorable pricing alternatives, as well as lower origination and operating costs. In addition, rapid technological changes and consumer preferences may result in increased competition for the Bank’ services. Increased competition could reduce the Company’s net income by decreasing the number and size of loans that the Bank originates and the interest rates charged on these loans, or reducing the Bank’s ability to attract deposits.
In attracting consumer, business and public fund deposits, the Company faces substantial competition from other insured depository institutions such as banks, savings institutions and credit unions, as well as institutions offering uninsured investment alternatives, including money market funds. Many of its competitors enjoy advantages, including greater financial resources and access to capital, stronger regulatory ratios, stronger asset quality and performance, more aggressive marketing campaigns, better brand recognition and more branch locations. These competitors may offer higher interest rates than the Company, which could decrease the deposits that the Company attracts or require the Company to increase its rates to retain existing deposits or attract new deposits. Increased deposit competition could adversely affect the Company’s ability to generate the funds necessary for lending operations. As a result, the Company may need to seek other sources of funds that may be more expensive to obtain which could increase the cost of funds. Public fund deposits from local government entities such as counties, townships, school districts and other municipalities generally have higher average balances and the Bank’s inability to retain such funds could adversely affect liquidity or result in the use of higher-cost funding sources.
Over the past few years, the FRB has been a consistently large purchaser of U.S. Treasury and GSE-backed mortgage-backed securities. The Bank has also faced increased competition for mortgage loans due to the unprecedented involvement of the GSEs in the mortgage market as a result of the economic crisis. The actions of the FRB and the GSEs have caused the interest rate for 30-year fixed-rate mortgage loans that conform to GSE guidelines to remain artificially low. As a result of these factors, it may be difficult for the Bank to originate mortgage loans and grow the residential mortgage loan portfolio, which could have a materially adverse impact on the Bank’s earnings.
The Company’s inability to tailor its retail delivery model to respond to consumer preferences in banking may negatively affect earnings. The Bank has expanded its market presence through de novo branching and acquisitions . The branch continues to be a very significant source of new business generation, however, consumers continue to migrate much of their routine banking to self-service channels. In recognition of this shift in consumer patterns, the Bank has undertaken a comprehensive review of its branch network, resulting in branch consolidation accompanied by the enhancement of the Bank’s capabilities to serve its customers through channels other than branches. The benefits of this strategy are dependent on the Bank's ability to realize expected expense reductions without experiencing significant customer attrition.
The Company must continue to attract and retain qualified personnel and maintain cost controls and asset quality. The Company’s ability to manage growth successfully will depend on its ability to continue to attract and retain management and loan officers experienced in banking and financial services and familiar with the communities in its market area. The unexpected loss of service of any key management personnel, or the inability to recruit and retain qualified personnel in the future, could adversely affect the Company. If the Company grows too quickly and is not able to attract qualified personnel and maintain cost controls and asset quality, this continued growth could adversely affect the Company.
Risks associated with system failures, interruptions, or breaches of security could disrupt businesses, result in the disclosure of confidential information, damage the reputation of, and create significant financial and legal exposure for the Company. Information technology systems are critical to the Company’s business. Various systems are used to manage customer relationships, including deposits and loans, general ledger and securities investments.
Although the Company devotes significant resources to maintain and regularly upgrade its systems and processes that are designed to protect the security of the Company’s computer systems, software, networks and other technology assets and the confidentiality, integrity and availability of information belonging to the Company and its customers, there is no assurance that all of the Company’s security measures will provide absolute security. This risk is evidenced by recent events where financial institutions and companies engaged in data processing have reported breaches in the security of their websites or other systems, some of which have involved sophisticated and targeted attacks intended to obtain unauthorized access to confidential information, destroy data, disrupt or degrade service, sabotage systems or cause other damage, often through the introduction of computer viruses or malware, cyberattacks, ransomware and other means. Additionally, there is the risk of distributed denial-of-service attacks from technically sophisticated and well-resourced third parties which are intended to disrupt online services, as well as data breaches due to cyberattacks which result in unauthorized access to customer data. Despite the Company’s efforts to ensure the integrity of its

26


systems, it is possible that the Company may not be able to anticipate or to implement effective preventive measures against all security breaches of these types, especially because the techniques used change frequently or are not recognized until launched, and because cyberattacks can originate from a wide variety of sources, including third parties outside the Company such as persons who are involved with organized crime or associated with external service providers or who may be linked to terrorist organizations or hostile foreign governments. Those parties may also attempt to fraudulently induce employees, customers or other users of the Company’s systems to disclose sensitive information in order to gain access to the Company’s data or that of its customers or clients. These risks may increase in the future as the Company continues to increase its mobile and other internet-based product offerings.
In addition, a majority of data processing is outsourced to certain third-party providers. If these third-party providers encounter difficulties, or if there is difficulty communicating with them, the ability to adequately process and account for transactions could be affected, and business operations could be adversely affected. Threats to information security also exist in the processing of customer information through various vendors and their personnel.
The occurrence of any system failures, interruption, or breach of security of the Company’s or its vendors’ systems could cause serious negative consequences for the Company, including significant disruption of the Company’s operations, misappropriation of confidential information of the Company or that of its customers, or damage to computers or systems of the Company and those of its customers and counterparties, and could result in violations of applicable privacy and other laws, financial loss to the Company or to its customers, loss of confidence in the Company’s security measures, customer dissatisfaction, significant litigation exposure, and harm to the Company’s reputation, all of which could have a material adverse effect on the Company.
The Company may incur impairments to goodwill. At December 31, 2016, the Bank had $145.1 million in goodwill which is evaluated for impairment, at least annually. Significant negative industry or economic trends, including declines in the market price the Company’s stock, reduced estimates of future cash flows or business disruptions could result in impairments to goodwill. The valuation methodology for assessing impairment requires management to make judgments and assumptions based on historical experience and to rely on projections of future operating performance. The Company operates in competitive environments and projections of future operating results and cash flows may vary significantly from actual results. If the analysis results in impairment to goodwill, an impairment charge to earnings would be recorded in the financial statements during the period in which such impairment is determined to exist. Any such charge could have an adverse effect on the results of operations.
The Bank is required to maintain a significant percentage of total assets in residential mortgage loans and investments secured by residential mortgage loans, which restricts the ability to diversify the loan portfolio. A Federal savings bank differs from a commercial bank in that it is required to maintain at least 65% of its total assets in “qualified thrift investments” which generally include loans and investments for the purchase, refinance, construction, improvement, or repair of residential real estate, as well as home equity loans, education loans and small business loans. To maintain the Federal savings bank charter the Bank has to be a “qualified thrift lender” or “QTL” in nine out of each 12 immediately preceding months. The QTL requirement limits the extent to which the Bank can grow the commercial loan portfolio. However, a loan that does not exceed $2 million (including a group of loans to one borrower) that is for commercial, corporate, business, or agricultural purposes is included in the qualified thrift investments. As of December 31, 2016, the Bank maintained 70.6% of its portfolio assets in qualified thrift investments. Because of the QTL requirement, the Bank may be limited in its ability to change its asset mix and increase the yield on earning assets by growing the commercial loan portfolio. Alternatively, the Bank may find it necessary to pursue different structures, including converting from a savings bank charter to a commercial bank charter.
The value of the Company’s deferred tax asset could be reduced if corporate tax rates in the U.S. are decreased. There have been recent discussions in Congress and by the executive branch regarding potentially decreasing the U.S. corporate tax rate. While the Company may benefit in some respects from any decreases in these corporate tax rates, any reduction in the U.S. corporate tax rate would result in a decrease to the value of the net deferred tax asset, which could negatively affect the Company’s financial condition and results of operations. 
Item 1B.
Unresolved Staff Comments
None
Item 2.
Properties
The Bank conducts its business through its administrative office, which includes a branch office, 60 additional branch offices and 2 deposit production facilities. The branch offices are located throughout Central and Southern New Jersey. The Bank also operates a wealth management office in Ocean County, and commercial loan production offices in the Philadelphia area and Mercer County, New Jersey.

27


Item 3.
Legal Proceedings
The Company and the Bank are not involved in any pending legal proceedings other than routine legal proceedings occurring in the ordinary course of business. Such other routine legal proceedings in the aggregate are believed by management to be immaterial to the Company’s financial condition or results of operations.

Item 4.
Mine Safety Disclosures
Not Applicable.

28



PART II
 
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities
Market Information for Common Stock
OceanFirst Financial Corp.’s common stock is traded on the Nasdaq Global Select Market under the symbol OCFC. The table below shows the reported high and low daily closing prices of the common stock during the periods indicated in 2016 and 2015.
2016
 
 
 
 
 
 
 
 
 
 
First
Quarter
 
Second
Quarter
 
Third
Quarter
 
Fourth
Quarter
High
 
$
19.95

 
$
19.48

 
$
19.95

 
$
30.07

Low
 
16.30

 
16.96

 
18.12

 
19.05

2015
 
 
 
 
 
 
 
 
 
 
First
Quarter
 
Second
Quarter
 
Third
Quarter
 
Fourth
Quarter
High
 
$
17.42

 
$
18.76

 
$
19.04

 
$
20.94

Low
 
16.11

 
16.75

 
16.59

 
17.22

As of December 31, 2016, the Company had approximately 4,100 stockholders, including the number of persons or entities holding stock in nominee or street name through various brokers and banks.
Stock Performance Graph
The following graph shows a comparison of total stockholder return on OceanFirst Financial Corp.‘s common stock, based on the market price of the Company’s common stock with the cumulative total return of companies in the Nasdaq Composite Index and the SNL Thrift Index for the period December 31, 2011 through December 31, 2016. The graph may not be indicative of possible future performance of the Company’s common stock. Cumulative return assumes the reinvestment of dividends and is expressed in dollars based on an initial investment of $100.
ocfc-123120_chartx30065.jpg
 
 
Period Ending
Index
 
12/31/11
 
12/31/12
 
12/31/13
 
12/31/14
 
12/31/15
 
12/31/16
OceanFirst Financial Corp.
 
100.00

 
108.90

 
139.85

 
144.11

 
173.49

 
267.66

Nasdaq Composite
 
100.00

 
117.45

 
164.57

 
188.84

 
201.98

 
219.89

SNL Thrift
 
100.00

 
121.63

 
156.09

 
167.88

 
188.78

 
231.23


29



For the years ended December 31, 2016 and 2015, the Company paid an annual cash dividend of $0.54 and $0.52 per share, respectively.
On July 24, 2014, the Company announced authorization by the Board of Directors to repurchase up to 5% of the Company’s outstanding common stock, or 867,923 shares. Information regarding the Company’s common stock repurchases for the three month period ended December 31, 2016 is as follows:
Period
 
Total
Number  of
Shares
Purchased
 
Average Price
Paid per Share
 
Total Number of
Shares Purchased as
Part of Publicly
Announced Plans or
Programs
 
Maximum Number
of Shares that May
Yet Be Purchased
Under the Plans or
Programs
October 1, 2016 through October 31, 2016
 

 
$

 

 
244,804

November 1, 2016 through November 30, 2016
 
90,000

 
20.86

 
90,000

 
154,804

December 1, 2016 through December 31, 2016
 

 

 

 
154,804


30



Item 6.
Selected Financial Data
The selected consolidated financial and other data of the Company set forth below is derived in part from, and should be read in conjunction with the Consolidated Financial Statements of the Company and Notes thereto presented elsewhere in this Annual Report.
 
 
At December 31,
 
 
2016
 
2015
 
2014
 
2013
 
2012
 
 
(dollars in thousands)
Selected Financial Condition Data:
 
 
 
 
 
 
 
 
 
 
Total assets
 
$
5,167,052

 
$
2,593,068

 
$
2,356,714

 
$
2,249,711

 
$
2,269,228

Securities available-for-sale, at estimated fair
value
 
12,224

 
29,902

 
19,804

 
43,836

 
547,450

Securities held-to-maturity, net
 
598,691

 
394,813

 
469,417

 
495,599

 

Federal Home Loan Bank of New York stock
 
19,313

 
19,978

 
19,170

 
14,518

 
17,061

Loans receivable, net
 
3,803,443

 
1,970,703

 
1,688,846

 
1,541,460

 
1,523,200

Deposits
 
4,187,750

 
1,916,678

 
1,720,135

 
1,746,763

 
1,719,671

Federal Home Loan Bank advances
 
250,498

 
324,385

 
305,238

 
175,000

 
225,000

Securities sold under agreements to
repurchase and other borrowings
 
126,494

 
98,372

 
95,312

 
95,804

 
88,291

Stockholders’ equity
 
572,038

 
238,446

 
218,259

 
214,350

 
219,792

 
 
 
 
 
 
 
 
 
 
 
 
 
For the Years Ended December 31,
 
 
2016
 
2015
 
2014
 
2013
 
2012
 
 
(dollars in thousands; except per share amounts)
Selected Operating Data:
 
 
 
 
 
 
 
 
 
 
Interest income
 
$
133,425

 
$
85,863

 
$
79,853

 
$
80,157

 
$
87,615

Interest expense
 
13,163

 
9,034

 
7,505

 
9,628

 
14,103

Net interest income
 
120,262

 
76,829

 
72,348

 
70,529

 
73,512

Provision for loan losses
 
2,623

 
1,275

 
2,630

 
2,800

 
7,900

Net interest income after provision for
loan losses
 
117,639

 
75,554

 
69,718

 
67,729

 
65,612

Other income
 
20,412

 
16,426

 
18,577

 
16,458

 
17,724

Operating expenses
 
86,182

 
58,897

 
57,764

 
54,400

 
52,389

Merger related expenses
 
16,534

 
1,878

 

 

 

Federal Home Loan Bank advance
prepayment fee
 
136

 

 

 
4,265

 

Branch consolidation expense
 

 

 

 
579

 

Income before provision for income taxes
 
35,199

 
31,205

 
30,531

 
24,943

 
30,947

Provision for income taxes
 
12,153

 
10,883

 
10,611

 
8,613

 
10,927

Net income
 
$